Should you pay off your mortgage earlier?
WITH interest rates potentially on the move, investors are wondering if they should pay their mortgage off, or even make larger monthly payments.
And the answer will vary depending on your attitude, or appetite for risk, and your thoughts on liquidity.
Liquidity first. Most businesses and homes come under pressure when they don't have the capital to pay the bills each month. Having the freedom of no mortgage debt outstanding but insufficient income, is less attractive than having a monthly mortgage you can manage and a lump sum in your bank to draw upon and keep afloat, so be sure to keep cash flow in mind.
If you have a lump sum, or extra cash per month, the options available to place your money on deposit (banks etc.) and beat the cost of a mortgage are minimal, even with the record low mortgage rate. The only way to really beat that cost is to subject the capital to the fluctuations of investment.
And that's the play off. With a mortgage, you know exactly what the monthly cost will be if you have fixed the mortgage rate, but, with an investment into the market, whilst the returns could be significantly more, they could be significantly less.
Understanding the trade-off makes it an easy decision for some, but not for others who don't have the appetite to see their money fluctuate.
Using a straightforward, middle of the road passive investment as an example, consider the returns for 2015. Seven months were positive returns and five were negative. There were five positive months each with a return over 1.4 per cent, but that was followed by four with negative returns, the majority of which were over minus 3 per cent, and just when you thought your hat was lost, it posted a 6 per cent month return.
And so, investing has to be made appreciating that each of the downside periods were potential buying opportunities and not to be compared with the safety of knowing the mortgage could have been repaid.
Psychologically, many home owners like to pay the mortgage off first as they think it's a more ‘permanent debt', but the costs on credit cards can be twenty times as much as current mortgage rates.
Before paying off your mortgage, look at what other debts you might have such as credit cards and unsecured loans where the monthly cost is greater.
Before you make any overpayments, check to be sure you will not be charged penalties. If there are charges for overpayments, it will normally only be over a certain amount (10 per cent), so stay below that and you will be fine. Penalties can be high however, with some payments as much as 5 per cent.
Get your timing right too. If you are charged daily with interest, make the payment as soon as possible. If charged annually, then time it so, as to be sure you make the most impact rather than the money fermenting with the mortgage company.
Remember, if you have a flexible mortgage, you can make the full payment against your mortgage but then draw down against that again if you need some more money. This is unlike the normal mortgage where you will need to reapply for a new loan if you wished to access any.
If you are thinking of keeping the mortgage, be sure to run it past a mortgage broker who will look at the whole market. As I pointed out last year in this column, one mortgage company was charging 0.1 per cent more a year for the mortgage, but the extra cost when fees were included totalled over £25,000.
Another option for you with overpayments is to consider topping your pension to the max. With mortgage rates at less than 2 per cent the guaranteed return of the tax relief on a pension is worth nothing.
A pension contribution of £80 is immediately topped up by the tax man to £100, which is the equivalent of 25 per cent immediate guaranteed growth. That is twelve and a half years of mortgage payments if they stayed at 2 per cent.
Be sure to speak to your independent financial adviser who can explain all the varying options available.
:: Peter McGahan is chief executive of independent financial adviser Worldwide Financial Planning, which is authorised and regulated by the Financial Conduct Authority. If you would like advice on your mortgage call Darren McKeever on 028 6863 2692, email firstname.lastname@example.org or visit www.wwfp.net.