Should You Use Spare Cash to Pay Off a Mortgage or Invest?

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It’s a long-running debate: What’s the best way to get the most from your hard-earned dollars?

If you find yourself with a bit more money than expected — maybe because you’re spending less while hunkered down during the pandemic — you have options for how to use that extra cash flow.

There’s no one-size-fits-all approach. You have to consider your appetite for risk and your long-term goals.

Timing can also play an important role. Today, mortgage rates are near all-time lows while stocks continue to reach new highs.

Which is why many people are asking themselves: Should I use it to pay off my mortgage or invest in the stock market? Here are some pros and cons to help you with that decision.

Option 1: Pay off your mortgage early

Middle-aged couple sitting on house front door

goodluz / Shutterstock

Let’s make the math easy, and presume you’re not buying in a major city that’s experiencing record price appreciation:

  • You borrow $200,000 on a 25-year loan.
  • Your interest rate is level at 3 per cent.
  • Your mortgage loan payment is $946.50 per month.

If you increase your mortgage payment by an extra $1,000 per month, the Government of Canada’s mortgage calculator shows you’ll pay off your mortgage in 10 years and save $52,738 in interest — that’s a big number.

Pros

Some of the benefits of paying off your mortgage can’t be measured financially — for some homeowners, it’s about peace of mind. Paying off what’s probably their biggest bill helps them sleep at night.

Paying off your mortgage, or paying a lump sum at each five-year mortgage renewal cycle to lower your monthly payments, will also free up cash to tackle other debts. By eliminating or lowering the mortgage payment burden, you can shift cash toward credit card balances that come with sky-high interest rates, student loans or other bills you want to prioritize.

And, paying down your mortgage builds equity in your home — equity that could be tapped in the future if you’re short on cash. Even if you already have a decent emergency fund, you never know what life will throw at you — 2020 is the greatest example of that.

Having equity is important, but be careful not to put so much toward your mortgage that you’re left with little real cash. Are you one of the thousands of Canadians who lost their jobs in 2020? It’s not easy to tap into your home equity without a steady income. There’s value in keeping a decent sum of cash in a high-yield savings account or other accounts to protect you from the unexpected.

Plus, you need to ask yourself whether putting so much money towards your mortgage will mean missing out on higher returns from other investments.

Option 2: Invest in the stock market

Business man holding phone

Bro Crock / Shutterstock

Let’s compare how much you can earn investing against the money you’d save by paying off your mortgage early.

  • Instead of adding $1,000 every month to your mortgage repayments, you invest that money for 10 years.
  • The long-term annual return rate on the S&P/TSX Composite Index was 9.3 per cent per year between 1960 and 2020.
  • In total, you’d earn $193,453 before taxes, according to an investment returns calculator that factors in simple and compound interest rates, as well as the inflation rate.

Pros

According to the calculations, you’d earn $193,453 by investing, while saving only $52,738 in interest by paying off your mortgage early.

It’s a clear win financially, even before taking tax implications into consideration. If you invest that money in an RRSP, you can take advantage of significant tax sheltering.

Cons

If this was such an obvious choice, it wouldn’t be much of a debate, would it?

It really comes down to your tolerance for risk. Those average returns are just that, averages. Your return isn’t guaranteed and you could end up losing money investing in stocks or bonds. With a fixed-rate mortgage, you know exactly how much you’ll save in interest by paying it off early.

So weigh your options and choose the one that helps you sleep better while providing the financial gains you’re seeking.

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