Why a 2.5% Mortgage May Be Worth Keeping in Your 70s

A question from a reader has become a common one among retirees. A couple in their seventies has a mortgage at 2.5 percent and wants to know whether to pay it off early or keep building savings. Their reasoning turns on a date. In ten years, when one of them is 84, they expect to need a substantial amount of cash. That timeline shapes the whole decision.

The basic arithmetic is simple. Prepaying a 2.5 percent loan earns a guaranteed return of 2.5 percent, the interest you stop paying. A high-yield savings account, a Treasury bill or a money market fund can pay more than that at many points in the rate cycle, and the money stays within reach. When cash is earning more than the mortgage costs, keeping the loan and holding the cash is the stronger position on paper. Taxes can change the picture. In the United States, many homeowners who take the standard deduction get no tax benefit from mortgage interest, so the loan's stated rate is close to its real cost. Rules differ by country, so a tax preparer should check the details for any specific household.

The bigger issue is liquidity. Money used to pay off a mortgage goes into the house, and a house is slow to turn into cash. If a large bill arrives at 84, such as long-term care, a major repair or a family emergency, the couple would have to sell, borrow against the home or withdraw from retirement accounts. Each route has costs and can take time. A home equity line of credit can help, but lenders look at income and credit, an older borrower may find it harder to qualify, and some lenders freeze or reduce lines during downturns. Once the mortgage is gone, that equity is locked in place.

Where the cash comes from also matters. Withdrawals from tax-deferred retirement accounts are taxed as income, so a large expense funded that way can push a household into a higher bracket. Savings held in taxable accounts, or in bonds and certificates of deposit that mature near the date the expense is expected, avoid that surprise and keep the plan predictable.

Most planners suggest a middle path rather than an all-or-nothing choice. First, keep an emergency reserve of 12 to 24 months of spending in cash. Second, match the money earmarked for the age-84 expense to its timing, using instruments such as Treasury bills or a ladder of certificates of deposit. Third, consider a partial prepayment with whatever is left over. A smaller mortgage lowers the monthly payment, which can matter as much as net worth if the household's budget is tight. Paying down part of the loan can make sense even when the full payoff does not.

Before sending any extra money to the lender, confirm there is no prepayment penalty and that extra payments go to principal. Ask whether the payment will be recalculated or stay the same, and whether the couple could borrow again later if needed. Unlike savings, prepaid principal cannot be pulled back out.

The right answer also depends on the couple's health, other assets, whether a surviving spouse would keep the home, and whether they expect to move. A fee-only financial planner, who is paid by clients rather than commissions, can model these scenarios with real figures. For most households holding a 2.5 percent loan, the case for keeping the mortgage and holding accessible savings is stronger than the appeal of being debt-free.