If buying a home is living the dream, paying your mortgage off early could seem like a next-level fantasy. Just imagine what life would be like without forking over monthly mortgage payments. More money for investments! Retirement savings! Home upgrades! Silk bow ties for your dog!
But is paying your mortgage off quicker than is required actually a smart financial move? While there’s no “one size fits all” answer, financial experts say it’s not always the wisest decision. Plus, you might be surprised how an early payoff can affect your credit score.
Here’s what to consider if you’re in a position where you could potentially pay off your mortgage ahead of the typical 15-year or 30-year timetables:
How does an early mortgage payoff affect credit?
Surprisingly, there are some financial feats that, yes, require a lot of discipline, but that your credit score doesn’t reward—and these actions may even cause a temporary drop in your score. For example, paying off your student loans could cause your credit score to dip. Your score might also fall a bit after you take out a mortgage. (No fair, we know).
Paying your mortgage on time every month helps you build and maintain a healthy credit score as payment history makes up 35 percent of your credit score. So, it seems intuitive that paying it off early would be rewarded with a credit score boost. But, that’s not actually the case.
In fact, closing out your mortgage account won’t hurt—or help—your credit score all that much, experts say.
“When you pay off your mortgage it’s likely that your credit score will not increase, but you won’t see a noteworthy drop in credit score points either unless your mortgage was your only installment debt, and in that case you may see a slight drop in your credit score,” explains Laura Brandao, a member of Association of Independent Mortgage Experts and president of American Financial Resources, a mortgage company.
To better understand this, know that your mix of credit makes up 10 percent of your credit score in FICO’s popular credit-scoring model. (Credit mix means you’ve got installment loans like a mortgage or car payments that you pay every month as well as revolving accounts like credit cards). So, if you only have revolving credit accounts being reported to the credit bureaus, it could affect this “credit mix” category of your credit.
The good news, though? If you’ve been making on-time payments over the lifespan of your loan, your mortgage should have been building your credit, positively contributing to your score, explains Sean Messier, credit industry analyst with Credit Card Insider, a consumer financial and credit card comparison site.
If you do pay off your mortgage early and your score slightly dips, you should see it bounce back within a couple of months, according to Experian, one of the three major credit bureaus.
What else to consider when you’re thinking about paying your mortgage off early
So, the impact of paying your mortgage off early is mostly neutral when it comes to your credit score. Here’s what else experts say should be front of mind when paying off your mortgage:
What other types of debt do you have?
If you have high-interest credit cards or car loans, for example, you shouldn’t pay off your mortgage first, says Brandao. “You should work on eliminating the high-interest, short-term debt first,” she says.
How will paying off your mortgage affect your investments?
Be careful if paying off your mortgage early means you’ll be redirecting funds away from high-yield savings accounts that could earn you more in the long run, warns Messier.
What will your savings look like?
If you plan on paying off your mortgage, you want to make sure that you have at least three to six months of expenses in liquid savings should an unforeseen circumstance arise, says Glen Meade, financial coach and former tax professional. Also, Meade says, you should make sure you can pay off your mortgage without borrowing or taking distributions from tax-sheltered retirement plans.
So, your credit score may not give you the pat on the back you were looking for if you pay your mortgage off early. But, you could save thousands of dollars in interest and relieve yourself from what’s potentially your biggest debt, which sounds pretty nice.