Money Audit: Should I Pay Off My Mortgage Early?

Arriving at retirement without the burden of a six-figure mortgage – or any debt – is something I hope we can all achieve.

But if accelerating your payoff means slowing down your retirement savings rate, then it’s not necessarily the best move. How to know for sure? Time for a money audit!

I recently connected with Joy, 52, who lives in Los Angeles, CA with her partner and pup. Their mortgage has a fixed 3.65% interest for 15 years. The total remaining balance is $113,000. Monthly payments plus homeowners’ association fee is $1,885.

With the goal of being mortgage-free in three years, the couple is paying a total of $4,000 (or an extra $3,000) towards the principal. That’s over 50% of their joint take-home pay.

Their monthly expenses currently come to about $4,100. After the mortgage, the couple’s top 5 monthly spending categories include:

• Food: $1,000 (for two people + one dog)
• Dog: $400 (dog walking)
• Cellphone: $210 (two phones)
• Utilities: $165

It’s worth noting that Joy recently changed jobs, transitioning from a for-profit tech company to a non-profit organization. She is more fulfilled, but had to take a sizeable pay cut. She now earns $70,000 per year. Her partner makes an annual salary of $74,000 with about $4,000 to $5,000 in bonuses each year.

Joy’s smaller paycheck has left her contributing less to her retirement account. In previous years, she allocated between 12 and 13 percent of her salary into her 401(k). Now, she’s reserving just 5% towards her new retirement plan at work or $3,500 a year. Her partner contributes 8% of her paycheck or roughly $6,000 per year.

She and her partner, who is also 52 years old, have a total of $625,000 in total retirement savings. They’d like to retire at age 65 but aren’t sure if it’s possible.

“I feel behind,” says Joy. “I feel like we probably should have been in seven-figure range by now (with retirement savings) but we just haven’t gotten there yet.”

Some quick math and a review of their finances left me feeling that, indeed, they may want to allocate more towards retirement. This strategy doesn’t mean they need to abandon their mortgage acceleration plans entirely, but it does mean scaling back.

Here’s a plan.

Aim for $1 Million

If the couple plans to retire at age 65, then that leaves them with about 13 years to catch up to their desired goal of $1 million. But is it necessary? Well, let’s assume that their monthly expenses remain roughly the same or less in retirement. I estimate they’ll need $3,000 to $4,000 per month or at least $36,000 per year (after taxes).

The recommended 4% rule suggests withdrawing 4% from a retirement account each year in retirement. With $1 million, that’s $40,000 per year before taxes.

So, yes, I would like to see them work towards this financial goal. Any social security benefits would be extra and welcome money!

How to do it?

Working our way backwards and assuming both good and bad years in the stock market, this means saving roughly $350,000 over the next 13 years between the two of them to reach their goal of $1 million. They’re starting with about $625,000 today. I would suggest investing no more than 50% of their investment in stocks at this point and putting the rest in less risky assets like bonds and bond funds. Dialing down their exposure to stocks as they get closer to retirement is also recommended.

Broken down, this means saving $27,000 per year or close to 20% of their combined income. Another way to look at it: They’d need to triple their current retirement plan allocations.

Fortunately, because they’re both over the age of 50, they qualify for catch-up contributions in their retirement plans. For 401(k)’s and the like, plan participants ages 50 and over can invest an extra $6,000 this year. This year, the catch-up contribution limit is $24,000.

What about the mortgage?

This plan would mean dialing down their mortgage repayment efforts.

Joy says they’re currently placing an extra $3,000 per month towards their home loan principal. Why not take $2,250 of that and place it towards retirement? That brings them to $27,000 in added retirement savings each year. The remaining $750 can still be applied towards the mortgage principal. They can also apply tax returns and other windfalls to the balance throughout the year.

This will take many more years to retire from the mortgage, but what’s the rush in paying it off? The balance will be gone before they reach age 65, even if they just pay the monthly minimum. I understand that it will offer some peace of mind and provide breathing room in their budget in the near term, but what will give them more peace of mind down the road? For me, it would be a fuller bank account in retirement.

What do you think? Would love to read your thoughts in our comments section below.