Investing in real estate can be an effective way to build wealth, and many investors choose to finance their properties through a mortgage. However, as you build equity in your investment property, you may start to wonder if it's better to pay off your mortgage early or continue making payments. In this blog, we'll explore the pros and cons of paying off an investment mortgage and help you determine if it's the right choice for you.
The Pros of Paying Off Your Investment Mortgage
Increased Cash Flow: Paying off your mortgage early means that you'll no longer have to make monthly mortgage payments. This frees up cash flow that you can use to invest in other properties or in other areas of your life.
If your monthly mortgage payment is $1,500 and you pay off your mortgage early, you'll have an extra $18,000 per year in cash flow. This can be used to invest in other properties, start a business, or save for retirement.
Reduced Risk: Without a mortgage payment, you'll have less risk associated with your investment property. If a tenant moves out, you won't have to worry about finding a new tenant quickly to cover your mortgage payment.
If your rental property generates $2,500 in rent each month and your mortgage payment is $1,500, losing a tenant could mean a significant loss in income. However, if you pay off your mortgage early, you won't have to worry about covering your mortgage payment and can take your time finding a new tenant.
Equity Growth: Paying off your mortgage early means you'll own your property outright and will be building equity more quickly.
If you have a $300,000 mortgage on a property that's worth $500,000 and you pay off your mortgage early, you'll own the property outright and have $200,000 in equity. This is a significant increase in equity compared to having a mortgage. Additionally, as property values appreciate over time, your equity will grow even more.
The Cons of Paying Off Your Investment Mortgage
Opportunity Cost: If you use your extra cash flow to pay off your mortgage, you may miss out on other investment opportunities that could provide a higher return.
Let's say you have a mortgage with a 4% interest rate and you have the option to pay it off early or invest in a stock market index fund with an average annual return of 7%. If you have a $200,000 mortgage and you're considering paying it off early, you'd save around $8,000 per year in interest payments. However, if you invested that $200,000 in the stock market instead, you could potentially earn around $14,000 per year in returns. So, by paying off your mortgage early, you'd miss out on the opportunity to earn a higher return on your money.
Tax Benefits: Mortgage interest is tax-deductible, so paying off your mortgage early means you'll lose out on this tax benefit.
If you have a mortgage with a 5% interest rate and you're in the 25% tax bracket, you can deduct $3,750 from your taxes each year. If you pay off your mortgage early, you'll lose this deduction and may end up paying more in taxes as a result.
Liquidity: If you put all of your available cash into paying off your mortgage, you may not have the liquidity you need to cover unexpected expenses or invest in new properties.
If you use all of your available cash to pay off your mortgage, you may not have the funds you need to cover unexpected expenses, such as repairs or renovations on your investment property. This could lead to having to borrow money at a higher interest rate, or worse, being forced to sell your property at a loss to cover the expenses. Additionally, you may miss out on opportunities to invest in new properties or take advantage of market downturns.
So, Should You Pay Off Your Investment Mortgage?
The decision to pay off your investment mortgage ultimately depends on your personal goals and financial situation. If you prioritise cash flow and reducing risk, paying off your mortgage may be a good option for you. However, if you're looking to maximise your returns and maintain liquidity, it may be better to continue making mortgage payments and invest your extra cash in other opportunities.
At Republic Invest, we can help you navigate the world of real estate investing and determine the best strategy for your individual needs. If you're interested in learning more about investing in real estate or have any questions about paying off your mortgage, please email us at firstname.lastname@example.org. We look forward to hearing from you!
Disclaimer: The examples provided are for informational purposes only and should not be construed as tax advice. Every individual's tax situation is unique and it's important to consult with a professional tax advisor to understand how these tax deductions apply to your specific circumstances.