Should You Put Your Spare Money Towards Your Mortgage or Your Retirement?

The sensible thing to do is to start saving for your retirement as soon as you start working. However, not many people do this because when you are young you don’t usually look that far into the future. Then you get married, take out a mortgage on a new home and start a family after which time you think there is no way you can save any money for the future.

However, it is important to develop a budget in which you list all your sources of income, after taxes and deduct your expenses from this amount. Even when you do deduct expenses for groceries, clothing, leisure pursuits and allow for incidentals, it is likely you will have some spare money, even though it may be a small amount. So what do you do with this spare money – pay down your mortgage or invest it?

Of course it is essential that you make sure all your debts are paid so you will likely want to pay off any small bills you may have, such as credit cards. Even if you do have a company pension plan, you do have to realize that this amount will likely not be enough to give you the income you are used to receiving while you are working.

Most mortgages are for periods of 25 years or more so if you wait that long before you start putting something way fro your retirement years, you may actually be very close to retiring before you have any substantial amount of money to invest.

Saving money for the future should be part of your overall financial plan in which you count this amount as a normal expense. Then you are assured of having a retirement income. Most mortgage companies allow you to make a lump sum payment once a year to pay down the principal so you could take a portion of what you save in one year to use in this manner.

To help you decide what to do, you should really understand your mortgage. A simple tool like a mortgage calculator will help you determine how much money you can save by paying down your balance by cutting years off the mortgage.

You may have plans to sell your home when you retire and use the profit to fund your retirement plans. However, you do have to take some things into consideration, such as where you plan to live and what the cost of housing will be at this point in your future. You will also need to have a considerable amount of equity built up in your home because the prices of homes decrease with age.

While you continue to make your mortgage payments each month, you know that eventually you will have it paid off and that you will own your home, you should consider putting any spare money into a pension plan. The reasons for this are many, but do include the fact that most homeowners move several times in their lifetime, so you could say that you may always have a mortgage – even after you retire.

Other benefits of putting your money into a pension plan include the tax benefits you receive. For each £1,000 you invest in a pension plan, you get a basic tax relief of £250. If you pay a higher rate of income tax, you can claim an additional £250 on your income tax return, thus giving you a higher refund, which you can then re-invest. Your mortgage payment is fixed each month and as you pay down the balance the amount of interest you pay each month decreases. Thus, in the final years of the mortgage more of your payment will be going towards paying off the balance. Therefore, you will not save a lot of money by paying down the mortgage.

And, if you are paying at a low rate of interest, you won’t save much money in this way either. According to one industry official, Philip Stone, you would need to be paying at least “9% interest on your mortgage” to come out on top by paying down your mortgage rather than pay it into a pension plan. He says that “your mortgage rate was 5%, a £1,000 payment after 25 years would be worth £1,389 off the loan but the same amount into a pension would be worth £727 more (£2,116) for lower rate payers and £977 more for higher rate payers (£2,336) – the bottom line being, the cheaper the debt, the less it pays to reduce it.”

The longer you have the money invested in a pension plan, the more money you will have in the fund because it has more time to grow. There are instances, though, when it would be beneficial for you to invest any extra money into your mortgage, but this will only be profitable if you have substantial equity built up in your home at the present time.