I have a mortgage with Wells Fargo which I just obtained a few months ago for a new home. Due to unexpected circumstances, I am no longer planning on staying in the home as long as I thought I would. I'm looking to unload in about one year.

There is about $40,000 in my savings and nothing to invest in. I don't like to dabble in stocks. I'm wondering if my best bet might be to make one large payment towards the mortgage. My only concern is, would it make sense to do this, given that it's so early in the loan age that the payment is mostly interest, and I plan on selling in a year?

  • 1
    To be clear, you can have them apply the payment directly to the principal.
    – mkennedy
    Feb 4 '15 at 18:58

Let's look at some of your options:

  1. In a savings account, your $40,000 might be earning maybe 0.5%, if you are lucky. In a year, you'll have earned $200. On the plus side, you'll have your $40,000 easily accessible to you to pay for moving, closing costs on your new house, etc.

  2. If you apply it to your mortgage, you are effectively saving the interest on the amount for the life of the loan. Let's say that the interest rate on your mortgage is 4%. If you were staying in the house long-term, this interest would be compounded, but since you are only going to be there for 1 year, this move will save you $1600 in interest this year, which means that when you sell the house and pay off this mortgage, you'll have $1600 extra in your pocket.

  3. You said that you don't like to dabble in stocks. I wouldn't recommend investing in individual stocks anyway. A stock mutual fund, however, is a great option for investing, but only as a long-term investment. You should be able to beat your 4% mortgage, but only over the long term. If you want to have the $40,000 available to you in a year, don't invest in a mutual fund now.

I would lean toward option #2, applying the money to the mortgage. However, there are some other considerations:

  • Do you have any other debts, maybe a car loan, student loan, or a credit card balance? If so, I would forget everything else and put everything toward one or more of these loans first.

  • Do you have an emergency fund in place, or is this $40,000 all of the cash that you have available to you? One rule of thumb is that you have 3 to 6 months of expenses set aside in a safe, easily accessible account ready to go if something comes up.

  • Are you saving for retirement? If you don't already have retirement savings in place and are adding to it regularly, some of this cash would be a great start to a Roth IRA or something like that, invested in a stock mutual fund.

If you are already debt free except for this mortgage, you might want to do some of each: Keep $10,000 in a savings account for an emergency fund (if you don't already have an emergency fund), put $5,000 in a Roth IRA (if you aren't already contributing a satisfactory amount to a retirement account), and apply the rest toward your mortgage.

  • I should have about $10,000 in savings after paying taxes for 2014, and I am additionally putting $5,500 in an IRA. After this, I will still have about $40,000. I have no other debts either and I'm only 30 so while I am saving, retirement isn't a huge priority. So I think that I agree with you - in my specific situation, #2 seems like the best option. Thank you!!
    – blizz
    Feb 5 '15 at 0:41
  • $40,000 socked away at 30 can be worth a lot more than $40,000 socked away at 40.
    – Raze
    Mar 6 '15 at 14:46

First off, putting extra cash toward a mortgage early on, when most of the payments are going to interest, is the BEST time. If you pay an extra $1 on your mortgage today, you will save 30 years worth of interest (assuming a 30 year mortgage). If in 29 years you pay an extra dollar, you will only save 1 year worth of interest.

That said, there are lots of things that go into a decision like this. Do you have other debts? How stable is your income? What is the interest rate on your mortgage compared to any other debts you may have or potential investments you might make? How much risk are you willing to take? Etc.

Mortgages tend to be very low interest, and, at least in the U.S., the interest on them is tax-deductible, making the effective interest rate even lower. If you have some other loan, you are almost always better to pay the other loan off first.

If you don't mind a little risk, you are usually better off to invest your money rather than pay off the mortgage. Suppose your mortgage is 5%. The average return on the stock market is something like 7% (according to my buddy who works for Wells Fargo). So if you put $1000 toward your mortgage, you'd save $50 the first year. (Ignoring compounding for simplicity, changes the exact numbers but not the basic idea.) If you put that same $1000 in the stock market, than if it's a typical year you'd make $70. You could put $50 of that toward paying the interest on your mortgage and you'd have $20 left to go on a wild spending spree. The catch is that the interest on a mortgage is fixed, while the return on an investment is highly variable. In an AVERAGE year the stock market might return 7%, but this year it might return 20% or it might lose 10% or a wide range of other possible numbers. (Well, you might have a variable rate mortgage, but there are still usually some defined limits on how much it can vary.)

  • OP made it clear this was a short term situation. You are 100% correct that a year 1 payment to principal offers 30 years of effective compounding at the mortgage rate, but in this case, that point is moot. Feb 5 '15 at 22:41
  • @JoeTaxpayer Well, if he's going to pay the whole thing off in a month anyway, then yes, whether he pays it all off today from his savings or in a month from the proceeds of the sale, the difference is maybe one month's interest. The longer the period between now and the sale, the more advantage of paying the loan down. If he can throw $40,000 at his mortgage and he's paying, say, 5%, and the sale is 6 months away, then he'll save 6/12 times 5% times $40,000 equals $1000, not even counting the compounding. That's non-trivial money to me.
    – Jay
    Feb 6 '15 at 14:33

take a look at this graph here:


It shows how much it costs to borrow $40k for 30 years. You did not post your mortgage rate or loan term, so I used 4% over 30 years (you can easily update this with your actual details). While this does not show the costs of your total mortgage, it does help you get an idea of just how much the 40k$ in question is costing you in interest. If you hover over the month one year from now you will see that you will have paid around $1587 in interest over the course of the year. If you were to put the full 40k$ toward your mortgage right now, you would avoid having to pay this interest over the next year.

The next question I think you would have to ask yourself is if there is anything else you could do with that money that is worth more than the $1587 to you.

Is it worth $1587 to keep those funds liquid/available in case you need to use them for something else? Could you find other investments you feel comfortable with that could earn you more than $1587? Is it worth the hassle/risk of investing the funds somewhere else with a better return?

If you can't come up with anything better to do with the money then yes, you should probably use the funds (or at least part of them) towards the mortgage.

  • The chart shows interest accrued on a 1 year loan of $40K, paid over the 12 months. That's not quite how his loan is accruing interest. In fact, we don't know the full balance. The site you linked has an interesting way of viewing this, but I don't see its value. Looking at loan-to-date total interest, has, well, limited interest, in my opinion. Mar 6 '15 at 14:02
  • Thanks for pointing out my mistake, I tried to update the answer so it accurately reflects how interest would be accruing on $40k and why it is relevant to the question
    – Occam
    Mar 6 '15 at 17:32

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