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The Financially-Dumb Answer to Pay Off the Mortgage or Invest

The common answer to paying off debt or investing is wrong

Whether to pay off your debt before you start investing. It’s one of the most common financial questions, financial arguments really.

Most people say look at the numbers but I’ve got two reasons that make absolutely no mathematical sense but might just save your finances.

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Why the Answer to Investing vs Paying Off Debt is Not a Numbers Game

One of the most common questions I get from the community is whether you should pay off debt or invest. There are a lot of side questions on this like whether to pay off student loans or the mortgage or just paying off those high rate credit cards before you start putting money to stocks and bonds.

Now the answer you usually see is a numbers game. You’re told to compare the interest rates on debt against investment returns and put money to the biggest numbers first. Essentially paying off any debt that costs more than you think you can earn on investments.

But that mathematical reasoning doesn’t account for a lot of the emotion around debt or other factors that are going to surprise you and change how you think about the question.

So what I want to do with this video is first do a quick run-through on the numbers. Show you the average rate on different types of debt and compare it against the average return on different investments. Then I’m going to reveal two surprise reasons that have nothing to do with the numbers but everything to do with the right answer.

I’m doing this video as a collaboration with Sarah, the Budget Girl, and I love the idea. I’ll share my perspective in this video but be sure to click over and watch her video next for the other view-point. We’ve argued back and forth on the question and she makes some great points so look for the link to her video in the description.

The Numbers Behind Pay Off Mortgage or Invest

So here we see average interest rates for three types of debt and different credit scores. This is from a survey by CreditSesame in early 2018 so rates are a little lower right now but we see mortgage rates from 4.5% to just over 6%. Car loan rates range from 3.6% to over 15% and credit card rates are the highest with an average 25% annual interest for bad credit borrowers.

Average Interest Rates on Debt by Credit Score
Average Interest Rates on Debt by Credit Score

Compare that against the average annual returns on different investments here in this data by JP Morgan for 20 years through 2018. We’ve got real estate stocks topping the list at 10% return, followed by investments in gold and oil producing a 7%+ return and stocks returning an average 5.6% return over the period. But let’s use this 60/40 bar, that’s a pretty common split for stocks and bonds and would have produced a 5.2% annual return over the last two decades.

Average Investment Returns by Asset
Average Investment Returns by Asset

Now if you were to take a hundred dollars a month and put it to one of these six types of debt or investment, over 10 years, the numbers should speak for themselves right?

Using that money on credit card debt, and I used the middle interest rate for each of these debts, using the $100 a month paying credit card debt would be worth over $27,000 at a 15% rate. Investing the money in REIT stocks would make you twenty grand over the period, paying off a car loan would be worth over $17,000 and investing across the stocks in the S&P 500 would have earned you just over $16,000 over the ten years.

Here at the bottom, so close that you really can’t make the two lines out is that 60/40 split between stock and bond investments and the mortgage debt at 5.16% interest.

should i invest or pay off debt first
Should I Invest or Pay Off Debt First?

Just going off the numbers, it makes sense to pay off just about any type of debt before you start investing and it’s a wash whether you pay off the mortgage or invest.

That’s the easy answer, the one you get from most people. You pay off that high-rate debt on credit cards and personal loans while slow-paying your mortgage and student loans.

That’s where I’m at with my student loans. I still owe over $61,000 on undergrad and graduate programs but at a weighted average rate of 2.9%…I’m paying the minimum and investing the rest.

Reasons to Invest instead of Debt Payoff

But even looking at the numbers, there are two reasons why you should break the rule and start investing even if you have higher-rate debt, let alone low-rate debt like student loans or a mortgage. It seems like a financially-dumb decision, investing for maybe a seven or eight percent return while paying 14% on a credit card balance…but I want you to think about this.

First off, shopping is just too much fun! You may never be completely out of debt or even if you do get to your debt-free scream, it might only be a few months before you find that new car you absolutely must have.

So even if you never get completely debt-free, you will definitely reach a point someday where you need to rely on your investments for retirement…God willing.

Now as a financial person, I know I’m not supposed to say this. I’m supposed to march to the drum of YOU MUST PAY OFF DEBT…but it’s just not realistic for everyone. Waiting to pay off debt before you invest means you may never start investing and you’ll be living off ramen noodles in retirement.

By the way, the average social security benefit is just over $1,400 a month and that’s before taxes…so yeah, ramen noodles and government cheese.

The other reason to start investing even while you pay off higher-rate debt is that it’s going to get you in the habit of saving and motivate you by watching that compound interest grow. Debt payoff is great but even if you manage to reach debt-free by your 40s, what then? You haven’t built that habit of saving and investing.

At this point, you’re looking at starting from zero and that can be a little scary. The result…a lot of people just don’t get started investing even after paying off debt.

Getting started investing early, even if it’s just $50 a month while you pay off debt is going to motivate you to save. That $50 a month started in your 20s grows to almost fifty grand over thirty years and that’s just what you can do on less than a dinner out.

should i invest or pay off mortgage first

So make the financially-dumb decision to start investing, even if you have debt or a mortgage at a little higher rate. Start that habit of saving and making your money work for you so someday, you’ll be able to stop working for your money.

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  1. Love the graph you made. It supports my thinking about getting out of debt. I even wrote a book about it. I’m adding this article to my Fawcett’s Favorites on Monday.
    Dr. Cory S. Fawcett
    Prescription for Financial Success

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