invest or prepay?

Invest or prepay your mortgage?  If you have a little extra money, would it be better to invest that money or make extra payments on your mortgage?  It is an age-old question, one that has been asked by people for hundreds, if not thousands, of years.  But in all that time nobody has been able to come up with the answer.  The reason this is such a difficult question is because the answer depends on so much more than math.

If we considered only the math, we would be tempted to invest all our money and hold onto the mortgage as long as possible.  If you have a mortgage at 6%, you would effectively earn 6% if you made extra payments.  But consider that the stock market has returned an average of 10% per year for the past seventy years.  Clearly, making 10% is better than making 6%.

But maybe it’s not so clear.  Do you know how much the stock market will return this year?  Will it be 10%?  Probably not.  It could be anywhere from -20% to 20%, which is an awful big swing.  Your mortgage, on the other hand, is guaranteed to return 6%, if that’s your rate.  Which one causes you to sleep better?  You also need to consider your gut.  Which would make you feel better: owning a big pile of money, or NOT owning a big pile of debt?

If you are like me, having a big pile of money may be too much temptation to bear.  If you have a big pile of money, and you spend it, your return wasn’t so great after all.  But a mortgage locks up any extra money you send in.  The only way to get that money back out is with a messy and expensive second mortgage.  And the only people with second mortgages are those who have forgotten how painful the first one was!

In the end, it’s a deeply personal decision.  Your situation is very different from your neighbor’s, and your decision needs to be tailored for your situation.  But if you consider the math and your gut, and be disciplined with whatever decision you make, it will be hard to go wrong in the end.

This column originally appeared in the February 6, 2008, edition of the Greenhorn Valley View.

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2 Responses to invest or prepay?

  1. Kip says:

    GET OUT OF DEBT! Pay the Mortgage in 10-15 years, then you can do whatever you want with your money, and you own the house. Just imagine what you could do with all that money that is going out to pay debt every month. Pay off the credit cards first and cut them up, pay off the cars (or sell them and buy cars without going into debt), then PAY OFF THE HOUSE. Dave Ramsey told me so.

  2. The Other Rob says:

    I believe paying down your mortgage at an accelerated rate or refinancing at a lower 15 year rate is always wise, therefore saving tens of thousands…maybe even hundreds of thousands of dollars over the life of the loan, but one must realize that investements that look the same on paper may not be alike in the real world.

    Another questions you need to ask is, “is the home my place of residence or is it a investment property”. If it is your own home it is a liability (it cost you money every month) whereas, if it is a property investement it is an asset. The property is an asset in two ways, first, it is an income property, and second, it is appreciating…on borrowed money. Let’s say you put 10% down on an investment property that cost $200,000.00 which means you will need 20 grand plus closing cost of 5-7 thousand…by the way no closing cost deals out there are always too good to be true…believe me I’m a broker! If the property is appreciating at a conservative 6% then not only is your downpayment going up in value but the 180,000.00 that is borrowed is also going up in value. The best part, when you sell the home you get to keep the difference of the appreciated value…not a bad deal considering the fact that you are making money on money that is from a lender…even if you are paying interest on that money.

    Which brings me to an interesting question, could you do better investing your money into an investment property over just feeling emotionally good about having no mortgage?

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