Instinctively it would make sense to pay off your mortgage as quickly as you can, to reduce your debt and to build up more equity in your home in case you wanted to borrow against it.
But this isn’t always the case.
When does paying your mortgage aggressively make sense?
Canwise Financial President James Laird identified three kinds of people for whom an aggressive payment plan would be prudent.
- The first are people who have mortgages with a high interest rate, since any additional payments (also known as prepayments) go towards reducing the principal.
- The second kind are people with access to a Home Equity Line of Credit which can be used as their emergency fund. In that case, the money you’d otherwise put away for unexpected purchases might as well go towards your mortgage.
- The third group are people uncomfortable with other investment vehicles like stocks and bonds. The big positive to paying a mortgage down aggressively is that it entails zero risk. And it’s better than letting the money sit under the mattress.
When does paying your mortgage aggressively not make sense?
“If you have a super low rate, don’t rush to pay it back,” Laird recommends. “It’s cheap money. Take advantage of it.”
Another instance where paying a mortgage down aggressively would be unwise is when the property in question is a rental property or houses a home-based business. A portion of the interest is tax deductible. In these cases, aggressive payback could have very negative tax effects.
A third argument against an aggressive mortgage payback plan is if you can find another investment that gives you a better return.
How could you pay your mortgage more aggressively?
If you’re a salaried employee and just got a significant pay raise, you could choose to increase your regular payments and direct that extra money towards the principal.
If your extra money comes to you as a year-end bonus or an owner’s dividend, you could choose to make a yearly lump-sum payment towards the principal.
Note that many full-featured mortgages come with flexible prepayment options that allow the borrower to increase their monthly payments and allow for annual lump sum payments of up to 25% (though typically between 10-20%).
Laird suggests that a consultation with a mortgage broker (that’s me!) and your financial planner should happen before putting an aggressive mortgage payback plan in place.
“You’ll get the right perspective on your goals and how putting more towards your mortgage will impact those goals,” says Laird.
When you’re contemplating having less money in your pocket at the end of the month or year, the right perspective is a good thing.