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Should you pay off your mortgage early?

Paying your mortgage off early can sound appealing, but there may be hidden pitfalls.

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Nothing makes your home truly feel yours like making that final mortgage payment. If you have the money, it can be tempting to make your final payment early so you no longer have those monthly payments on your ledger. But, though doing so can save you interest charges, there are a number of points to consider before deciding to pay off your mortgage early.

What to consider before paying off your mortgage early

Before paying off your mortgage ahead of time, check the status of your finances, the terms of your loan and the state of the market. Here are some things to consider:

  • Prepayment penalty: One thing to look out for before paying off your mortgage early is a mortgage prepayment penalty. These are sometimes put in place by your lender to discourage you from selling, refinancing or paying off your mortgage too quickly after entering into the loan. These penalties typically go into effect if you pay off your mortgage in the first three to five years. Not all lenders will penalize you, and few mortgages carry these penalties outside the first five years. Regardless, it's worth checking with your lender or reviewing your monthly billing statement first.
  • Tradeoff of other investments: Paying off your mortgage early requires putting more of your money toward your mortgage payments rather than other investments, yet those other investments might produce a better overall return. What you save on interest payments by paying off the mortgage early may not outweigh what you could earn if you invested that money elsewhere. 
  • Paying off other loans: Mortgages typically offer lower interest rates than most loans, so while they're a long-term commitment, they're also a useful tool for allowing you to do more with your money. Consider paying off any higher-interest loans or credit card balances you have first. It could be helpful to solidify your overall financial picture before choosing to pay down your mortgage early.
  • Cash and savings situation: Make sure you have enough money available for emergency spending, as well as sufficient contributions to your retirement plan before you make the decision to spend that money elsewhere.
  • Inflation: If inflation rates are higher than your mortgage interest rate, then you are actually coming out on top by having an active mortgage. While the value of the dollar depreciates, your payments are fixed and your house presumably continues to appreciate in value.
  • Tax benefits: There are a number of tax incentives for homeowners, and one of them is the ability to claim your mortgage interest as a deduction, lowering your taxable income. You won't be able to benefit from this tax credit if you pay off your mortgage early, though you will ultimately pay less overall in interest.
  • Credit score: One small factor to consider is the fact that paying off your mortgage early could cause your credit score to dip. Making on-time payments on your mortgage every month is one of the factors used to calculate your credit score, so without these payments, your credit may experience a small hit. Perhaps more importantly, when this loan account is closed, it will also no longer be counted toward your average age of open accounts. If your mortgage has been in existence for longer than most of your other open credit accounts, including credit cards and other loans, you will likely experience a notable drop in your credit score. That said, this could also happen when you pay your mortgage off on time -- it's just a factor to be aware of.

Methods for paying off your mortgage early

There are a number of methods for paying off your mortgage early. Review your financial circumstances carefully to determine which works best for you.

  • Make extra mortgage payments: The easiest way to pay off your mortgage early is by making extra payments, ideally toward the principal loan amount. This will help you pay down your mortgage faster. Inform your lender if you want to make additional payments and set them up on a convenient schedule, either biweekly or monthly. If you pay your mortgage online, many lenders offer an option to pay additional principal payments via your regular payment portal.
  • Refinance to a shorter term length: The most common path for paying back a mortgage early is by refinancing. This is particularly useful if interest rates decline and you're able to secure a lower rate for the remainder of your mortgage. You can also change the term of the loan, allowing you to complete it ahead of schedule for your original loan. When you refinance, you're taking on a new mortgage that will pay off your old one, so you'll need to plan for fees like closing costs.
  • Recast mortgage: A mortgage recast allows you to make a lump-sum payment toward the principal balance of your loan. Once you do this, your lender will reamortize your mortgage, creating a new schedule with a lower balance based on the additional payment. The term and interest rate of your loan will remain the same through this method, but you'll lessen your monthly payments. Not all lenders offer this option, but if yours does you must contact the lender to request a recast.
  • $1 a month strategy: One strategy for paying off your mortgage early while limiting the impact on your budget is the $1 a month strategy. As the name suggests, you simply pay $1 a month more each month compared to the last. This is a small change for you each month, but can significantly shorten the time you need to pay your mortgage in full. 

Final steps to paying off your mortgage early

Once you've made your final mortgage payment, you'll have to finalize everything so you can put the loan behind you and enjoy your fully paid-off home. 

  • Request your mortgage payoff statement: Your job isn't done after you make your final mortgage payment, as you'll have to request your mortgage payoff statement from your lender. This document shows that you no longer owe anything on your mortgage.
  • Inform your city of ownership status: Either you or your lender will have to inform the city or municipality where your home is located that you are the official owner of the property. In many cases, you can do this online or request your lender do it for you. Remember, most mortgages pay your property taxes on your behalf from your escrow balance -- once your mortgage is paid off, that becomes your job.
  • Inform your insurance company: Now that your home is in your name, you'll also be responsible for paying your insurance provider directly. Inform your insurance provider that you own the home and will be making payments going forward.
  • Inquire about escrow funds: When you're paying off your mortgage, your lender may keep funds for homeowners insurance and property taxes in an escrow account for you. Once you've paid off your mortgage, you can ask your lender to transfer any remaining escrow balance back to you.