Should You Pay Off Your Mortgage Early or Invest Extra Money in Markets? It Depends.

With mortgage rates hovering around 6%, and equities on a roller coaster, homeowners may be tempted to make extra payments on their home mortgage instead of investing in markets.

Many money managers recommend otherwise, saying the best way to get wealthy is to invest heavily in stocks, which tend to outperform real estate over time.

Barron's talked to economists and financial advisors to explain both sides of the debate.

Bill Banfield, chief business officer at Detroit-based mortgage lending company Rocket, has found that, faced with increased market volatility, more homeowners prefer to use their extra cash to pay down their mortgage debt rather than invest.

Before doing so, he says to ensure you have six to 18 months of emergency funds available, and to make sure you have paid off higher-interest debt, such as credit-card debt.

"You want to tackle the high-interest debt first," he said.

Banfield also says to keep in mind that mortgage interest can be tax-deductible. If you invest the money instead in markets and make gains, you may need to pay capital-gains taxes, which reduce returns.

"What I found is people often do a mix of both: Pay off part of their mortgage early, and take on some risk with investments," he said.

Lauren Moone, wealth advisor at New York-based wealth management firm Farther, says she has noticed that many clients like paying off their mortgages early, as there is an emotional cost to debt. "People don't like to have debt hanging over their heads," she said.

She tends to advise riskier investments, which in the long run can build households' wealth, but acknowledges there are risks involved. "Paying down a mortgage is a known win versus, in the short term, who knows what's gonna happen" in the markets, she said.

Whether investing is better than paying off a mortgage depends widely on someone's individual circumstances, she added.

People getting close to retirement might not have time to ride out a stock market downturn. Using extra cash to pay off a mortgage and eliminate a monthly expense might make more sense, she says.

There is a deeper question. Are reducing debt and investing in stocks truly comparable? Laurence Kotlikoff, a professor of economics at Boston University, says they aren't because they don't carry the same risk.

While the stock market has historically yielded around 7% annually—adjusted for inflation—there are huge swings from year to year. "It's a casino," Kotlikoff said. "In a typical year, stocks can be up 27% or down 14%," according to average historical deviations.

Paying down a mortgage should be compared instead with buying an inflation-adjusted Treasury bond, which carries the same amount of risk, he says.

Mark Struthers, founder of Minneapolis-based Sona Wealth Advisors, says a lot of his clients are more concerned about monthly cash flows than long-term returns. That encourages them to plow extra money into debt reduction rather than wait for markets to recover

"They think: 'If I pay this off, I'll have this much more this month to spend,'" he said, instead of looking at that money invested in markets over a longer time period.

Paying off a mortgage means losing liquidity, adds Moone: The extra cash is tied up in your home, while an investment can provide more liquidity. "It's easier to sell a couple of conservative investments during a downturn than to sell your house," she said.

Paying off a house also puts a lot of a household's wealth into just one basket, she added. If there's a recession and house prices are dinged, having all of your cash in a home means your net worth could drop, whereas a diversified portfolio of financial assets might be more resistant.

"At the end of the day, it's about your priorities and preferences," she said.

Banfield, on the other hand, says an upside to paying down mortgage debt is that you build equity, which you can draw on during tough times.

Home-equity lines of credit allow homeowners to tap equity when their household budget is squeezed. "Equity in your home can be a tool to consolidate credit-card debt, as long as you're not in a credit card-debt cycle," he said. "That's not a bad thing."

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