Before you agonize over whether to max out your 401(k) contributions or pay down your mortgage ahead of schedule, take a moment to congratulate yourself on your achievement. You've reached a level of prosperity and stability that relatively few Americans are able to achieve in this tough economy. Your continued economic success depends upon your ability to make smart choices and stick with your long-term financial plan.
Whether you choose to max out your 401(k) contributions or pay off your mortgage lender, you stand to save or earn substantial amounts of money by doing so. If you choose the first option, you stand to increase your rate of capital accumulation as you near retirement. While you may not actually increase the rate of return on the funds that are already in your retirement account, you'll boost your earnings by freeing up more funds to earn interest and dividends on a tax-free basis. You'll also reduce the total amount of annual income that you expose to federal and state taxation. The total amount that you'll earn by maxing out your contributions depends upon the amount that you invest and your account's effective rate of return. Your age when you make the contribution will also play a role.
If you choose the second option, you stand to save many thousands of dollars in interest payments to your mortgage lender. You'll also free yourself from the burden of having to remember to send a check or EFT transfer to your bank each month. The exact amount of money that you'll save by paying down your mortgage ahead of schedule depends upon several factors. These include the total paid-off balance on the loan, the amount of time left on the mortgage, and the effective interest rate that your bank had been charging on the debt. If the loan had an adjustable interest rate, your savings calculations will be considerably more complex.
Both options have merits and drawbacks. Some financial experts recommend that you max out your 401(k) contributions to increase the growth of your funds and minimize your taxable income. However, 401(k) savings are subject to the volatility of the equity markets. Others recommend that you pay down your mortgage as quickly as possible to negate the risk of investing in the stock market. You should aim to pay off a large mortgage in a timely fashion. Otherwise, max out your 401(k) contributions.