Should You Pay Down Your Mortgage or Invest?

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People frequently ask me should I pay down my mortgage or invest the money instead? When you look at this question as purely a decision about the amount of money you can build in a long-term portfolio, the answer is easy . Based on current mortgage interest rates of 6% to 6.5% for a 30-year loan (as long as you have a good credit rating), investing the money in a stock growth portfolio that will net you about 8.25% after taxes (I'm assuming an 11% annual return and a 25% tax bracket) is the best bet.

Here's how you can compare apples to apples. Suppose you can get a 30-year, $200,000 mortgage loan at 6.25% and a 15-year, $200,000 mortgage loan at 6%. You'll usually find a lower interest rate on shorter-term mortgages. For the 30-year mortgage you'll pay $1,231.43 per month for principal and interest. During the 30-year period you will pay a total of $243,316.38 in interest. For the 15-year mortgage, you'll pay $1,687.71 in principal and interest. During the 15-year period you'll pay $103,788.46 in interest. Yes that's a huge interest savings of $139,527.92. But, there's an opportunity cost for saving that interest.

Suppose instead of choosing the 15-year mortgage, you choose the 30-year mortgage and save the payment difference in a stock growth portfolio that will net you about 8.25% after taxes. The payment for the 30 mortgage is $456.28 less than the payment for the 15-year mortgage. Investing $456.28 per month for 30 years into your stock portfolio would grow to $698,552.72. So as long as you can be disciplined enough to actually make that investment and manage it appropriately, it makes more sense to choose the 30-year mortgage.

You can choose to payoff the 15-year mortgage and then put the entire payment in a investment account. But, even if you do that and then invest the full $1,687.71 payment for 15 years in an 8.25% investment after taxes, your portfolio would be almost $100,000 less - $603,120.78.

But, if you are closer to retirement and want to enter retirement without mortgage debt, then paying down the mortgage rather than investing makes more sense. Since retirement income is usually a fixed amount, while living costs continue to increase, such as health care, fuel, etc., often it's best to enter retirement without any significant debt.

Lita Epstein has written more than 20 books including the "Complete Idiot's Guide to Improving Your Credit Score."

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