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When you’re preparing to sell your home, a big question often comes up: should you pay off your mortgage or save money for the future? This decision can feel overwhelming, but it’s crucial to make the right choice based on your financial situation.
Let’s explore both options and what you should consider to help you understand which path might be best for you.
Can You Sell a House With a Mortgage?
First and foremost, it’s important to understand that you can still sell your home with an existing mortgage. You can actually use the proceeds from the home sale to pay off your remaining mortgage balance, along with any other costs of selling your home.
In fact, this is fairly common in the mortgage industry today. Most home sellers who are buying a new home soon typically want to save up as much money as possible for the new down payment. A bigger down payment can lead to lower monthly payments and less debt.
Saving Money For New Home
Brian Koss, executive vice president of Mortgage Network in Danvers, Massachusetts, says that it almost never makes sense for owners who are preparing to sell and buy to pay down the principal balance of a mortgage instead of saving money.
That’s because buyers often need large sums of cash during the homebuying process, even if they are selling a home at the same time. Buyers might expect to make a sizable profit on their sale, a profit that they can invest in the down payment and closing costs on a new mortgage.
But the timing often doesn’t work out: How can buyers cover their down payment or closing costs if they haven’t yet received the cash from their home sale?
“There are so many needs for liquidity during the process,” Koss said. “Even if you are going with a low-cost, low-down-payment mortgage, you never know what you are going to need money for. Maybe you’ll need repairs on your new home. Maybe the fees or closing costs are going to be higher than you thought. There are moving costs to worry about. I never hear people say that buying a home was less expensive than they thought. And if you have savings built up to help cover these costs? That can make all the difference.”
However, some may not have enough equity in their house to profit from the home sale. This is when paying off your current mortgage can benefit you.
» MORE: See today’s refinance rates
Paying Off Your Mortgage and Negative Equity
Individuals who lack equity in their home – might even owe more on their loan than their home’s current value – or who plan to buy a larger, more expensive home with their next purchase might have more success paying extra on their current mortgage’s principal balance each month.
These buyers might want to put down a larger down payment on their next more expensive home so that their new mortgage isn’t too large. Owners who pay down their existing mortgage can build equity and earn more money at sale. They can then put these larger proceeds into a larger down payment.
Lisa Featherngill, managing director of wealth planning at the Winston-Salem, North Carolina office of Abbot Downing and a member of the National CPA Financial Literacy Commission, says that these same owners could choose to stow their extra cash in a savings account or other investment vehicle. The problem, though, is that if these owners want to sell in just two or three years, they might not have enough time to earn a high enough return on these deposits to make them worth their while.
“If you are looking at short-term options, even the best of the money-market accounts or savings accounts are paying out interest of less than 1 percent,” Featherngill said. “Putting your money into the mortgage might provide you with a bigger impact.”
It’s important to note that some lenders may charge a prepayment penalty if borrowers pay off their mortgage early, either by refinancing or paying more than the regular payments. This penalty compensates the lender for the interest they lose because the borrower repaid the loan sooner than the agreed term.
Is It Better To Pay Off My Mortgage Or Save?
The bottom line is if you don’t have enough equity in your home to profit from the home sale, it may be beneficial to put your extra cash towards your remaining mortgage balance. However, if you have equity in your home and will make a profit on your home sale, it’s best to put your extra money towards your new home or in savings.
Armando Roman, managing principal of Scottsdale, Arizona’s Axiom Financial Advisory Group, says that he advises homeowners to be cautious: Save extra money for an emergency fund instead of sinking them into larger monthly mortgage payments. Why? You never know when something expensive in your current home will go on the fritz.
You can never predict when something will go wrong with a home, even if you’re the type who remains vigilant with servicing and maintaining your home’s expensive appliances.
“It feels good to pay down extra on the mortgage,” Roman said. “I understand the feeling of accomplishment that brings to reduce your debt. But I always get nervous when people don’t have a cushion. If you don’t have a large enough amount of savings, what will you do if something goes wrong before you put your home on the market? You might have to resort to putting those repairs on a high-interest-rate credit card.”