Pay Off Mortgage or Invest: What Does the Math Say?

How nice it would be to finally own your home outright and never see another mortgage statement! While being mortgage-free sounds like music to your ears, what may strike an even stronger chord is that those funds could work harder for you through smart investing.

Even so, everyone’s situation is different. So deciding whether to pay off your mortgage or invest available funds isn’t always clear-cut. Here’s what to consider to help you make the right choice for you.

Paying Off Your Mortgage or Investing: Which Makes the Most Sense?

Whether you choose to pay off your mortgage or invest depends on multiple factors, such as your financial goals, risk tolerance and current market conditions.

Here’s a quick take on why one option may fit your financial needs more than the other.

When Paying Off Your Mortgage Makes Sense

• You have a high mortgage rate
• You want to save on interest
• You can manage without the mortgage interest tax deduction
• You want to eliminate a significant debt amount
• You want the security of outright owning your home

When Investing Makes Sense

• You have a desirably low mortgage rate
• You need to catch up on retirement savings
• You expect to stay in your home for a short period of time
• You prioritize easy liquidity over the hurdles of tapping your home equity 
• You are comfortable with risk

Investing Vs. Paying Off Your Mortgage: How the Numbers Stack Up

Over 80% of homeowners have mortgage rates of 6% or lower. While 6% is historically below average, it still adds up to thousands of dollars in interest over a 30-year loan.

Let’s say you had a $250,000 mortgage at 6% interest on a 30-year fixed loan. Crunching the numbers in our mortgage calculator, you would have a monthly principal and interest payment of $1,498. ​​Over the full loan term, you would pay a whopping $289,595 in total interest.

Applying this scenario, let’s review different strategies for paying off your mortgage versus investing options.

1. Immediate Mortgage Freedom: Paying Off Your Mortgage Balance in Full 

If you’re fortunate enough to have an extra $250,000 lying around, paying off your 6% mortgage in full could be a sensible choice, depending on how far along you are with it and whether you prefer a safe return on your money.

For example, if you’re at the start of your 30-year mortgage, paying off the $250,000 balance means you’ll save $289,595 in interest.

Moreover, by paying off your mortgage in full, you own your home outright. This means you possess 100% home equity and you’ve freed up $1,498 in monthly cash flow.

However, you should consider a few crucial factors before choosing this approach.

First, while you have 100% home equity, these funds are now tied up in your house, making your assets less liquid. Second, you could be leaving money on the table if the rate of expected return you can get through investing exceeds your 6% mortgage rate.

Also, by paying off your mortgage in full, you may lose mortgage interest tax deduction advantages if you itemize your deductions.

2. Earlier Mortgage Freedom: Applying Extra Funds to Principal Balance

Suppose you don’t have $250,000 available to pay off your mortgage or don’t love the idea of less liquidity. In that case, a less drastic approach is putting extra money toward your principal each month to shorten your mortgage term.

For instance, by applying an extra $250 to your monthly payment, you could pay off your 30-year mortgage in 21 years and save $99,751 in interest, assuming a 6% interest rate.

3. Investing in the Stock Market

Over the past several decades, the stock market has returned roughly 10% per year on average, as gauged by the S&P 500 Index, which tracks the 500 largest publicly traded U.S. companies across a wide range of industries.

Using a 10% return rate as an estimate, if you invested your extra $250 per month in an S&P 500 index fund, you could potentially grow that to $137,651 over 21 years. Taking this path would give you roughly $37,900 more than if you had applied the same $250 monthly toward your mortgage principal to pay off your mortgage over the same period.

Nonetheless, investing comes with risk, and returns aren’t guaranteed. Investment loss is always a possibility. Moreover, you’ll be on the hook to pay capital gains taxes when you sell shares, sometimes annually, depending on the investment type.

Below is a table that shows the general difference between the savings you could accrue by paying more toward your monthly mortgage versus investing the same in the stock market.

S&P 500 Investment Historical 10% Average Returns Compared to Early Mortgage Payoff Savings

Investing in Bonds: Lower Risk, But May Yield Less Than Your Mortgage Rate

U.S. Treasury and municipal bonds are viewed as safe investments because they offer stable returns and are at low risk of default. However, with lower risk comes lower interest rates and lower returns.

Over the past decade, the highest yield on a 10-year U.S. Treasury bond was 4.95%, according to Federal Reserve Bank of St. Louis (FRED) data. If you have a mortgage rate of 6%, investing in bonds will likely yield lower returns than your mortgage costs.

Moreover, even lower-risk bonds still involve some risk. For one, bond yields and prices have an inverse relationship, with yields and prices moving in opposite directions. So, it’s possible that if you sell a bond before it matures, you could lose some of your principal if interest rates increase. You may also need to pay your broker a commission for the sale.

Alternatively, you could invest in high-yield bonds—also known as junk bonds—which offer higher returns. However, with higher yields comes greater risk, as issuers of these bond types are more likely to default on interest or principal payments.

Real Estate Investing: Higher Potential Returns, High Maintenance

If you’re leaning toward investing and prefer a tangible asset and one less volatile than the stock market, investing in real estate could be an alternative—if you have substantial funds and time to spare.

Historically, the stock market has outperformed real estate, but property investors can benefit from certain tax advantages.

That said, real estate investing requires thorough research to find the best property to support your goals. Keep in mind that as a home flipper looking for a quick re-sale, you may need to hire contractors, and if you own a rental property, you might need to hire a property manager to handle upkeep, which cuts into profits.

You’ll also need patience—don’t expect returns to materialize quickly.

On the downside, property investing reduces your liquidity, and, as an illiquid asset, real estate can’t provide quick access to cash for an emergency. On the upside, if managed well, rental properties can offer steady passive income to cover expenses and potentially turn a profit.

Pros and Cons: Early Mortgage Repayment

Generally speaking, compared to the returns you can reap from wise investing, paying off your mortgage early is probably not the optimal way to grow your financial wealth over the long term. But we live in the real world—everyone’s financial situation is different. What works for one person might not be the best move for another.

Check out this breakdown of the benefits and disadvantages of paying off your mortgage early to help you decide if this path is right for you.

Early Mortgage Repayment

Pros and Cons: Investing

For many, investing instead of paying off a mortgage can be a smart move. But if it were the perfect solution for everyone, we’d all be doing it.

Here are some benefits and drawbacks of going the investing route.

Investing

You Don’t Have To Choose: Balancing Paying Off Your Mortgage and Investing

If you’re unsure which path to take, the good news is you don’t have to choose between paying off your mortgage and investing—they can go hand in hand.

If you have extra funds, consider dividing them between both options. Putting extra payments toward your mortgage helps you pay it off faster, and you can still invest the remaining funds.

For example, suppose you have an extra $250 each month and a solid emergency fund. In that case, consider putting part of that toward paying down your mortgage and the rest into investments offering potential returns higher than your mortgage rate while matching your risk tolerance.

Frequently Asked Questions (FAQs)