I've come into a large amount of money. Should I invest it or pay off my mortgage?
There's no easy answer to your question, but I'll try. From a purely financial standpoint, I can make a pretty strong case that mortgage is "good debt" (as opposed to bad debt like auto loans, credit cards, etc). If you have a good interest rate on your mortgage (4.5% or less), the bar isn't very high for doing better with a diversified investment portfolio. If you can earn more than the interest rate on your portfolio, you'll be ahead financially. And, that doesn't include any benefit you may get if you are able to deduct the mortgage interest. However, by paying off the mortgage, you are effectively "guaranteeing" the 4.5% (the rate used in my example) rate of return. There are no investments that can "guarantee" you that rate of return. Odds are, that over the long term, you will earn more in a properly diversified portfolio, but there are no guarantees. You can think of it like this; paying off your mortgage is like a CD, the return is guaranteed. Investing the funds involves a higher degree of risk, but also a higher potential return on your funds. Finally, a big part of the decision is emotional. I can't place a monetary value of the "warm and fuzzy feeling" that you may get from not having a mortgage.
I’ll give you my favorite answer, "it depends". Here’s the reason why. From a “quantitative” stand point (goals that can be objective and measured), are all your bases covered when it comes to having emergency liquidity? If you already have a financial plan, which option will measurably get you closer to your retirement goals, if you’re not retired already. Is paying off the mortgage more of a “qualitative” option (dealing with attitude and emotions)? Some clients hate the idea of debt hanging over their head, even though it’s necessary debt (i.e. mortgage loans, auto loans). The fact that paying off your mortgage may make an individual sleep better at night doesn’t necessarily mean that it’s the best option when it relates to their overall financial plan. So, this leads me back to my answer, “it depends”. My advice, if you haven’t sat down with a financial planner, sit with one and identify your short and long-term goals, and see which options give your large windfall the most leverage as it pertains to your goals. Once you have all the objective information, you’ll be in a better position to make a decision, be it qualitative or quantitative.
There is no obvious answer. It all depends on your specific situation and your tolerance for investment risk.
From a pure economics standpoint, if you think that the after-tax return that you expect to earn from investing your new sum of money is higher than the after tax cost of the mortgage, then it makes sense to invest the funds rather than to pay off the mortgage. That's the theory.
In practice,you should consider where you stand on the financial life cycle. No matter what the economics, if you are close to retiring, getting rid of your debts should be a higher priority than if you are in your thirties for example. Additionally, managing funds requires investment skills and temperament that many people do not have. You also need a bit of luck. Going back in time a bit, if you were asking this question in November 2007 and had decided to invest, no matter what your level of investment skills, you would have quickly regretted not paying off the mortgage.
There is a risk with investing the funds that you do not incur by paying off the mortgage. Your level of risk tolerance matters. I hope this helps.
How about both? Invest in a portfolio of stocks that pay a dividend and have historically increased their dividend over time. Receive the dividends as cash and use the added income to pay extra on your mortgage, or reduce your out of pocket mortgage expenses. In the end, you will have a paid off home AND a nice portfolio.
When I get a large sum like that, I'm going to invest it. My number one financial priority is independent wealth. To achieve this, I need enough money to be under financial management so that, assuming a prudent interest rate, the annual yield will be enough to pay my expenses and support my lifestyle. This way, I can work because I want to, not because I have to.
Becoming debt-free is a secondary objective. I certainly don't want any debt, because that inhibits your freedom. But I’d be willing to carry a mortgage and consider the payments to be normal expenses if I could have a lump sum spinning off income to pay those bills.
Given the choice between being debt-free (no mortgage) and work-free (don’t have to work to pay my bills, even debt payments,), I would choose the latter easily.