Is it smart to pay off your home mortgage?

There is perhaps no greater comfort than paying off a mortgage. That's why John Sheridan, a publicist from Houston, is seriously considering prepaying his 15-year, 5.5 percent VA mortgage, on which he has an outstanding balance of $70,000.

"Why should my wife and I pay $9,000 a year for a $4,000 tax deduction?" says Mr. Sheridan. "I just think it's our best investment these days. If we were getting a good rate of return in the bank, I could then see the benefits of investing our money there."

Over the past three years this type of thinking has made a lot of sense. Last year, home prices in the United States increased an average of more than 7.5 percent, the fourth consecutive year of gains, according to the Office of Federal Housing Enterprise Oversight in Washington. During this same period, homeowners who prepaid their mortgages reaped even better returns as they built up greater equity and eliminated their finance charges. By contrast, the Standard & Poor's 500 stock index is down about 11 percent over the past three years.

So is it time to pony up the cash and take full ownership of your homestead? There are no hard and fast rules. Almost all Americans take out a mortgage when they buy a house. And nearly two-thirds of them still owe something on it - $82,010 for the median homeowner, according to the latest census figures.

Whether you should join the one-third of homeowners who are mortgage-free depends on a key question: Would the money you put into paying off the mortgage earn more invested in stocks or bonds?

Answering that question isn't always easy. Experts suggest homeowners consult a financial adviser or an accountant. And the answer changes over time.

"For the past few years, investing in real estate has been a smart move," says Rob Johanson, a certified financial planner, accountant, and licensed real estate broker in Westlake Village, Calif. "But while prepaying your mortgage may give you a sense of pride and can be a great investment for some, it isn't for everyone."

If the past few years have favored those who pay off their mortgages, a lackluster stock market and the rise in interest rates are complicating the picture.

"You need to first take a look at the opportunity cost of paying off the mortgage," says Ric Edelman, a certified financial planner in Fairfax, Va. "That means figuring out what your return on investment would be if you prepay your mortgage."

Calculate carefully. The return is usually less than your mortgage interest rate, once taxes are taken into account. That's because making extra principal payments will reduce your tax deduction on the interest. If your interest rate is pretty low, then extra payments might not be such a good idea.

"I think prepaying a mortgage is a terrible idea," says Mr. Edelman. "Over the next 30 years, I think it's reasonable to assume that you can earn more by investing that money in stocks, bonds, and mutual funds."

But prepaying your mortgage can save tens, if not hundreds, of thousands of dollars in interest if you're in the early years of your mortgage (when your payments are mostly interest).

Some financial planners often advise clients to round up the amount they pay on their mortgage every month. So for a $200,000 30-year fixed-rate mortgage at 7 percent, your monthly payment will be about $1,330. If you round that up to $1,400, you'll pay your loan off in 26 years and you'll save $48,000 in interest.

To achieve even better results, just add 10 percent to your monthly mortgage payments. By doing so in the example above, you'd pay an extra $133 a month and save over $77,000 in interest.

Of course, you need to remember two important things: Be sure to inform your lender that the additional monthly cash is meant to be applied to your principal. And make sure your lender doesn't charge any prepayment penalties.

"You also need to determine if you will still have a good cushion of cash available for retirement, insurance, long-term goals and any emergency - after paying off a mortgage," says Barbara Ames, a certified financial planner in Rockville, Md. "You don't want to be house rich and cash poor. This is a major danger for an older person on a fixed income."

In fact, an unforeseen event such as a disability or an illness - after paying off the mortgage - could force you to borrow later, when rates may be significantly higher.

This is particularly important if you're within a decade of retiring. According to a just-completed study by the Harvard Joint Center for Housing Studies, one in four families headed by someone 65 or older was still paying a mortgage in 2001 compared with one in six just two years earlier. And the rise in mortgage-bound retirees has continued.

The average mortgage debt among older homeowners nearly quadrupled from $12,000 to $44,000 between 1989 and 2001, according to the Harvard study.

"Ultimately, the decision about whether to prepay a mortgage is a personal one and involves a number of intangibles," says Steven Street, an accountant with Ross & Moncure in Alexandria, Va. "If it doesn't put you in a bind cash-wise, I'd definitely recommend paying it off."