Why I’m paying my home loan off early instead of investing

The problem is simple, do I pay off the bond and be debt free, or do I keep paying debt and invest at the same time?

For this example, we will look at a home loan of R1,400,000 paid monthly over 20 years at an interest rate of 10.5%. Then, along with paying off the bond, we have R2,500 per month extra to either pay into the bond or to invest. These figures are just examples to help with the calculations.

This post will look at the calculations as well as some of the other considerations to look at.

Introducing the calculation

This first example shows that when the interest rate of the home loan is the same as the growth on the investment, it makes no difference where you put your money. You can put it in the bond or invest it and it will grow at the same rate. (See the flaws and assumptions section).

In the example below, the top left grey section shows the standard bond payment. In this case, the bond of R1,400,000 will have a monthly installment of R13,977.32.

The top right yellow box shows an investment of R2,500 per month with a fixed growth of 10.5% also over a 20 year period. You will see that after 20 years you will have a fully paid off property as well as investments worth just over 2-million.

Now look at the scenario in the bottom section where we pay the additional money we have straight into the bond and we pay the loan off 84 months early. Then, once the loan is paid we take the full amount that we were paying as the installment as well as the additional money we have and we invest it for the remaining period. So we invest R16,477.32 monthly for the remaining 84 months.

You will see that if the home loan interest rate and the investment growth are the same, it makes no difference. The real difference lies in the interest rate!

The calculations with different interest rates

In this example, the only change is that the investment growth is set to 13% (in the previous image you will see it was 10.5% which is the same as the home loan interest rate).

Now you will see that it is definitely better to invest money at a higher interest rate instead of paying the loan off early. And obviously the bigger the difference between the home loan interest rate and the investment growth rate, the bigger the final monetary difference!

So, if we increase the investment growth rate to 15% then the difference is R 1,326,026.40 which is starting to sound like a serious amount of money!

Flaws and assumptions

Looking at this it really makes sense to invest extra money you have instead of paying off debt. However, there are some flaws in the calculations:

Investment growth not guaranteed

It’s very easy to add higher investment returns in a spreadsheet but unfortunately, it’s impossible to predict or guarantee investment growth. One can look at funds and use the average growth rate, but as markets go up and down things change.

You may not always have the spare money to invest

We’re assuming that you will have extra money each and every month for 20 years. This may not be so as life sometimes throws curveballs and its impossible to predict.

Fees & Tax not taken into account

The investment choice will obviously have fees and taxes to take into account which is just too complex for right now. It probably won’t have a huge impact on the final figures but it is something to consider.

Why am I paying my home loan off early instead of investing?

It really would seem that it’s better to invest the extra money I have from right now as the longer money is invested, the more the growth compounds. However, it’s not as straight-forward as that and there are some less concrete considerations too.

Peace of mind

A really huge consideration for me is simply the peace of mind knowing that I am debt-free. Once the house is paid off there is literally no more debt and I don’t plan to ever have debt again. This peace of mind is valuable to me as it means that I don’t have this noose of debt around my neck! See my post on how to invest in freedom by paying off your home loan.

The goal is to travel

My partner and I have decided that traveling is a high priority for us in life and that we need to enjoy the experiences while we can. Paying off the home loan will enable us to fulfill this. The current plan is to pay off the loan by the end of 2020 and then sometime after that we will pack up, rent out the house and use that income to support us for a year of travel. It won’t be luxurious and we will lose out on a year of investing, but the life experience will be invaluable to use!

Escape the rat race

Killing the debt is our first step to escaping the rat race of boring 9 – 5 jobs. Once our year of travel is over we will need to figure out how we want to shape our lives. Having a fully paid off property will give us much more leeway and space to make decisions.

Investing extra money each month for 20 years certainly sounds like the right thing to do but we just don’t know what the future will bring. Something that is completely impossible to calculate is the investment made into our own lives. The opportunities that may reveal themselves and the opportunities that we create ourselves.

Working a stable job is just that; it’s stable. But allowing yourself time and space to explore other things is again invaluable.

Guaranteed growth

South Africa (as many countries) is currently experiencing some financial instability in that markets are dropping and rating agencies have downgraded us. This reflects in investments which have taken a knock in the short-term and although markets will inevitably bounce back and grow to newer heights, we need the short-term stability of guaranteed growth to enable us to reach our goal.

Tax-free & no admin fees

The growth on money in your home loan (or any loan) is tax-free. This may not be relevant to many people but it is useful to know. Also, your bond already incurs monthly fees which you are paying and by investing more money in the account no further charges are levied.

In closing

While investing money is obviously the more profitable outcome you need to look at life holistically and decide what’s going to bring you happiness and how you can create new opportunities for yourself. There is, unfortunately, no right or wrong answer when looking at very long-term plans as we simply cannot predict the future. Absolutely anything could happen! So the best thing is to have a plan that seems reasonable and sound to you and that will help you reach your goals and bring some element of joy to you.

I have spare cash now so I would rather pay the debt while I can.

Reprinted with the permission of Take Charge Of Your Money.

10 replies on “Why I’m paying my home loan off early instead of investing”

My wife and I chose to pay off our mortgage a few years ago because of peace of mind and reduced stress. I have an inconsistent income, so not having to worry about a mortgage payment really makes that easier to deal with.

It is wild but I just published a post on my blog yesterday that dealt with me becoming debt free by finally paying off my home (paid it off in 9.5 years instead of the 30 year mortgage I had).

Never been happier. Could I have made more investing the extra money instead? Sure, but I could have just as easily lost it too. Peace of mind is what was worth it to me.

I felt paying off my home was an investment.
1: Every dollar I invest to pay down my principal increases my net worth by a dollar
2: I get a rate of return equal to my mortgage interest rate.
3: When it is paid off, my spendable income will increase by the mortgage payment amount.
4: Not having a mortgage payment drastically reduces the amount of money I need to save in my retirement plan.
5: Once paid off, I won’t lose my home in an economic setback.
6: Investing in peace of mind has a great value.

I put my thoughts on debt in my book The Doctors Guide to Eliminating Debt. It’s time we stop managing debt and start eliminating it.

Dr. Cory S. Fawcett
Prescription for Financial Success

Your first 5 points could be made for investing in the stock market with the additional caveat of favorable tax treatment of having a mortgage Your point 6 is a personal one and it is the way that you feel. All debt is not equal and mortgage debt is one that I have no problem with (especially with a 3.5% interest rate)

Plus if you have the assets to pay off the mortgage is it really debt or just a decision?

With regard to #1 no it doesn’t. You have to subtract the dollar from the short-term asset account you paid it from also, so your net worth is unchanged.

I’ve gone through the exact same calculation, deciding weather to pay the mortgage faster, or invest the difference. On paper it does make more sense to invest. But that is exactly it, its on paper. Call me risk adverse, but I decided paying the mortgage is a real saving rather than speculating about investment returns.

We have 9 years and $285,000 left on our mortgage at 3%. After the deduction, its an effective 2% interest rate (we’re in the highest bracket). We are in no rush to pay off that mortgage at that rate….

I made the same decision 10 years ago. For me, it was definitely a security thing. When I took on the mortgage I had 4 kids under 6 and I’d just walked away from my marriage. Security becomes very important to you when you have a lot of little lives depending on you!
I didn’t run the numbers… because, you know…. numerals are hard and boring. But I knew I wanted a safe base that the boys could always come home to and know that we’d never be evicted.
It worked out very well.

I’d rather be richer with a mortgage than poorer without one. I also prefer the safety of a large liquid investment account than holding a huge amount of my net worth in a single piece of land & building.

But that’s me.

— Vik

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