Thursday, August 23, 2012

Paying Off Mortgage vs Investing

savings and mortgageDecisions, decisions
Photo by 401(K) 2012
Have you ever wondered whether it would be better to pay off your mortgage early or invest in the stock market? Well, this is the type of burning question that keeps me up at night.

Personally, I have always been a fan of the stock market so investing my extra money seemed like the obvious thing to do. However, the more personal finance blogs and forums I read, the more I see people paying off their mortgage first. So now I'm questioning myself. Should I really be investing in the stock market? Should I switch to paying off my mortgage? Is male pattern baldness setting in? Hm...maybe a little too much sharing there.

How do I decide whether I should put my extra money in the stock market instead of paying more on my mortgage? Well, it's pretty simple. Just look at which of the two is more likely to give a higher after tax rate of return on my money.

Right now, my mortgage is at 5%. After taking the tax deduction, that ends up being 3.42%. Investing gets a little bit more complicated. Historically, the stock market has averaged a little under 10%. However, you have the whole past returns are not a guarantee of future returns business. So instead of that overall average, I'll use 8.5% which is the worst 30-year period in the S&P 500's history. After taxes, that 8.5% return becomes 5.82%. So even with a 5% mortgage and using the worst 30-year period for investing, I should be gaining 2.4% per year by investing instead of paying off my mortgage. If I refinance to a lower rate and/or the stock market does better than the worst, I should be gaining even more.

That's all the convincing I really need, but I'm comfortable with the risks of the stock market. Does that mean it's the best thing to do? Not really.

Maybe you're not comfortable with the risks of the stock market and would rather have the guaranteed returns lower mortgage interest. Or maybe you having a goal of eliminating your mortgage, and being able to watch as you slowly chip away at it is a better motivator than watching the stock market go up and down. Or maybe you just like the idea of owning your own home (even though you still need to pay rent in property taxes).

Then maybe you're better off paying down the mortgage and leaving investing for down the road. As long as you're not spending all that extra money, you have my blessing. If you are spending it, have you really been paying attention to what we're trying to do here? No blessing for you.

Have you made a decision between paying off your mortgage and investing? What was the deciding factor for you?


  1. Investing makes more sense, but for me the risk would be too much. I would invest a little bit, but largely try to pay off my mortgage. It is less risky and the feeling of being debt free would be better for me than having investments.

    1. Good point, we could do a combo platter, some investing and some additional mortgage payments.