Should you be paying your home loan off quickly?
Is it the best goal for your current situation? This week's article looks at the pros and cons of paying of your home loan sooner. Paying that home loan off sooner. That’s the goal that most of us have, isn’t it.
Getting rid of the mortgage and actually owning your own home outright is still a big part of the great Australian dream. The advantages of having no mortgage are numerous.
You free up that large wad of cash that disappears out of your bank account each month and can use it towards other things - savings, investments, retirement, enjoying life. Relative freedom! Although this idea sounds incredibly appealing, does it always make the best financial sense to single mindedly pursue the no-mortgage dream? Pros and cons of paying off your loanThere are a million articles around telling you how to pay off your home loan sooner so you probably know all the tips and tricks. In theory.
The idea is, of course, to minimize the interest you pay back to the bank. You probably already have an offset account with your salary paid into it directly, or make fortnightly repayments and pay that little bit extra off each month. It all makes a difference. “Sometimes a little bit, more often, it makes a lot of difference.” said Gareth Glen, whose focus at Scott Glen is helping clients to use their built-up equity effectively. “It can amount to years less on your home loan and thousands of dollars saved in interest.”
Gareth also points out however, that sometimes, it is not the best financial decision to pay off your home loan as a matter of priority. “It depends a lot on what other debt you have.” he explains. “Interest rates on mortgages are at sub-4 levels, but can still be around 20% on credit cards. It makes sense to pay off whatever attracts higher interest first in most cases.” Waiting to pay down your mortgage before you start investing doesn’t always make good financial sense either. You could end up owning your own home but not much else.
Depending on your financial situation, another option could be to reduce the extra repayments into your mortgage and instead use those funds towards investing in shares, a business venture or towards property. Payments towards some investments can also then be used as a tax deduction to reduce your amount of taxable income.
Again, considering your overall financial plan and income, nearing retirement is another time you might look at alternatives to putting everything towards the mortgage. Gareth explains further. “It sounds counter-intuitive, but there are some really tax effective strategies that you can use around your super - making extra repayments towards super to reduce your taxable income, then paying off the mortgage through a lump sum payment after retirement.”
So although minimising the interest you pay back to the bank is often a good idea, there can be many extenuating circumstances where other options can be considered. A financial planner can examine your specific situation and suggest what will work best in your case.
Whichever strategy you end up employing, the key is building useable equity. However, building equity into your home loan takes perseverance. And that perseverance comes down to having goals. “It's really important to know what you are doing this for.” said Gareth. “Having clear goals is one of the most important parts of any financial plan.” What this means is that it's all very well in having the goal of minimising your mortgage, but it's even more effective to know that if you can divert an extra $1,500 into your home loan most months, then you could think about retirement 10 years earlier than you would otherwise, for example. Or that by putting aside $200 extra per week for the next few years, means the difference between your children going to one of the best schools, as opposed to a good school.
Whatever your goal, work out how much per year, month or week you’ll need and keep breaking the figures down into manageable chunks. The smaller the chunk, the more achievable you're going to find it and the more you’ll stick to it. “Knowing what you want, is half the journey towards getting it.” All advice contained within this article is of a general nature and no action should be taken based on this information alone. Come speak to us first!