5 Things To Do First When You Get a Large Sum of Money
What the Experts Have to Say: You've received a large lump sum of cash and want to put it to use. Should you pay off your mortgage or invest that money?
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There is no simple answer to this question as it depends on a number of key factors, namely the aspects or criteria of your mortgage and investments. By illustrating these factors you'll be better armed to make this choice.
The question boils down to: Which of these - the investment or the mortgage repayment - takes greater advantage of the money you received? Key Takeaways If you've received a windfall of cash and have a mortgage, it may be tempting to use that money to pay off the mortgage early and live debt-free.
While this may sound like a smart strategy, it could also be where you can make a large amount of money conservative since mortgage interest can be tax-deductible and mortgage interest rates tend to be relatively low.
What should we do with that large amount of cash in our investment account?
Using that money to invest in the market can generate higher returns than the interest rate paid each year on the home loan, but markets also come with the risk of losses or underperformance.
Paying off the Mortgage A mortgage payment is composed of two parts: the repayment of principal and the interest expense that where you can make a large amount of money charged by the financial institution holding your mortgage.
The principal repayment goes towards the paying down the original purchase price of the home and the interest is the expense charged for borrowing the money over time. What you need to consider is the interest rate on your mortgage.
You've just received a large amount of money, now what?
If it is a fixed-rate loanis that rate higher than you can afford? Could you benefit from reducing the amount owed at such high interest?
If the mortgage is adjustable, do you think interest rates are going to rise in the future making your monthly costs more expensive?
Investing in the Market The other side of the question is the investment decision. There are several factors to weigh when evaluating an investment.
The first is its expected return - is it so attractive, with high expectations of growth, or is it in the more conservative mutual funds or bonds category? The more attractive the investment, the more likely you'll invest the money. The higher the investment return, the more likely you are to invest than paying down the mortgage - but make note that these returns are never guaranteed.
Ultimately, if you think that the investment will give you a net after-tax return that is higher than your net interest cost on your mortgage, it could be wiser to invest. Risk Tolerance What is crucially important to your decision making is knowing your risk tolerance - the more risk you take, the higher your expected return.
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The stock market does provide exciting returns but it can also devastate like it did for many investors in when the dotcom bubble burst. If it is expensive debt that is, with a high interest rate and you already have some liquid assets, like an emergency fund, then pay it off.
If it is cheap debt a low interest rateand you have a good history of staying within a budget, then maintaining the mortgage and investing might be an option. So the best course is usually somewhere in between: If you need some liquidity, then pay off a large chunk of the debt, and keep the rest for emergencies and investments.
Just make sure you take an honest look at what you will spend and what your risks are.