Should I Rush To Pay Off My Mortgage?

For those who are unfamiliar, a mortgage is a legally binding agreement between a lender (usually a bank) and a borrower (an individual or a couple) for the loan of cash to finance the purchase of a property. In doing so, the lender charges an interest for the sum to be repaid over an agreed period.  The interest can either have fixed rates or adjustable rates at the borrowers choice. Your strategy (and the banks) on the borrowing interest rate will depend on how the economy moves. Generally, fixed rates work better against a rising interest rate environment and adjustable/floating rates are good for flat to declining interest rate environments.

Once you have decided on your loan type, it will be important to decide a mortgage peg; to become the base margin line which your interest rate moves along. Examples include SIBOR (Singapore Interbank Offer Rate), FDR (Fixed Deposit Rates), or BOARD rate. It is important not to confuse FDR as a fixed rate in that the rate does not change; FDR’s follow a mortgage peg and moves with the market. Different mortgage pegs are affected by the many fixed deposit tranches that may be selectively closed or open. Given the difficulty in tracking them all, it is strongly advised to consult a mortgage specialist or financial adviser whom have a close following on the latest  market development.

Concurrently while figuring out which kind of loan suits your situation, you should also take the time in working out your TDSR (Total Debt Servicing Ratio) and MSR (Mortgage Servicing Ratio); your TDSR and your MSR must not exceed 60% and 30% of your gross monthly income respectively. Your DSR determines how much the bank can loan you since it evaluates your chances to repay or default a loan.  Other factors considered by the bank include an individual’s risk profile and asset valuation. Don’t forget to factor in fees such as mortgage stamp duty, CPF legal fees, GST, legal fees what have you.

Given that the traditional wisdom for interest rates are not to incur them at all, should you pay off your mortgage as soon as you can? Afterall, you do actually pay “more” for the flat at the end of the loan. Here are some points to consider before rushing to pay off your mortgage early:

1. Do you have sufficient emergency fund?

Dumping all your cash into paying off your mortgage may leave you in position that is vulnerable to cash intensive emergencies such as accidents, family crisis or being out of job. Since you can’t hack of a corner of the wall in your home and use it as cash, you may likely find yourself stranded in a stressful position with little or poor choices such as a personal loan which has a higher interest rate.

2. Are there penalties for early payment?

While it may make sense that the bank will prefer to get their money back fast, this is unfortunately untrue since the bank expects that the interest owed be repaid regardless. A prepayment penalty will negate the “savings” from the interest avoided which is definitely not prudent by leaving you with less cash in hand.

3. Is this your highest interest debt?

Since we have established with the point above that paying off your mortgage early may not yield any benefits, this basically reinforces that idea. If there are other debts such as credit card loans or personal loans that are of a higher interest rate, it will be better off paying those first.

4. Are there higher investment yield option?

Instead of rushing to pay off your mortgage, you may want to consider investing the extra cash over the same borrowing time frame. The interest earned from the investments could be greater than the interest borrowed from the loan. 
 

It is unsurprising that even millionaires take a loan when investing in property. They recognize the strength in the position of cash and that investments that have higher returns (higher than the interest of mortgage interest rates) are plentiful. This holds true even for homeowners since one is most likely planning for the future of a family and while they may not have the ability to make aggressive investments, it will always be a smart move to have that digit in your bank account.