Being mortgage free is a significant financial milestone for many homeowners. While some people prefer to make their monthly mortgage payments and direct their extra money toward investments, others dream of paying off their mortgage early and living in their home mortgage free.
That said, deciding to pay off your mortgage early isn’t straightforward. You’ll need to consider factors like interest rates, risk tolerance, financial goals, and personal circumstances.
If you’ve been considering becoming home loan free early, you’ve come to the right place. Learn how to determine whether you should pay off your mortgage, how you can do it, and what happens when you pay off your mortgage.
Why Should You Pay Off Your Mortgage Early?
You might consider paying off your mortgage early for several reasons. For example, doing so ahead of schedule eliminates your monthly mortgage payment, frees up extra funds in your budget that you can use for daily spending, or even allows you to work less and enter semi-retirement.
Second, paying off your mortgage ahead of schedule will reduce the overall interest you’ll pay over the life of your loan. Finally, paying down your home loan early provides a predictable rate of return. If the idea of putting your money into investments instead makes you nervous, sending your money toward your home loan instead is a good alternative.
Finally, nothing can beat the peace of mind that comes with knowing that you own your home outright and are no longer subject to mortgage rate fluctuations.
How to Pay Off Your Mortgage Early
Suppose you’re considering becoming home loan free early. In that case, you might be eyeing your balance and wondering how to reduce that balance and eventually pay your mortgage off completely. There are three primary methods that you can use to pay off your mortgage:
1. Increasing Your Monthly Payments
If you want to become mortgage free early but don’t have the cash to do so in one lump sum, you can take an incremental approach by increasing your monthly payments. There are two primary ways you can do this. First, you can talk to your lender about using your prepayment privileges.
Most mortgage products allow the borrower to add a certain percentage to their monthly mortgage payment, usually between 10% and 20%. Your lender can adjust your mortgage payment to withdraw your typical monthly payment plus the extra payment. This additional payment will go directly toward the principal balance of your loan and which will lower the total amount of time it takes to become mortgage debt free.
2. Extra Principal Payments
Perhaps you don’t have room in your budget to make extra payments every month, but instead, you have a sum of money you can devote to your mortgage all at once. In this case, you’ll want to take advantage of your mortgage’s lump sum prepayment option. Making a lump sum payment can be especially helpful if you are underwater on your mortgage.
Similar to your monthly prepayment privilege, your lump sum prepayment privilege allows you to make an extra payment on your mortgage once per year. Your lender will usually limit the prepayment amount to 10% and 20% of your outstanding balance.
3. Discharging During Sale
Finally, if you sell your home, you must pay off your mortgage before the sale can proceed. You’ll usually do this with the sale proceeds, and then your lender will “discharge” your mortgage and pay it off completely. Any money left over after paying off your home loan will be yours to keep. This can be a great option if you’re nearing retirement and looking to downsize.
Pros and Cons of Paying Your Mortgage Early
Paying off your mortgage has many benefits, but it also comes with some drawbacks. Here are the pros and cons:
Pros
- Incur less interest – the sooner you become home loan free, the less interest you’ll pay
- No monthly mortgage payments – frees up money in your budget for other goals
- Eliminates uncertainty – you won’t have to worry about renewing your mortgage at a higher rate
- Increases your home equity – gives the flexibility of accessing home equity to use for home renovations or purchasing a second property
- Peace of mind – owning your home outright provides a unique peace of mind
Cons
- Opportunity cost – the money you spend on eliminating your home loan may earn more interest elsewhere, for example, invested
- Term breaking penalties – if you break your loan term early, you’ll have to cover a penalty, which in some cases can be thousands of dollars
Penalties for Paying Off Your Mortgage Early
If you’re serious about paying off your home early, you might wonder: is there a prepayment penalty for paying off your mortgage early? A prepayment penalty is a fee that your lender may charge if you break your mortgage term before it is up. These penalties can be substantial, sometimes in the thousands of dollars. So it might be worth waiting until your mortgage term is almost over to make your final payment.
Should You Pay off Your Mortgage or Invest?
Speaking strictly from a mathematical perspective, you’ll usually have a better rate of return if you invest your money rather than pay off your home loan. That said, whether to pay off your mortgage or invest is more than just a math question. Becoming free of this debt has unique emotional benefits, and if those appeal to you, paying off your mortgage, especially if your interest rate is higher than 5%, might be a good strategy.
That said, if you don’t want to become mortgage-free and are content making your monthly mortgage payments, investing your money will have the greatest positive impact on your finances.
Alternatives to Paying Off Your Mortgage Early
If paying off your home isn’t in the cards for you, but you want to progress on paying your mortgage down, you have options. A great approach is to choose an accelerated biweekly payment schedule. An accelerated biweekly mortgage payment is when your monthly payment is divided by two, and the amount is withdrawn from your bank account every two weeks. This results in 26 payments per year. You are making an additional payment every year. This strategy will reduce both the amortization payment and the total interest you’ll pay over the life of your loan.
If the current interest rate is significantly lower than when you first bought your home, you may want to consider refinancing your mortgage. This can shave years off your debt repayments and save you money in interest repayments in the long run.
FAQs
Is it a good idea to pay off your mortgage early?
Paying off your mortgage has many pros and cons, and only you can decide if it’s the right move for you. Paying off your mortgage can provide peace of mind and flexibility but can also cause you to incur penalties, and your money might be better spent on investments.
What are the disadvantages of paying off your mortgage early?
Paying off your mortgage early, especially if you recently renewed your mortgage term, can cause you to incur mortgage breakage fees, which could amount to thousands of dollars. Paying off your mortgage early also comes with an opportunity cost because that money might have been better off invested.
What happens when you pay off your mortgage?
When you are ready to pay off your mortgage (also known as discharging your mortgage), you’ll need to contact your lender and make arrangements. Some fees may be associated with discharging your mortgage, and you may need to hire a real estate lawyer to make the appropriate changes with the land registry or title office. Hence, the lender is no longer listed on the title of your home.
