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Mortgage are Calculated
Any amount of money that you put towards the principal amount of your loan automatically builds up equity in your home. When you save interest on a mortgage by making extra payments, the equity savings in your home accrue each month. Extra payments allow you to build equity the moment the extra payment is made. You can then use the equity in your home through a refinance or upon the sale of your property.
What Are the Disadvantages of Overpaying Your Mortgage?
Opponents to overpaying a mortgage argue that the money that would otherwise be stuck in a home loan could be working to make more money over the short- and long-term through investments that yield a higher return.
Missing out on investments.
With interest rates hovering around historical lows over the past few years, many homeowners have been choosing to put their hard-earned money into investments rather than paying their mortgage off early. In fact, may homeowners are choosing to extend the life of their home loans in order to free up additional capital to invest.
This, of course, can only work if the interest rate you're currently paying on your home is less than the interest you’d be making in your investment vehicle of choice.
To illustrate, let’s use the same numbers as above: say you currently have a 30-year fixed-rate mortgage of $300,000 at a 4% rate. If you had saved that extra $300 per month and used it towards an investment that has historically brought 8% returns, you could potentially end up with $425,000 if the returns remain steady. In addition to the $108,000 that would have been invested over the 30-year period through regular monthly $300 payments, over $316,000 would be made in interest.
Of course, there’s always the risk that this promised rate of 8% won't necessarily pan out over the course of the investment. Market conditions can always fluctuate, as we see from time to time.
Lack of diversification. For the majority people, a home is a major component of their overall assets. By making additional payments and paying off your mortgage early, you’re not increasing your assets’ worth. While you are becoming debt-free sooner, you’re missing out on the chance to diversify your investments and value of your assets.
Minimizing tax breaks.
The sooner your mortgage is paid off, the less money you’ve got in your hands to take advantage of tax deductions. As time passes, tax money that is saved through deductions from your mortgage can be huge.
Overpaying your mortgage reduces this effect, and may even cause you to lose a little bit of money over the long haul.
It should be noted that extending your mortgage in order to invest your money elsewhere should only be done if you have a higher tolerance for risk, and have substantial emergency funds on the back burner just in case your investments fall through.
The last thing you’d want to do is lose your home as a result of failed investments.
How a Mortgage Is Calculated
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