Fixed-rate mortgage payments, inflation, and investing

There were lots of great comments on my recent post about treating mortgage debt just like any other debt, meaning that it should be paid down faster than what is required by the lender.

One of the arguments against throwing more money toward a fixed-rate mortgage is that inflation will make the fixed payment smaller and smaller in terms of real purchasing power.  The lender is stuck with six-ish percent interest rate for 30 years, in current dollars, whatever those dollars happen to purchase.  So prepaying mortgage debt means to pay it down with more expensive dollars, which on the face of it is not a wise move.

Another argument against prepaying a mortgage is the opportunity cost in tying up the money in the equity of your home as opposed to investing it elsewhere.  With today's low mortgage rates, it's quite possible to earn more than your mortgage rate on a pretty safe investment.  If money should go where it's treated the best, why would it want to go to a mortgage that doesn't treat it very well compared with other places?

So is prepaying your mortgage a dumb move?  As with most other things in life: It depends.

• Are your expenses tiny compared to your income?  If so, then paying the minimum on a cheap fixed-rate mortgage is wise.  The reasoning is that the effects of inflation are minimal on your ability to meet your expenses.  The problem with inflation is that everything is affected by it.  Your mortgage payment may be cheaper in real terms, but everything you buy gets more expensive, too.  If your income isn't rising fast enough to counter the fact that everything else is getting more expensive, or if your income isn't so far ahead that you'll not have to worry about it, then a “cheaper” mortgage payment doesn't mean much.
• Is your local housing market steady or rising?  If so, then there's less worry that you'll be upside-down on your mortgage.  Some new borrowers are upside-down already, meaning basically that they would come out in the red if they had to sell now.   The less you owe, the more cushion you have built-in if you have to sell.
• Are your investing alternatives based on a calculated risk?  It's hard to argue for prepaying your mortgage with a bank certificate of deposit at 5% if your mortgage rate is below 5%.  Both are about equally safe, and the CD gives a higher rate of “return” for the money invested.  (The interest on the CD is taxable, but by the same token the interest you don't pay on the loan is not tax-deductible.)  However, trying for something better than your mortgage rate can be a disappointment if the investment doesn't work out.  If you prepay some of your mortgage, you will pay less interest and you will have more equity.
• Are you all right with an emergency fund?  If not, then it's probably not wise to throw a lot of extra money toward your mortgage because you can't get that out easily.  It's better to have some liquid assets available if things go south.
• Will you actually invest the additional money rather than spend it?  Prepaying a mortgage has as a drawback that you can't withdraw prepayments once you've made them.  Your equity isn't like a bank account unless you have a HELOC open.  But that's also its strength: it's not available for you to spend!  As commenter Lifeguard, who is investing rather than prepaying his mortgage, pointed out:

The danger for my approach is that I see a huge pile of cash that I can spend, say on a trip to Maui, instead of paying off the mortgage. Discipline. Discipline. Discipline.

Both investing and prepaying your mortgage are good things to do, and deciding which to do depends on your individual financial situation, your tolerance for risk, and your aversion to debt.  The main point I was trying to make with the previous post is this:  You owe on your house until you don't.  Paying the minimum each month ensures that you will owe on the house as long as possible.  So if you feel you can afford to owe on your house, then there are good reasons for keeping a low-interest, fixed-rate mortgage as long as possible.  If you feel that you'd like to own your house free and clear, for whatever reason, then it makes sense to get rid of that mortgage debt as soon as possible.