“Above all, make sure you pay off your home loan. This is your number one financial priority. You will save a lot of money on the interest!”
Have you encountered this advice before? You very likely might have!
It has become the investment advice du jour.
Sound advice indeed… for the most part!
But did you know it might serve you better not to pay it off?
There are, in fact, at least five downsides of paying off your bond!
They are situation-specific, so have a look and see if any of these drawbacks apply to you:
Drawback #1 – Loss of liquidity
You pay off your bond and reach for a good bottle of champagne to crack open in celebration.
Oops – no champagne in the cellar?!
Let’s go buy some.
Double oops – no money for champers in the savings account?!
See, it’s great that you’ve canceled your debt, but now you’ve poured all your savings into that, thereby leaving you with no extra money in the bank.
In other words, while your house is a great fixed asset, you have diminished your liquidity.
Drawback #2 – Loss of leverage
Loss of liquidity also means you have lost investment leverage!
The homeowner is now unable to use the money which paid off the loan to invest elsewhere.
Any other investment opportunities which become immediately available are now unfortunately out of reach!
And now, you will not be able to buy into any other investments until you have built up your savings again!
Drawback #3 – Your credit rating will take a hit
Lenders like to see monthly loan repayments.
Credit providers will now no longer see that monthly amount coming off your account to go into the bond, and they may be less willing to extend credit your way!
This can deepen the knock-on effect you may feel from points #1 and #2.
Drawback #4 – Difficulty in borrowing against your home after paying off the bond
If you have built up equity in your bond, it’s easy enough to borrow more money against this equity.
This is the basis of the “access bond” facility offered by most banks.
But you may need the cash flow after settling the mortgage, which can be more difficult.
It could even prove impossible to take out a loan against the value of the property after closing the account!
Drawback #5 – You can make a better return on your investments than on canceling your interest
Let’s say your bank is charging you, say, 7% interest on the bond.
Now say your investments are growing at an average of 10% per year.
In this case, it is advisable not to throw your money into the bond, stick with your investments. After all, that’s effectively a difference of 3% per year, where your investments are making you more money than you would be paying off your loan!
This may seem like a no-brainer, but it’s surprising how many people still feel an obligation to flatten the mortgage, even when it doesn’t make any mathematical sense.
So, if you are in the position to pay off your loan and save on the interest, that is great news!
However, just make sure you have weighed up these points before you rush ahead with that. You may find yourself in a worse situation!
If you’ve enjoyed this article, why not share it across your social media platforms, so others can benefit from it as well? Feel free to REPIN the image below: