Paying off your house generally does not cause your property taxes to increase, but it will likely increase your federal income tax liability because you lose the mortgage interest deduction. While you save on interest payments, the inability to itemize deductions can result in a higher taxable income.
Yes, if you pay off your mortgage early, you will lose the ability to deduct your mortgage interest. This could increase your taxable income and may also affect your ability to itemize your deductions. To understand the nuances of the potential tax implications, a tax professional can provide more tailored advice.
Key Changes After Paying Off Your Mortgage:
You receive the tax bill directly. Instead of your lender handling payments, your county tax assessor will send the bill straight to you. No more escrow account. You must set aside money for property taxes yourself.
When you sell your primary residence, $250,000 of capital gains (or $500,000 for a couple) are exempted from capital gains taxation. This is generally true only if you have owned and used your home as your main residence for at least two out of the five years prior to the sale.
Here are a few steps you'll need to take once you've paid off your mortgage:
“Paying off your mortgage early seems impossible but it is completely doable and people do it all the time, but how can you do it and why would you want to put in the extra effort? Paying off your mortgage early will rev up your wealth building.”
"Shark Tank" investor Kevin O'Leary has said the ideal age to be debt-free is 45, especially if you want to retire by age 60. Being debt-free — including paying off your mortgage — by your mid-40s puts you on the early path toward success, O'Leary argued.
As a general rule, paying down your mortgage may cause your tax liability to go up, since you will be paying less deductible mortgage interest (which of course, is not a bad thing!) However, if you are not itemizing your deductions but are instead taking the Standard Deduction, then it will have no effect.
Suze Orman strongly advocates paying off your mortgage by retirement for financial freedom and peace of mind, but her advice on how varies by situation, often prioritizing a solid emergency fund and retirement savings first, especially if interest rates are low. While she pushes for paying down debt aggressively (even reducing retirement savings beyond the 401(k) match), she cautions against draining savings for low-interest mortgages if it leaves you vulnerable to job loss or emergencies, suggesting you should have a strong safety net before using savings to pay it off.
The 3-7-3 Rule in mortgages isn't a loan type but a federal timeline from the TILA-RESPA Integrated Disclosure (TRID) rule, ensuring borrower protection by mandating disclosures within 3 business days of application, a 7-business-day wait between the initial Loan Estimate and closing, and another 3-day wait if significant changes (like APR) occur, giving borrowers time to review costs before committing to a loan.
Cons
Mortgages can act as a hedge against inflation. As inflation rises, the real value of your fixed mortgage payments decreases, making it cheaper to repay in the future. This is a compelling reason why you should never pay off your mortgage, as inflation effectively reduces the cost of your debt over time.
In fact, according to Public Policy Institute of California, 58 percent of California's equity millionaires, as of 2020, had successfully paid off their mortgages.
If you use your former home to produce income (for example, you rent it out or make it available for rent), you can choose to treat it as your main residence for up to 6 years after you stop living in it. This is sometimes called the '6-year rule'. You can choose when to stop the period covered by your choice.
Under our scenario above, if the homeowner were single, her federal capital gain would be $400,000 - $250,000 = $150,000, and her federal capital gain tax would be $150,000 x 15% = $22,500.