Epicman
08-08-2005, 06:47 PM
NEW YORK (CNN/Money) - My wife and I are both 28 and contribute enough to our 401(k)s to get the full company match. We are putting most of our extra money towards paying down our mortgage. Is that a good use of our money or should we be investing more for retirement?
-- Ron Bledsoe, Union City, Calif.
There's no official correct answer, but I think you would be better off focusing more on retirement than on paying off your mortgage ahead of time. Here's my thinking:
There are two reasons to consider paying down your mortgage.
The first is purely psychological: you simply like the idea of not a monthly payment hanging over your head.
The second is that you think you can earn a better return by paying off the mortgage than you can elsewhere, the return in this case being the mortgage interest cost you avoid by repaying the loan before it's due.
The first argument is reasonable for people nearing or already in retirement. Their incomes may be fixed or growing only slightly, so the idea of getting rid of a major expense has great emotional appeal.
Assuming you and your wife have decent jobs, your incomes will probably grow faster than inflation as you age. As a result, your mortgage payment will likely shrink as a percentage of your income, becoming less of a burden even if you don't prepay.
Compare returns
But what about the second reason -- prepaying your mortgage as an investment? Well, the return you earn will depend on the rate on your loan. You didn't mention what that rate is, but let's say it's 6 percent.
So the question really is, Can you earn more than 6 percent on your money by investing it somewhere other than your mortgage?
That depends on how you invest the money. Given a mix of, say, 80 percent stocks and 20 percent bonds -- hardly too racy for someone not even 30 yet -- I think you should have a very good shot at earning 6 percent or better over the long term.
Of course, the investing return isn't guaranteed. If you're prepaying a fixed-rate mortgage, on the other hand, you are locking in a return. But if you're investing this money for a very long period of time, I think it's a good bet that the returns to a mostly stock portfolio will beat the returns of a debt instrument such as a mortgage.
So at this point in your life, I think it makes more sense for you to get a good head start on building your retirement nest egg, and the best way to do that is for both of you to max out on your 401(k)s, and then funnel any extra cash into other tax-advantaged accounts such as a deductible or Roth IRA (to see whether you're eligible, click here or even into mutual funds or other investments in taxable accounts.
Besides, if you haven't paid off your mortgage by the time you're ready to call it a career, you can always consider paying it off at retirement by tapping into that nice big nest egg you've built.
Plus, the majority of Americans will refinance or move within 3 to 5 years so you are better off investing it than paying down your mortgage.
-- Ron Bledsoe, Union City, Calif.
There's no official correct answer, but I think you would be better off focusing more on retirement than on paying off your mortgage ahead of time. Here's my thinking:
There are two reasons to consider paying down your mortgage.
The first is purely psychological: you simply like the idea of not a monthly payment hanging over your head.
The second is that you think you can earn a better return by paying off the mortgage than you can elsewhere, the return in this case being the mortgage interest cost you avoid by repaying the loan before it's due.
The first argument is reasonable for people nearing or already in retirement. Their incomes may be fixed or growing only slightly, so the idea of getting rid of a major expense has great emotional appeal.
Assuming you and your wife have decent jobs, your incomes will probably grow faster than inflation as you age. As a result, your mortgage payment will likely shrink as a percentage of your income, becoming less of a burden even if you don't prepay.
Compare returns
But what about the second reason -- prepaying your mortgage as an investment? Well, the return you earn will depend on the rate on your loan. You didn't mention what that rate is, but let's say it's 6 percent.
So the question really is, Can you earn more than 6 percent on your money by investing it somewhere other than your mortgage?
That depends on how you invest the money. Given a mix of, say, 80 percent stocks and 20 percent bonds -- hardly too racy for someone not even 30 yet -- I think you should have a very good shot at earning 6 percent or better over the long term.
Of course, the investing return isn't guaranteed. If you're prepaying a fixed-rate mortgage, on the other hand, you are locking in a return. But if you're investing this money for a very long period of time, I think it's a good bet that the returns to a mostly stock portfolio will beat the returns of a debt instrument such as a mortgage.
So at this point in your life, I think it makes more sense for you to get a good head start on building your retirement nest egg, and the best way to do that is for both of you to max out on your 401(k)s, and then funnel any extra cash into other tax-advantaged accounts such as a deductible or Roth IRA (to see whether you're eligible, click here or even into mutual funds or other investments in taxable accounts.
Besides, if you haven't paid off your mortgage by the time you're ready to call it a career, you can always consider paying it off at retirement by tapping into that nice big nest egg you've built.
Plus, the majority of Americans will refinance or move within 3 to 5 years so you are better off investing it than paying down your mortgage.