Dear Penny: Should I Pay off My Mortgage and Give up the Tax Savings?

Dear S.,

My very unsatisfying answer is that you need to review the tax consequences of paying off your mortgage with a CPA, and I’m not a CPA.

But this decision is about a lot more than taxes. Sure, they’re a part of the equation, but they may deserve less weight than you’re giving them.

Back in the days of yore — by which I mean pre-2018 — taxes were a way more important consideration when you were trying to decide whether to pay off a mortgage. If you were a homeowner with a mortgage, you typically opted to itemize so you could deduct your interest payments.

But then the Tax Cuts and Jobs Act happened. It nearly doubled the standard deduction. For 2020, the standard deduction is $12,400 for single filers and $24,800 for married people filing jointly. If you’re over 65, the standard deduction is another $1,300 higher. (Note: These figures are for the taxes that will be due in 2021.)

Mortgage interest is only a factor at tax time if the deductions you can take add up to more than the standard deduction. So if you’re a single filer under 65, you need deductions of more than $12,400 for itemizing to make sense. 

Let’s say you’re on your first year of a 15-year adjustable-rate mortgage. At 2.99%, the interest part of your mortgage would be just under $5,000. 

If that, along with your other deductions for things like property taxes, charitable contributions and unreimbursed medical expenses above 7.5% of your adjusted gross income, don’t add up to $12,400 (or $24,800 if you file a joint return), this isn’t really a decision about taxes.

But even if you do itemize, I still don’t think this is really a tax decision. Let’s say you’re withdrawing enough from your investment income each year to be taxed in the highest tax bracket, which is 37%. Deducting $5,000 of mortgage interest would put $1,850 back in your pocket.

Is that a nice chunk of change? Sure. But is it a game-changer in a decision as big as paying off your home? Probably not. 

Think of paying off your mortgage as an investment. Your returns would come in the form of the 2.99% per year you’d save on interest, although this number could change when your mortgage adjusts.

What’s the money you’d use to pay off your mortgage doing right now? Is it plopped in a savings account earning less than 1% a year? If so, paying off the mortgage is likely a good move.

If you’d sell investments that are yielding decent returns, the decision becomes a little trickier. You’d miss out on potential earnings, though of course that comes at the cost of security because investments come with risk.

Two other considerations: Sometimes mortgages have a prepayment penalty, so if yours does, that’s a factor. Also, if you have other debts, the interest you’re paying is almost certainly more than 2.99%, so you’d want to pay these off before you even think about paying off your mortgage.

But I don’t think this is a situation where “just do the math” is sound advice. 

The question comes down to what would make you feel most secure in retirement: Having no mortgage even if it meant cashing out some savings or investments? Or having more money invested or saved to draw from in the future?

Focus less on how this affects you on April 15 and more on how you’ll feel the other 364 days a year.

Robin Hartill is a senior editor at The Penny Hoarder and the voice behind Dear Penny. Send your tricky money questions to [email protected].