Pay off your mortgage or invest?

Should you throw all your spare cash into paying off your mortgage before even thinking about investing?

mortgage or investAs most mortgage repayments are set over a 20-year period, we looked at three possible scenarios in terms of accelerating mortgage repayments and investing in equities (shares) over a 20-year period.

In each of these scenarios we assumed a R700 000 mortgage at the current prime interest rate of 10.5% with a minimum monthly mortgage repayment of R7 000 per month. We also assumed that the individual had an additional R3 000 per month to invest.

Scenario one

Pay additional R3 000pm into mortgage

You increase your mortgage by R3 000 to R10 000 per month and your house is fully paid off in 108 months (9 years). You then invest the R10 000 per month into a pure equity unit trust for the remaining 11 years.

After 20 years you have a R2.8 million investment

Scenario two

Split the R3 000 between mortgage and investment

You pay an additional R1 500 into your mortgage, increasing the repayment to R8 500 and invest R1 500 into a pure equity unit trust. Your total monthly commitment is R10 000.

For this scenario we assume you receive a return of 12.4% which is the average historical longer-term return of the JSE.

After 12 years (145 months) your mortgage is paid off and you have R500 000 in investments. You now allocate the full R10 000 to the investment for the remaining 8 years.

After 20 years you have a R2.9 million investment.

Scenario three

Invest the full R3 000 per month

You invest the R3 000 into a pure equity unit trust. Again in this scenario we assume a return of 12.4% on the investment.

You only pay your minimum mortgage payment of R7 000 per month and settle your mortgage after 240 months (20 years). You invest R3 000 per month into a pure equity fund for 20 years.

After 20 years you have a R3.16 million investment

Conclusion

Based on these three scenarios you would be better off investing rather than accelerating your mortgage repayments. The results, however, depend on the relative difference between interest rates and projected equity returns.

In our current interest-rate environment, there is a 190 basis point difference between interest rates and the longer-term returns from the JSE. If interest rates were to rise, that difference would narrow and the relative benefits of investing would be reduced. There is also a risk of lower investment returns. Possibly the best scenario is to find a balance between investing and paying off your mortgage.

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This article first appeared in City Press.