When we came across Yahoo Finance contributor Adam Hatter's story about his family's five-year triumph over their mortgage debt, we couldn't help but wince.
On the one hand, Hatter and his wife's success is something to marvel at. They borrowed $157,000 with a 30-year fixed-rate loan in 2008 and managed to pay it off 25 years early on a "quite average" dual income.
"The sooner it was paid for, the sooner we would be free from the shackles of debt," wrote Hatter, a government analyst who lives in Charleston, W. Va. "The sooner we would have the ability to use our money for more than just monthly bills."
They saved tens of thousands of dollars worth of interest in the process, but what is troubling is how far they went to do it.
In order to double up on their mortgage payments each month, Hatter and his wife put the brakes on their retirement savings, save for their 5% employer contribution. And when they realized how much they'd need to sacrifice to double up on mortgage payments each month, they also stopped contributing to 529 college savings plans for their two young children.
Every homeowner would love to be unshackled from mortgage debt, but there are few homeowners out there who are likely in good enough financial shape to go for it.
"People today are woefully under-saved for both emergencies and retirement," Greg McBride, mortgage expert for Bankrate.com, told Business Insider. "They need to be maximizing their financial responsibility by padding their emergency savings, utilizing tax favored retirement options and not pouring every spare nickle into their home, which is an illiquid asset."
There's no telling how much that money would have grown over half a decade in an IRA or 529 account, but one thing is for certain: there's no way to get it back now.
"That extra money applied to the mortgage is effectively gone until they sell the house and whether you're selling or staying there, it's not a free house once you get the loan paid off," McBride said. "You still have property taxes, maintenance and upkeep, not to mention you've really compromised your financial security in the meantime."
Hatter family aside, in what case would it be wise to pay off a mortgage early? Ideally, you'd first be able to meet these criteria:
- You are able to continuously max out your 401(k) or IRA contributions
- You have at least six to 12 months of emergency savings
- You have no other high-cost form of debt (student loans or credit debt, for example)
- You have contributed to your children's' future education costs
And if you don't? The smartest move the Hatters made was to refinance their mortgage as soon as they could, dropping their interest rate to a fixed 4.375%. That's one way to tackle huge interest paymets and cash in on today's low rates, which are slowly starting to creep back up.
Personal finance expert Richard Barrington supports the early mortgage pay-off approach, if homeowners have examined every option and decided they're fiscally fit enough to go for it.
Here are the simple questions he recommends asking before taking extreme measures to pay down your mortgage:
Are there prepayment penalties? Actually, it’s best to ask this question before you sign up for a mortgage. If you can minimize prepayment penalties, it will give you more options down the road.
Is your income solid? This is essential for making sure you don’t run into a liquidity problem by putting too much into your mortgage too soon.
Have interest rates fallen or risen? If interest rates have risen (and assuming you have a fixed-rate mortgage), you might do better by investing at higher rates while continuing to pay a low rate on your mortgage. If rates have fallen, you face a choice of paying down the mortgage early or refinancing, which leads me to my final suggestion.
At the end of the day, each case is different, and every family should strategize carefully for paying off any debt as large as a home loan.
"Look, it's not like [the Hatters] took out all that equity and went and spent the money ... but it's certainly not their optimal move," McBride said.
"It may be 10, 20, 30 years for them to realize that, when their kids go to college and they haven't accumulated enough savings and they have to borrow student loans. And yeah, they don't have a mortgage, but they sure won't have as much saved in retirement as they would have liked."
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