Canadians are well-known for their love affair with property and owning the roof over your head is a dream that many people share.
Polls have shown that with eating and drinking out off the menu and no overseas holiday on the horizon, lots of us are managing to save more of our cash in lockdown. And with interest rates at record lows, and many of us spending more time at home than ever before, overpaying the mortgage may be on your mind.
A mortgage will be the biggest financial obligation most people ever take on, and the idea of being mortgage-free is undoubtedly appealing. But the jury is still out on whether paying down the mortgage ahead of time is the best way to put your savings to work.
Here are a few questions to ask yourself before paying down your mortgage:
What’s the Interest Rate?
Emma Morgan, portfolio manager at Morningstar Investment Management, believes this is the very first question people should ask themselves. The Bank of Canada recently dropped the central rate of interest to a low of 0.25% and that has an impact on mortgage rates.
Lower rates mean lower monthly repayments and also reduces the amount of interest you pay over the term of the loan. While that may make the "mortgage-free" dream more attainable, Caroline Shaw, head of asset management at wealth managers Courtiers, says it doesn't necessarily mean that's the right option.
“You want to be borrowing when it’s cheap, not saving. Savings rates are horribly low and it’s really difficult to beat inflation with the accounts available," she says. Shaw suggests that, instead of overpaying the mortgage, it may be better to invest the money. It's a riskier option but the theory is that the potential gains you could make while the stock market is rising, outstrip the savings you make by paying down your mortgage while rates are so low.
How Much Risk Can You Take?
The next question you should ask is: what is my risk appetite?
Morgan says: "If you are willing to take risk, then you are probably better off keeping the mortgage if you are paying a very low rate and investing instead." An equity-focused portfolio, she points out, has historically delivered returns of around 5 or 6% a year.
Even taking into account the global financial crisis and the Covid-19 pandemic, the S&P/TSX Composite index has delivered annualised returns of over 6% over the past 15 years, while the S&P 500 has done even better. Shaw says: "If you had used your money to overpay your mortgage rather than invest in the stock market, you would have missed those gains."
She believes younger generations in particular should prioritise Isa investing over mortgage overpayments, given that they have such a long time horizon. “If you are young, equities are the place to be," she says. “If you are far away from retirement, you don’t want to put your money in cash, you put it in the stock market. It might feel uncomfortable, but it is the most sensible decision.”
Could You Do Something Else With the Money?
Of course, there aren't just two options when it comes to where to put your money. Rather than investing or paying the mortgage, some advisers point out it's important to enjoy yourself and spend some cash on experiences too.
Shaw says: "My oldest son is 16, he won't be coming on holidays with me for many more years so I want the ones we have together to be absolutely superb. We’re going skiing next year, if Covid permits travel. I’d rather go to France skiing than paying my mortgage.”
There are also practicalities to consider. Many financial advisers suggest having at least three months' salary saved in case of an emergency or unexpected expense. Anyone with expensive credit card or loan debt should also prioritise these payments, where the interest can quickly rack up.
Shaw adds: "Ultimately, it’s about finding a good balance between living your life and paying down your debt.”
Can You Sleep at Night?
One of the reasons working out your risk appetite before investing is so important is that it is not supposed to be a stressful experience. A cautious investor with 100% of their portfolio in racy emerging markets stocks may have a lot of sleepless nights.
But the same philosophy applies to the rest of your finances, too. Many savers may prefer the certainty of paying down their mortgage debt and owning their own home over the potential rollercoaster ride of the stock market, even if the potential gains are greater.
"If anything, the recent crisis has reminded us that our health and wellbeing are really the most important things in life," adds Morgan. "By developing a sensible financial plan tailored to your goals and risk tolerance, and having the fortitude to stick to that plan - even through tumultuous periods - you can sleep well at night and focus on what really matters."
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