Saving some of our income creates the foundation to build wealth. Our savings form the base. Any investment gains are built on top of these savings. If you don’t have a base, you won’t have much in investment gains.
There’s an age-old rule of thumb: save 10% of your income. Better savers save 20% of their income. More aggressive savers save 30% or 50% of their income. Your savings rate and the time it will take you to retire are connected in some interesting tables found online. The higher your savings rate, the sooner you can retire.
You must be aware of the amount you are saving, regardless of whether you measure it against your net or gross income. At first glance, your savings are simply what you don’t spend.
However, confusion starts as soon as you have a mortgage or other loan payments. In 2015, a lengthy discussion on the Bogleheads investment forum asked: “Do you consider mortgage payments as savings?” After more than 400 posts, no consensus was reached. Eight years later, the same question was raised in Is paying off debt a savings?, but after more than 200 posts, there was still no conclusive response. Some people said paying down debt was savings. Some people said it wasn’t. The moderator had to lock the thread because the discussion turned contentious.
Whether mortgage and other payments are savings or expenses shouldn’t be wishy-washy whatever you consider them to be.
Why does it matter whether it’s savings or an expense? It isn’t for comparing yourself with others. It matters because savings are better than expenses in building wealth. If it’s savings you should do more of it. If it’s expenses you should do less of it unless it brings income elsewhere.
If mortgage payments represent savings, do you save more the larger your mortgage? If mortgage payments represent expenses, do you incur more when you make extra mortgage payments, or when your loan term is 15 years as opposed to 30 years? Are the “extra” mortgage payments the only ones that represent savings, while the “regular” mortgage payments are considered expenses?
This isn’t only about a mortgage. The same questions also apply to student loans, car loans, and credit card debt. If credit card payments are savings, are you increasing your savings when you charge a large amount on your credit card and then pay it off, or are your expenses lower and your savings higher when you make only the minimum payment on your credit card and transfer the difference to your bank account?
Let’s get to the bottom of this confusion. I will start with simpler parts and build up from there.
The age-old question: are mortgage payments considered savings?
The answer, like most things in life, is not a simple yes or no. It depends on a few factors, like your financial goals and how you view your homeownership journey.
Let’s break it down.
The Case for Mortgage Payments as Savings
- Forced Savings: Traditional mortgages that pay down principal and interest essentially “force” you to save. You’re obligated to make those monthly payments, and a portion of each goes towards the principal, which builds equity in your home. This equity can be considered a form of savings, as it represents the value you’ve accumulated in your property.
- Tangible Asset: Unlike other investments, your home is a tangible asset. You can touch it, live in it, and potentially sell it for a profit down the road. This adds a layer of security and stability to your financial portfolio.
- Tax Benefits: In some countries, like the United States, you can deduct mortgage interest from your taxes, which can save you a significant amount of money. This further strengthens the argument for considering mortgage payments as a form of tax-advantaged savings.
The Case Against Mortgage Payments as Savings
- Opportunity Cost: The money you put towards your mortgage could be invested elsewhere, potentially earning a higher return. This is the opportunity cost of choosing to pay down your mortgage instead of investing in stocks, bonds, or other assets.
- Illiquidity: Your home equity is not as easily accessible as cash in a savings account. Selling your home or taking out a home equity loan are options, but they come with their own set of challenges and fees.
- Market Fluctuations: The value of your home can fluctuate, meaning your equity is not guaranteed to grow over time. This adds an element of risk to considering your home as a primary savings vehicle.
So. are mortgage payments savings?
It depends on your perspective. Yes, mortgage payments are a type of savings if you see your house as a long-term investment and are willing to accept the illiquidity and possible market fluctuations. However, alternative investment options might be more appropriate if your top priority is maximizing your returns and you require quick access to your money.
The choice of whether or not to count mortgage payments toward savings is ultimately a personal one. Carefully weigh the benefits and drawbacks, take your financial objectives into account, and select the option that best fits your overall financial plan.
Here are some additional factors to consider:
- Your financial goals: Are you saving for retirement, a down payment on another property, or something else? Your goals will influence how you prioritize different investment options.
- Your risk tolerance: How comfortable are you with the potential for market fluctuations and illiquidity?
- Your investment options: What other investment options are available to you, and what returns can you expect from them?
By carefully considering these factors, you can make an informed decision about whether or not to consider mortgage payments as savings.
Remember, there’s no one-size-fits-all answer. The best course of action is to do your homework, comprehend your options, and select the option that is most appropriate for you.
Loan Principal Payments Are Savings
Feel free to make additional principal payments toward your loans. The additional payments are still savings.
Feel free to get a mortgage with a shorter term for a lower rate. You lower your interest expenses and the higher principal payments are still savings.
Feel free to finance when terms are favorable. The principal payments are just as valid savings as sending money to your bank account.
On the other hand, if you have large loan balances from major purchases (luxury cars, vacation, education, expensive house, etc.), you also have large non-cash expenses from recording those purchases. This reduces your savings. Therefore, reduce those unless an expensive home increases in value or an expensive education results in a higher income.
Some people say paying down debt is neither savings nor expenses. They say it’s only a transfer from one pocket to another.
When we talk about saving versus spending, we’re talking about it in the context of one’s income. Debt repayment from income is what we’re talking about; selling assets to pay off debt is merely a transfer. The money you don’t spend is first saved in cash, which you then use to settle debt. While the last step is indeed a transfer, you already saved the money. Whether the money is saved for a bank account or debt repayment, it is still savings.
Expenses Come From the Purchase, Not From the Payments
Person C, who chooses to keep the old car instead of spending $30,000 on a new one, is what makes a difference. Person C keeps $100k and puts $500 a month into the bank account. In a few years, Person C will have a larger net worth than both Person A and Person B if the old car keeps running smoothly.
Depreciation experts would know that the $30k new car’s value needs to be recorded over a number of years. Both Person A and Person B have this non-cash depreciation expense. Because of this, even though Person A is saving money and Person B has car payments, they are both in the same situation. Person C’s depreciation expenses are lower.
Our savings formula should be revised to:
Now it’s clear why Person C is saving more than both Person A and Person B. Although making principal payments on a loan reduces one’s savings, whatever the loan was used to purchase comes with non-cash costs. Person B’s expenses are greater than Person C’s not because Person B is paying off a car loan, but rather because Person B purchased a new vehicle.
Expenses come from the purchase, not from the payments. If you buy the same thing, paying cash versus financing is only a secondary issue. To really lower your expenses, don’t buy or pay less.
We finally have a logically consistent answer.
Should You Speed Up Mortgage Payments with a 7% Interest Rate?
FAQ
Do you count mortgage payments as savings?
Is paying mortgage saving money?
Is paying a mortgage the same as saving?
Does your house count as savings?
Do mortgage payments count as savings?
If you have a traditional mortgage that pays down principal and interest, the mortgage “forces” you to save because you are forced to pay your mortgage every month if you want to keep your property. A percentage of each mortgage payment goes towards principal, which can be considered savings. Does principal payment count as savings?
Should you make monthly mortgage payments?
When most people buy homes using mortgage loans, they make monthly payments. This once-a-month option is common, and it’s convenient as these payments are made on the same day each month. This makes it easy to keep track of your payment due date. For even more convenience, many opt for automatic mortgage payments.
Why are my monthly payments the same if I get a mortgage?
There’s a simple reason for that: your monthly payments are the same for the entire life of the loan, assuming you choose a fixed-rate mortgage (which is the right choice for most people, because it provides predictability). At the beginning of the loan, you haven’t paid down any principal.
How do I save money on a mortgage?
Refinance Your Mortgage The most common way to save money is by refinancing your mortgage to a lower interest rate. Reducing your rate can lower your monthly payment and help you save on interest payments. However, there are costs associated with refinancing so you want to be sure you are going to save enough to cover the refinancing fees.