Broker Check

Should You Pay Off Your Home Mortgage?

January 14, 2020

One of the most frequent questions from clients and friends, alike, is whether it makes sense to pay off a mortgage early, prior to retirement. As desirable as this might sound, it is worth considering carefully, especially here in Napa Valley where housing prices can be up to five times that of the rest of the U.S..

The reason advisors recommend paying off a mortgage prior to retirement is pretty simple; it stops the monthly outflow of dollars that could otherwise be used for living expenses or leisure activities, like travel. Paying off a mortgage is also good for one’s psychological wellbeing. There is security and peace of mind knowing that the “bank” won’t foreclose due to lack of payment.

In the past, some have avoided paying off their mortgage due to very low interest rates and the tax benefits available from deducting mortgage interest on the tax return. Afterall, if you have a 3% interest rate and are deducting mortgage interest, the net aftertax “cost” of that borrowed money may be a low as 1.6% (for someone in a 40% marginal tax bracket). All things being equal, it is a pretty easy bogey to beat when deciding whether to invest money for the long term in a balanced portfolio or put this money toward the mortgage and save 1.6% aftertax interest. Most times the balanced portfolio will handily beat that mark by a wide margin.

However, times have changed and tax reform implemented in 2017 has now changed the calculus on whether to itemize or just take the standard deduction. It is estimated that those itemizing will drop almost 60%% from previous years because the standard deduction has almost doubled, making the standard deduction more valuable than itemizing. This is even more likely the case in California, a high-tax, high-property value state where the cap on state and local tax deductions of $10,000 will limit what most people can deduct. Without itemizing, the mortgage interest deduction is lost, eliminating the tax advantage of maintaining a mortgage.

It’s also important to remember that paying down a mortgage to exclusion of all other considerations may be very unwise. We’ve all heard the expression “house rich and cash poor”. In retirement, as in earlier phases of life, there is an important need for liquidity- cash that you can access readily and without penalty or administrative hassle. If all of your money is tied up in real estate and you suddenly have a dental emergency that will cost $3000 and then you get hit by an uninsured motorist on the way to the dentist where are you going to get the money you suddenly need? Unless you have an emergency fund and adequate liquid investments, you may be forced to make some very painful decisions!

How much liquidity you need and how much is wise to put toward the mortgage will depend on your own unique situation; i.e. goals and objectives, time horizon, need for portfolio growth, insurance, tax considerations- even your health! Speaking with your financial advisor about this strategy prior to putting more money into your home could be one of the smartest decisions you ever make!

Rich Jacobson is a Registered Principal Offering Securities and Investment Services through United Planners Financial Services, Member: FINRA, SIPC. JWM and United Planners are independent companies.