If you’ve got years to go on your home mortgage, you’ve probably dreamed of the day it’s all paid off. And depending on your loan terms, you could wait for 15, 20 and even 30 years for that dream to become reality.

But what if you could accelerate the process and pay off your mortgage early? Should you? For some homeowners, the risks of early mortgage payoff outweigh the benefits. Let’s look at some of the things you should consider before sending that final payment to your mortgage holder.

Benefits of early mortgage payoff

Paying a mortgage off early frees up a large sum of money every month. A study by LendingTree in early 2020 revealed that Americans hold $10.5 trillion in total mortgage debt, with 62 percent of homeowners carrying a mortgage. Simultaneously, nearly a quarter of Americans have less than $5,000 saved for retirement. Homeowners could redirect money previously earmarked for the mortgage into retirement savings. Eliminating a mortgage payment also means you’ll need less income to cover your daily expenses in retirement.

Early payoff can also result in paying less in interest during the life of the loan. Additionally, it can provide homeowners with an asset that could be leveraged when needed. Some homeowners open a home equity line of credit (HELOC), which serves as their emergency fund and can be used for major expenses.

Risks to consider

There are drawbacks to early payoff, however. The general rule of thumb is to keep three to six months’ worth of expenses in an emergency fund. Paying off a large sum toward your mortgage could deplete your reserves and leave you cash poor in the event of an emergency.

Paying off your mortgage eliminates the option to take a tax deduction on the interest you paid on the loan, resulting in a higher annual tax bill. You could also miss out on potential opportunities to invest the money in other savings vehicles that are experiencing high growth.

Potential strategies and mistakes to avoid

There are a few ways to shorten the life of your loan. The first option is to pay one lump sum that covers the remaining balance. Before doing so, however, it’s crucial to ask your lender if a prepayment penalty applies. The amount of a potential prepayment penalty varies by lender but could range from 2 to 5 percent of the total loan balance, which can get expensive.

You might also choose to chip away at the balance, paying a little extra each month or making an additional payment as you’re able. Caution: Be sure to direct the payment to the principal of the loan. If you don’t, it could end up being applied to interest and won’t accelerate the payoff process.

In some cases, refinancing might allow you to shorten the life of the loan. For instance, if you have 22 years left on a 30-year mortgage, you could refinance to a 15-year loan. Current low interest rates might even mean your monthly payment stays about the same.

While it sounds counterintuitive to the goal of early payoff, you also might consider taking advantage of low interest rates by refinancing to a new 30-year loan. Using this strategy, you lock in a lower monthly payment but make extra payments toward the principal. But it’s important to consider your age and likelihood of not paying off your new mortgage early before refinancing to a new 30-year loan.

Before employing these strategies, it’s always a good idea to consult a financial adviser. They can walk you through the pros and cons and show you how each scenario could potentially impact your financial picture, both now and in retirement. They might even have ideas on how you can combine strategies to potentially pay off your mortgage and more efficiently put your money to work for you.

David Mount is a director and portfolio manager with the Wise Investor Group at Baird in Reston, Va.

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