Should You Pay Your Second Mortgage Early?

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Second mortgages are a lot more common now than they were just a few years ago. There are several reasons for this – many people took out a second mortgage to make home improvements, consolidate their debt, or because they purchased their house with a small down payment and wanted to avoid Private Mortgage Insurance…

Second mortgages are a lot more common now than they were just a few years ago. There are several reasons for this – many people took out a second mortgage to make home improvements, consolidate their debt, or because they purchased their house with a small down payment and wanted to avoid Private Mortgage Insurance (PMI).

Regardless of the reason, someone has a second mortgage, there is a near universal truth regarding second mortgages – they usually come with much higher interest rates.

These higher interest rates can be deceptive because the monthly payments tend to be small, but stretch out for long durations, often as long as your primary mortgage, or up to 30 years.

Should you pay off your second mortgage early?

I recently received a reader question regarding his 2nd mortgage, and whether or not it would be a good idea to pay off the mortgage early. A condensed version of his situation is below:

I have a second mortgage which I am considering paying off early. Here is my situation:

  • I recently refinance my first mortgage and am now paying about $1,680/mo (5.25% 30yr fixed). The total amount of the refinanced loan is $245,000.
  • I still have a second mortgage of $28,800 (7.875% 30yr fixed) and I’m paying about $223/mo.
  • I personal savings is about $70K which is only earning 1.9% interest.
  • The second mortgage company is offering a promotion to give me $500 if I payoff my second loan.

Should I take money out of my savings and payoff this second loan?

I figured 7.855% vs 1.9%… I’m better paying off this second loan. But are there tax implications and possible other factors that I have not taken into consideration. What else should I consider??

Thanks for the question. There are several considerations – the interest you are currently paying, how much your savings is earning, what else you may need the money for, taxes, and peace of mind.

Financially, paying off the mortgage is the clear choice

The numbers don’t lie, and financially, paying the mortgage off makes sense by the numbers: not paying 7.855% interest beats earning 1.9% interest every day of the week. In addition, you get a $500 bonus as part of your lender’s promotion. Score!

If you want more proof of how the numbers will work for your situation just visit an online mortgage calculator and run the numbers (or use the numbers you provided).

The lifetime cost of the second mortgage is over $80,000! ($223 * 12 * 30 = $80,280). I’m not sure how much of your second mortgage you have already paid, but paying off your mortgage now could save you close to $50,000, most of which is interest.

How much interest are you paying? Try this quick exercise to see how much of your debt payment is actually going straight to interest each month, and how little is actually paying off the principle.

Consolidating Your Mortgages into a Single Loan

The next best option is to consolidate your two mortgages into a single loan.

This makes sense if you do not have the funds to go ahead and pay off the second mortgage in a short period of time. The obvious benefit being a much lower interest rate on the second loan.

Some of the top options for consolidating your loan are:

Tax considerations of paying off your mortgage early

You can usually write off mortgage interest as a tax deduction, but honestly, the tax savings on the interest you are paying each month would be negligible compared to the interest savings of paying off your mortgage, plus the $500 bonus. It also doesn’t make much financial sense to continue paying money, just to save money. This is really a non-factor and shouldn’t affect your decision.

What else will you need the money for?

This is a big one. $70,000 is a nice chunk of cash, and it is probably enough to make you feel very comfortable in your financial situation (assuming your mortgage debt is your only debt and you aren’t drawing on that $70k each month to meet expenses).

Many people recommend keeping a large cash cushion as an emergency fund, which can be used to help deal with any unexpected expenses that come along.

How big should your emergency fund be? That depends on your lifestyle, job security, risk tolerance, and many other factors. Many “financial experts” recommend 3-6 months of living expenses. If you kill that second mortgage in one fell swoop you will have roughly $40,000 left in your savings. If that still covers your emergency fund and any other major expenses you are expecting, then it might not be a bad idea to consider doing it – from a numbers standpoint.

 

Peace of mind

All of this brings us to the final consideration – peace of mind. Will you rest easier knowing you no longer have a second mortgage at a higher interest rate? Will the extra $223 in cash flow help with other financial goals? Or does having $70,000 in the bank feel better than paying off your loan?

Is it better to pay off your second mortgage early?

By the numbers, paying it off will net you the best result by far. Other benefits include increasing monthly cash flow which will allow you to replenish your savings or work toward other financial goals and removing debt from your life.

If you really want to speed things up, pay off your second mortgage and use that extra money toward your primary mortgage each month – you will shave off almost 10 years of mortgage payments – and tens of thousands of dollars in interest.

But personal finance is about much more than just numbers. If you have a need for the funds or feel more comfortable holding on to the cash due to economic, professional, health, or other concerns, then, by all means, do what is best for your situation.

Readers – did I miss anything or do you have other ideas to consider?

Image courtesy of ddpavumba / FreeDigitalPhotos.net

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About Ryan Guina

Ryan Guina is the founder and editor of Cash Money Life. He is a writer, small business owner, and entrepreneur. He served over 6 years on active duty in the USAF and is a current member of the IL Air National Guard.

Ryan started Cash Money Life in 2007 after separating from active duty military service and has been writing about financial, small business, and military benefits topics since then. He also writes about military money topics and military and veterans benefits at The Military Wallet.

Ryan uses Personal Capital to track and manage his finances. Personal Capital is a free software program that allows him to track his net worth, balance his investment portfolio, track his income and expenses, and much more. You can open a free account here.

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  1. Jon says

    Where to begin. I bought in the height of the market in 2007. I was about 50 years old. Today I’m 57. The house cost me 320,000. I have a first and second mortgage, the second mortgage is 70,000 left of 80,000. At my age I will retire at 62, as I cannot keep working cause my hands and eyesight are going-in other words it will be too hard to do my job anymore. As I am a specialize worker, it does not leave me to work elsewhere in the same profession.
    I have a little over four years till I retire – if I make it that long, I have to make a decision on whether to go bankrupt or keep paying on my mortgages, as I will get Social Security at age 62.
    Number of people of told me, to walk away from the house or do a short sale.
    My girlfriend is ill and cannot help support the house payments, there’s a lot of stress. but I have to have somewhere to live, and rents very high. I am trying to invest in a Roth Ira for the next four years that I have, hoping this money will add up enough to pay the second mortgage off.
    So, the question is what Avenue would you take? Do a short sale, hoping the bank will allow me to sell it. Take every extra dime and put it towards a second mortgage or just keep paying and hope that everything works out? I fear is the bank will tell me that you paid so far, so why should we allow the short sale. I can’t guess I could wait and find out if things work out, as I will make some 25,000 less year in retirement. Meaning things will be tight when I retire.
    I realize it’s not good to thousand dollars a month on the mortgage when you retire, I will still owe some 19 years on the mortgage left. I don’t have enough money to pay off the mortgage with my 401(k) – as I should’ve started saving much sooner and not borrowed from it over the years. But I must’ve admit I was never good at investing. It is sad that the schools did not teach about finance and my parents never told me anything. In the years I did invest, I was very foolish and lost a lot of money. Time is running out. I recently was sent a letter from Wells Fargo stating they could refinance my first loan for 30 years again and save $150 a month, I thought this was a joke.

  2. Joe says

    Hello, would it be smart to cash out an IRA to pay off a second mtg in order to refinance the first mtg on a rental property?

    IRA/stock market is doing nothing at all lately and this would allow me to see a positive cash flow from the rental property of over $700 a month.

    In other words….having a $700 monthly positive cash flow from a rental property versus waiting on the stock market to do better seems like a win-win to me!

    Thoughts please?

  3. jayson says

    Hi im trying to payoff my moms house with a heloc from my primary residence. How do i go about doing this. Is there going to be tax implications and whats the best strategy. Tax wise and investing wise Thanks

    should I tell my mo to transfer my name on her mortgage? not sure how this works.

    I plan to pay of her remainding loan with a heloc on my primary house. I will then collect rent from her to accelerate the paydown of the loan. How do i transfer the title of the house to my name. Should i even do that before i pay it off or after. Just want to make sure the IRS doesnt bite me in the end. Pls help. Thank you guys!

    I am in california

  4. Kevin says

    I just purchased a home and used a down payment assistance program.
    I have a 2nd and 3rd silent.
    The 2nd is at a 2.0 interest and the 3rd is zero interest.

    Should I pay off the 2nd silent ?

    Although I know that it’s not required until I sale or refinance my house.

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