June 12th, 2013
**Today’s guest post is contributed by Catey.**
For many years, homeowners have likely heard the same financial advice: Pay down a mortgage as quickly as possible. But these days, many financial advisers are singing a different tune, telling clients that in some cases it makes sense not to pay off their mortgages early. After all, mortgage rates are hovering near historic lows at around 3.8 percent, and homeowners can get a tax deduction for having a mortgage.
Here are six reasons savvy homeowners choose not to pay off their mortgages early.
1. They Have Higher-Interest Debts
Homeowners who have credit card or other high-interest debt often should prioritize paying off that debt before paying off a lower-interest mortgage. So, if a homeowner has a mortgage with a 4 percent interest rate and a credit card and/or a loan with an interest rate that’s more than 4 percent (most credit cards have rates of at least 11 percent), the homeowner should pay down the credit card or loan as quickly as possible and pay just the minimum on the mortgage each month – at least until that higher-interest debt is paid off.
2. They Don’t Have an Emergency Fund
Most financial advisers recommend that people have an emergency fund — at least six months’ worth of living expenses in the bank — so that if something happens such as a job loss or accident, they won’t have to put that expense on a high-interest credit card or take out a loan. If homeowners don’t have any “emergency” savings, it may make financial sense to pay just the monthly minimum on their mortgages until they’ve built up a sufficient emergency fund.
3. They Are Not Taking Advantage of an Employer’s 401(k) Match
If an employer matches a homeowner’s 401(k) contributions — employers who offer a match tend to put in 50 percent of every dollar an employee puts in up to about 6 percent — the employee should contribute at least up to what the employer matches before racing to pay down a mortgage. Because the 401(k) match is literally free money, it makes better financial sense to take advantage of the unbeatable opportunity. An added bonus is that a 401(k) offers a tax advantage. Employees put in the money tax-free, and though they must pay taxes on it when it’s withdrawn, they are likely to be in a lower tax bracket in retirement than they are now.
4. They Think They Can Get Better Returns Elsewhere
Homeowners who pay more on their mortgages than the minimum owed are using cash they could be using for other purposes, such as buying other investments that might offer better returns.
5. They Seek Diversification
Financial advisers often stress the importance of diversification. Investors should have their money in a variety of different investments such as stocks, bonds and real estate so that if any one type of investment drops in value, at least the investor has other investments to rely on. In other words, people shouldn’t put all their (investment) eggs in one basket. When it comes to their mortgages, many homeowners only pay the minimum so that they will have the money to invest in other areas as well.
6. They Want Liquidity
Homeowners who pay off their mortgages as quickly as possible can tie up large chunks of their money in their homes. Because real estate is not a very liquid investment (it typically takes a lot of time to sell a home and get out the cash put into it), this move can tie up homeowners’ cash for months. Thus, homeowners who seek more liquidity may want to put that extra cash elsewhere.
To be sure, there are myriad reasons to pay down a mortgage early. If homeowners have plenty of savings and investments and no other debts, there’s little reason to pay mortgage interest for longer than needed. Plus, having a home paid off gives many people significant peace of mind. Thus, homeowners considering whether to pay down a mortgage early should talk to their financial advisers.
Catey Hill is a writer and editor whose work has appeared in/on The Wall Street Journal, SmartMoney, Worth, Seventeen, Forbes.com, MarketWatch.com, the New York Daily News, and dozens of other publications and websites. She is also the author of “Shoo, Jimmy Choo! The Modern Girl’s Guide to Spending Less and Saving More” (Sterling, 2010). You can read more at CateyHill.com.
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