Dave Ramsey, the renowned financial guru, has long been a proponent of financial discipline and savvy money management. This can include paying off your mortgage early, but only under specific financial circumstances. There are pros and cons to paying extra on your monthly mortgage payments to shorten the timeline for how long you’ll have to keep paying them, but it’s not always the best money move.
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Even if you have thousands of dollars in your savings account or retirement plan options, unexpected things or financial shocks can pop up, such as job loss, dips in the stock market or even a medical emergency. This means leaving yourself a cushion to cover everything from credit card debt to months’ worth of utility bills isn’t such a bad idea.
Spending more than you have to, or even thousands on paying off your mortgage each month might actually cost you more in the long run.
Not Paying Off Your Mortgage Early: Quick Take
Dave Ramsey has listed many benefits of making extra payments to chip away at your mortgage faster, but he also is aware of the drawbacks. He goes on to say:
“Paying off your mortgage early seems impossible but it is completely doable and people do it all the time, but how can you do it and why would you want to put in the extra effort? Paying off your mortgage early will rev up your wealth building.”
However, one of his more controversial pieces of advice revolves around the idea of not paying off your mortgage early, even if you have the means to do so. This advice runs counter to the traditional wisdom of becoming debt-free as soon as possible.
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Why You Shouldn’t Rush To Pay Off Your Mortgage
While some of Ramsey’s advice may challenge conventional wisdom, even famously his own, it’s important to note that personal finance is not one-size-fits-all. Factors such as risk tolerance, rate of returns on investment, financial goals and individual circumstances play a significant role in determining the most suitable financial strategy.
As with any financial advice, consulting with a qualified financial advisor can help individuals make informed decisions tailored to their specific needs and objectives. Here are some reasons and key takeaways as to why you might not want to pay off your mortgage early — even if you currently can.
Downsize Your Home To Downsize Your Loans
Homeownership comes with a big price tag, and even more interest. If you can pay off more of the principal loan than the interest on the loan you are in a good position, However, this shouldn’t come at the cost of draining your savings or ability to add to retirement accounts. Ramsey says:
“I tell everyone never to take more than a 15-year fixed-rate loan and never have a payment of over 25 percent of your take-home pay. That is the most you should ever borrow.”
If you aren’t in the best position to make extra mortgage payments or even pay it off entirely, you should consider selling your home, if you have enough equity, instead. This means you could buy a smaller home or one more beneath your means so you can pocket some profit or pay this more manageable property off faster.
When it comes to securing loans Ramsey also advocates for buyers to not go with VA loans as they are usually more expensive than conventional ones. Ramsey Solutions lists a few drawbacks of this type of loan:
The zero down payment leaves you vulnerable. A small shift in the housing market might leave you owing more on your home than its market value! That means you could get stuck with the home until the market recovers or take a financial loss if you have to sell the house in a hurry.
You’re required to pay a VA loan funding fee between 1.4-3.6% of the loan amount as of 2020. On a $300,000 loan, that fee can be anywhere from $4,200-10,800. And the fee is usually included in the loan, so it increases your monthly payment and adds to the interest you pay over the life of the loan. Plus, you might need to factor in origination fees from the lender. Yikes!
The lower interest rates on VA loans are deceptive. While interest rates for 30-year VA loans are usually equal to or slightly lower than 30-year conventional loans, neither loan is a good option. Both will end up costing you much more in interest over the life of the loan than their 15-year counterparts.
Live Within Your Means Instead of Paying Too Much
When it comes to mortgages, being able to afford them doesn’t just mean paying them off early — but also what you can pay per month and still be able to live comfortably and save for your future financial security. Ramsey suggests you be able to answer the following questions affirmatively before considering or securing a mortgage:
Am I free of debt with three to six months of living expenses saved?
Can I make a 10% to 20% down payment?
Will I be able to pay the closing costs and moving expenses with cash?
Is the house payment no more than 25% of my net salary?
Can I afford to choose a 15-year, fixed-rate mortgage?
Can I afford to pay the utility and maintenance costs as long as I own the home?
Lean Into the Power of Compound Interest
Ramsey often emphasizes the power of compound interest when it comes to investments. He has said, “He who understands it, earns it. He who doesn’t, pays it.”
He argues that instead of putting extra money toward paying off a low-interest mortgage, individuals can benefit more by investing that money in vehicles that offer higher returns over time, such as mutual funds or retirement accounts. By leveraging compound interest, investors can potentially earn more than the interest saved by paying off a mortgage early.
Opt To Stay Liquid and Flexible
A key takeaway from Ramsey’s stance on not paying off your mortgage too early lies in the importance of liquidity and financial flexibility. By not tying up a significant portion of your wealth in home equity, you have more liquidity to handle emergencies, take advantage of investment opportunities, or pursue other financial goals.
This approach aligns with Ramsey’s emphasis on building a robust emergency fund and having the flexibility to navigate unexpected financial challenges.
Be Aware of Tax Benefits
Mortgage interest can be tax-deductible in certain circumstances, particularly for homeowners who itemize deductions on their tax returns.
Ramsey often advises listeners to consult with tax professionals to understand how this deduction can impact their overall financial picture. In some cases, the tax benefits of mortgage interest may further support the decision to prioritize other investments over early mortgage repayment.
Practice Risk Diversification
Diversification is a fundamental principle in investing, and Ramsey applies this concept not only to investment portfolios but also to financial strategies.
His “more risk equals more debt approach” means that by diversifying your financial resources and not putting all your funds into home equity, you spread risk and create a more resilient financial foundation. This strategy can provide a buffer against economic downturns or housing market fluctuations.
Opportunity Cost Can Put You at a Loss
Ramsey often highlights the concept of opportunity cost — the potential benefits lost by choosing one option over another. By focusing solely on paying off a mortgage early, individuals may miss out on higher-return opportunities in the market.
Ramsey encourages a holistic approach to financial planning that considers various factors, including opportunity costs, to maximize long-term wealth accumulation.
Final Take To GO
The bottom line is that Dave Ramsey’s stance on not paying off your mortgage early emphasizes the potential benefits of leveraging investments, maintaining liquidity and diversifying risk. While this approach may not resonate with everyone, it underscores the importance of considering a range of factors and long-term financial objectives when making financial decisions.
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This article originally appeared on GOBankingRates.com: Dave Ramsey: Why You Shouldn’t Pay Off Your Mortgage Early Even If You Can
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