Invest or Payoff the House Early

We just came out of a time of the lowest interest rates in mortgage history. 2021 saw the average 30-year rates dip below 3% and while they seem high now, averaging 6.8% last year, they are still a far cry from the 1981 average of 16.63%. I get it, housing prices are up as expected, but the rates only seem bad because of the market we just came out of. The first home we purchased was in 2002 when the average rate was 6.54%.

What does all this have to do with paying the house off early? This is a common question from math nerds like myself and those who listen to Dave Ramsey, who know that Baby Step 6 is throwing anything extra at the house. Is that really the wisest investment you can make with your extra dollars?

Well let's run some numbers and see what you think, then let's talk about the real part of it, which is the mindset aspect of this thinking.

For the sake of argument I'm going to use my own 2.25% rate (Yes, I was one of the lucky ones that refinanced during this time). The reason I'm also going to use that is because the argument is a no-brainer if you have a 6-8% rate, see the higher your rate gets the easier the argument is to pay off the house early.

So now the factors...Mortgage $280,000, rate 2.25%, term is a 15-year. Current high-yield savings accounts are around 4-5%, so I'll take 5% for those. Then in standard investment terms, we will take a 10% average return on investment.

Option 1: Continue paying the 15-year all the way through, that means over the course of time you will pay $50,162.72 in interest. I'm going to ignore the tax implications of this because, in reality, those are pennies on the dollar and worth a separate discussion.

Option 2: Pay as I do today, $165.76 extra on the principal to round up the payment to $2,000

Option 3: Continue paying, but instead of throwing extra at the principal, put it in a High Yield Savings account (HYSA), with the plan to pay it off as soon as I have enough to pay the mortgage in full.

Option 4: Same as option 2, but instead throw it into a diversified set of mutual funds and pull the money out to pay off the mortgage when it is ready.

Here is how the math breaks down.

Option 1: (50,162.72)

Option 2: (44,811.90), payoff 18 months early

Option 3: (38,375.86), payoff 21 months early

Option 4: (23,654.17), payoff 29 months early

I took the interest paid to the bank and deducted the interest you earn from investing to calculate the interest paid number at the start. Technically Options 3 and 4 you will pay more interest to the bank, and you will offset that with the earnings from your "investments." Honestly, you could play with the numbers in many ways, increasing payoff, but they are generally going to land pretty close.

My takeaway from all of this... I'll continue with Option 2 for several reasons.

1. The only option that has marginal risk 3, is the HYSA and for 3 months, it just is not worth it. The temptation to use that money for other things, such as a new vehicle is just too great. Plus, the rate on the HYSA is not guaranteed, that will fluctuate as the mortgage rates do.
   

2. Risk, while option 4 has you paying off the house 29 months early, almost a year faster than my current option 2, it carries risk, in the sense that if the market takes a downturn the same year I might be ready to pay it off early, then I have to wait for it to rebound before paying it off, so it is no guarantee. Not to mention, you are going to have to pay taxes on the ~$25,654 worth of interest you earned from those funds.

3. Change in mindset overall, the more I can lock in my spending and stay focused the better. While $165 extra may not seem like much, we have the option to easily throw extra at it whenever we like. Regardless, I know those payments will pay for themselves with the equity built into the house. My current plan is to continue this way and increase each year as my pay increases.

I hope this helps you to decide what to do with your mortgage. If you are interested in the historical bank rates noted above, I pulled that from bankrate.com here