Q: We are selling our lawn care service company. After we pay off all of the company debt we want to refinance our home and use a chunk of the money from the sale of our business to lower our monthly payment.
Our goal has always been to pay our house off. Should we do this? We already have Roth IRAs and invest in mutual funds, but the most important thing to us is paying this house off.
Some people say you should carry a mortgage, some say PAY IT OFF! What would be the smartest thing to do? Keep in mind, we have no other debt than our mortgage.
A: I always think paying off your home is a worthy goal, especially if you are looking for ways to reduce your out-of-pocket cash expenditures each month. This is especially for someone who says that the “most important thing” is paying off the house.
So you have two reasons to pay off your mortgage. Why might you keep it?
Some financial advisors suggest that when you have a loan that is fixed at a low interest rate (let’s assume your mortgage is at 6 percent), when interest rates rise, the possibility grows that you’ll be able to earn a higher rate of return on the cash than what you’re paying to borrow it.
The problem is that you have to beat the IRS as well. For example, if your mortgage is at 6 percent and if you earned 6 percent on your money, you’d do better by paying off your mortgage because you’d still have to pay about one-third of your gain in federal and state income tax.
So, you’d have to earn about 8.5 percent on your money to equal how much you’re paying to borrow the cash on your mortgage. To get ahead, you now would have to earn a rate of return in excess of 8.5 percent.
If you itemize on your federal income tax return, and you’re able to write off your interest, depending on what tax bracket you fall into the net amount you’d pay on that 6 percent mortgage might fall to around 4.25 percent. In this case, if you can get an 8 percent return, you’re well ahead of the game and should keep the mortgage and invest the proceeds.
But getting an 8 to 9 percent return on your cash may be difficult, given what the stock market has done over the past few years. Over a period of 10 to 20 years, you might do better – but not by that much. However, once you pay off your mortgage, you’ll free up that monthly payment and can invest it or live off of it going forward.
My vote would be to pay off your mortgage and enjoy the peace of mind and security that living debt free gives you.
Published: Jun 6, 2006
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