Paying off fixed-rate mortgage early? In this economy?
June 24, 2022 11:40 PM Subscribe
The same inflation and low interest rates that are telling me paying of a low-rate fixed-rate mortgage early is dumb are also telling me that leaving money sitting in a savings account is dumb. But what else to do with money we may want when we sell our house, which may be in a couple of years?
We are considering using a windfall to pay off our 3.75% mortgage early (<50k). Normally, we would invest it, but we are thinking about moving in a few years (maybe at the same time as retiring), and this money, along with the existing equity in our home, would be put toward the down payment of our next home in order to lower monthly expenses in retirement. It seems like the timeline may be too short for investing, and 3.75% is more than we are getting with it sitting in a savings account. We would still have healthy emergency funds and max out our 401k and IRAs. We would invest what we're saving each month by not having a mortgage payment. We don't pay enough in interest at this point to make the mortgage interest deduction a factor. We already bought 10k in Ibonds each this year and 10k to give each other as gifts to deliver later. Any other risk-free short-term (< 2 years) options returning more than 3.75%? Won't someone with a crystal ball tell me if the market will recover in two years or if savings account interest rates will get above 4% (remember those days?)
We are considering using a windfall to pay off our 3.75% mortgage early (<50k). Normally, we would invest it, but we are thinking about moving in a few years (maybe at the same time as retiring), and this money, along with the existing equity in our home, would be put toward the down payment of our next home in order to lower monthly expenses in retirement. It seems like the timeline may be too short for investing, and 3.75% is more than we are getting with it sitting in a savings account. We would still have healthy emergency funds and max out our 401k and IRAs. We would invest what we're saving each month by not having a mortgage payment. We don't pay enough in interest at this point to make the mortgage interest deduction a factor. We already bought 10k in Ibonds each this year and 10k to give each other as gifts to deliver later. Any other risk-free short-term (< 2 years) options returning more than 3.75%? Won't someone with a crystal ball tell me if the market will recover in two years or if savings account interest rates will get above 4% (remember those days?)
A few things:
- when you move, will it be useful to have that $50K in more-liquid investments than your house? like, what other assets do you have available and what percentage of the down payment on your next place would $50K represent? Could having that extra $50k in the bank be the difference between a strong offer on your dream home and a marginal one? Could it be the difference between needing to take the first decent offer on your current home vs. holding out for something better?
- how many years is "a few"? if it's, like, five years or even a three or four, I-bonds might be a good bet for part of the windfall - they are currently paying 9%+ interest (problems with I-bonds: you can only buy $10K per person per year, they can't be redeemed in the first year, and you forfeit some of the interest if you redeem in the first five years).
- would it be at all psychologically satisfying to put half the windfall towards the mortgage and to keep the other half in more liquid investments/savings, or does it have to be the
Basically 3.75% guaranteed return is nice, but liquidity is nice too.
posted by mskyle at 4:19 AM on June 25, 2022 [4 favorites]
- when you move, will it be useful to have that $50K in more-liquid investments than your house? like, what other assets do you have available and what percentage of the down payment on your next place would $50K represent? Could having that extra $50k in the bank be the difference between a strong offer on your dream home and a marginal one? Could it be the difference between needing to take the first decent offer on your current home vs. holding out for something better?
- how many years is "a few"? if it's, like, five years or even a three or four, I-bonds might be a good bet for part of the windfall - they are currently paying 9%+ interest (problems with I-bonds: you can only buy $10K per person per year, they can't be redeemed in the first year, and you forfeit some of the interest if you redeem in the first five years).
- would it be at all psychologically satisfying to put half the windfall towards the mortgage and to keep the other half in more liquid investments/savings, or does it have to be the
Basically 3.75% guaranteed return is nice, but liquidity is nice too.
posted by mskyle at 4:19 AM on June 25, 2022 [4 favorites]
I have no crystal ball, but the interest rate on savings accounts in the U.S. is well below the current rate of inflation. The situation remains that savings accounts are a net loss, as the buying power of a dollar will decrease—and as you may have seen in the news, more quickly now than at any other time in decades.
As to “risk-free,” there is no such thing, of course. As to better than 3.75, it doesn’t look like CDs or money market accounts will do you that… but they might be a step up from your savings account, depending on the terms, penalties for early cash-out, etc.
I agree with the other answerers about the possible value of security (payoff) or cash in hand (down payment) being worth thinking on long and hard. Especially in the current housing market.
posted by cupcakeninja at 5:04 AM on June 25, 2022
As to “risk-free,” there is no such thing, of course. As to better than 3.75, it doesn’t look like CDs or money market accounts will do you that… but they might be a step up from your savings account, depending on the terms, penalties for early cash-out, etc.
I agree with the other answerers about the possible value of security (payoff) or cash in hand (down payment) being worth thinking on long and hard. Especially in the current housing market.
posted by cupcakeninja at 5:04 AM on June 25, 2022
I agree with mskyle that if your question is really about only a few years (not a long time in investment), and in particular the next few years (recession is coming, your own changes on the horizon), liquidity is far more important than whatever interest you could hope to safely earn or avert in those few years.
posted by Dashy at 7:24 AM on June 25, 2022
posted by Dashy at 7:24 AM on June 25, 2022
First, while paying the remaining mortgage gives a guaranteed 3.75% return, it also exposes that money to the risks of the housing market. In recent years those values have soared, but obviously things are shifting now as interest rates rise. So you are taking the risk that in the next three years your house value either declines, or goes up at less than the rate of inflation, effectively shrinking the money you just used to pay it off.
Personally, I'd only use that money to pay off the loan if you already have enough liquid funds (ie accessible, available, not dependent on the stock or housing markets going up) for the upfront costs of moving, buying, selling, and so on. You don't want everything tied up in your house in case it is slow to sell and you end up in the position of buying the new place and paying movers while still in the middle of the sale of the old place, for example.
posted by Dip Flash at 7:38 AM on June 25, 2022 [2 favorites]
Personally, I'd only use that money to pay off the loan if you already have enough liquid funds (ie accessible, available, not dependent on the stock or housing markets going up) for the upfront costs of moving, buying, selling, and so on. You don't want everything tied up in your house in case it is slow to sell and you end up in the position of buying the new place and paying movers while still in the middle of the sale of the old place, for example.
posted by Dip Flash at 7:38 AM on June 25, 2022 [2 favorites]
A two-year US govetnment bond is yielding 3.06%.
I would buy a short term US bond. You are losing 0.70% vis a vis paying off the mortgage, but that seems like a good price to pay for liquidity and to NOT expose yourself further to the RE market.
It is also not binary. Could pay off say $25,000 of the mortgage and invest $25,000 in US Treasuries.
posted by JohnnyGunn at 7:51 AM on June 25, 2022 [2 favorites]
I would buy a short term US bond. You are losing 0.70% vis a vis paying off the mortgage, but that seems like a good price to pay for liquidity and to NOT expose yourself further to the RE market.
It is also not binary. Could pay off say $25,000 of the mortgage and invest $25,000 in US Treasuries.
posted by JohnnyGunn at 7:51 AM on June 25, 2022 [2 favorites]
If you are near the end of your mortgage, while you have a theoretical yield of 3.75%, you are actually at the end of the amortization scale and most of your payment will be principal anyway. There's little economic advantage to running to the end.
posted by scolbath at 7:56 AM on June 25, 2022 [3 favorites]
posted by scolbath at 7:56 AM on June 25, 2022 [3 favorites]
Inflation reduces your buying power for goods and services, it doesn’t reduce your buying power wrt repaying an existing fixed rate mortgage. $100 will always repay $100 of your USD mortgage be it today or in two years, irrespective of how far it would go buying groceries or fuel or to eat out. The fixed rate protects you from the effects of inflation here because your lender would increase your rates if they were variable and your monthly payments would have to increase as a result.
It sounds as if the amount you owe is fairly low if tax effects of interest deductions have become negligible. So any which way you run the numbers the ‘money saved/yield earned’ between the two options is probably also quite negligible. So it comes down to what makes you feel better - liquidity and more options when you really start to think about moving in earnest or being mortgage free now.
posted by koahiatamadl at 9:55 AM on June 25, 2022
It sounds as if the amount you owe is fairly low if tax effects of interest deductions have become negligible. So any which way you run the numbers the ‘money saved/yield earned’ between the two options is probably also quite negligible. So it comes down to what makes you feel better - liquidity and more options when you really start to think about moving in earnest or being mortgage free now.
posted by koahiatamadl at 9:55 AM on June 25, 2022
Forgot to say - as long as the value of your house doesn’t fall below what you paid for it I’d be less concerned about exposure to the housing market - yes your house may sell for less in two years than now but so will the house you’ll buy.
posted by koahiatamadl at 10:00 AM on June 25, 2022
posted by koahiatamadl at 10:00 AM on June 25, 2022
I vote $20k *more* in gift iBonds (for 2024), $20k to the mortgage, $5k to liquid, and $5k to vacation/gift giving/music lessons/mutual aid.
posted by mahorn at 11:49 AM on June 25, 2022 [1 favorite]
posted by mahorn at 11:49 AM on June 25, 2022 [1 favorite]
If you don't have a good investment idea and have sufficient cash reserves, go ahead and pay off the mortgage but establish a line of credit at the same time so you can borrow that money back if you need it.
posted by MattD at 2:38 PM on June 25, 2022 [2 favorites]
posted by MattD at 2:38 PM on June 25, 2022 [2 favorites]
Seconding MattD, that's what we did. Just make sure you're not paying a yearly fee for the Bank to keep the "line of credit" open.
posted by forthright at 4:40 PM on June 25, 2022
posted by forthright at 4:40 PM on June 25, 2022
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