Owning a home outright is a dream that many Americans share. Having a mortgage can be a huge burden, and paying it off may be the first item on your financial to-do list. But competing with the desire to own your home free and clear is your need to invest for retirement, your child's college education, and other financial goals. So putting extra cash toward one of these goals may mean sacrificing another one of the goals.

So how do you choose?

The decision to pay extra toward your mortgage to pay it off sooner versus using the money for other financial goals or perhaps investing it is not always cut-and-dried choice. Each option has advantages and disadvantages and these are all based on our own individual situations. One size does not fit all.

I would suggest starting with what you'll gain financially by choosing one option against the other. In other words, run some “what if” scenarios. One scenario is to evaluate what is known as the opportunity cost of paying off your mortgage early. Here's an example. Assume you have a $300,000 mortgage balance with a 30-year mortgage. Assuming a 6.25% interest rate, if you were to pay an extra $400 toward your mortgage each month, you would save approximately $62,000 in interest and pay off your loan almost 6 years early in year 24 of the 30-year mortgage. Making extra payments not only saves of interest, but it clearly helps gain financial ground by getting out of debt sooner.

Now consider what the result would be if you invested that $ 400 extra per month. The key is what you think you could earn as an after-tax return on that $ 400 per month. The after-tax return you would need is generally less than the interest rate you're paying on your mortgage since mortgage interest is tax deductible for most people.  

For example, the after-tax cost of a 6.25% mortgage would be approximately 4.5% if you were in the 28% tax bracket although this actual deduction will vary from person to person. The question is whether or not you could you receive a higher after-tax rate of return (4.50%) if you invested your money versus prepaying the mortgage.

Given the low interest rate environment of today, it may entail some risk for you to get a 4.50% after tax rate of return. So it’s important to keep in mind that the rate of return you'll receive is directly related to the investments you choose. Investments with the potential for higher returns may expose you to more risk, so take this into account when making your decision.

It’s always a good thing to reduce debt and not pay interest. But you have to balance that goal with your other goals. And, no matter what you decide, you can always reprioritize your goals later to keep up with changes to your circumstances, market conditions, and interest rate environment.

Securities offered through Royal Alliance Associates, Inc. Member FINRA, SIPC. Advisory services offered through Matt Montgomery, a Registered Investment Advisor not affiliated with Royal Alliance Associates, Inc., 1504 East Rusk, Jacksonville, Texas, 903-586-3494, * An Index is a portfolio of specific securities (common examples are S&P, DJIA, NASDAQ), the performance of which is used as a benchmark in judging the relative performance of certain asset classes. Indexes are un-managed portfolios and investors cannot invest directly in an index. Past performance is not indicative of future results.

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