Should I pay off my housing loan first?

One of the most popular questions that I encounter in forums discussing personal finance is whether you should pay off your housing loans or save some spare cash or balances in your central provident fund for other uses.

The perennial debate on using leverage never ceases and sometimes can get very heated in some of the forums I participate in. Some of the main arguments for and against paying off debt early are as follows:

Arguments Against Paying off Debt early
1) Spare cash for potential investment opportunities at a higher return than debt
2) Using the spare cash or Central Provident Fund (CPF) balances as a buffer against possible job loss
3) Insurance would cover the housing debt (i.e. mortgage insurance of CPF's dependents' protection scheme)

Arguments For Paying off Debt early
1) Interest rate on debt if fixed, paying off your liabilities saves you interest costs
2) When you are younger, job less is less likely vs in your middle age
3) Difficult to find investments that will give a risk-free rate of return higher than your mortgage interest rate

There are more reasons but my own view is that you should generally pay off your debt first for the following reasons:

Alternative investments yielding more than mortgage interest
This is one of the main reasons why I decided to pay off my housing loan as much as I could each time I received my bonus or had some cash savings or CPF ordinary account balances exceeding my monthly instalments. It is very difficult to find risk-free investments that paid a return higher than my mortgage interest rate, which at one point hit 4% plus as it was a bank loan and not a HDB concessionary loan.

By paying off your housing loan, you confirm getting a "return" through the savings on interest payments that you would have to pay. This can be significant if you compute the present value of the stream of interest payments you save!

Loss of Job and Income is less likely when you are young
In today's globalised economy, Singapore is very susceptible to external shocks to prices of commodities such as oil prices and energy. The economy's growth is dependent on the global economy and the US's economies. Our job market is such that when you are young in your twenties and thirties with the relevant education and experience, keeping your job is not too difficult. The picture changes when you hit your 40s and 50s as our Singapore labour market practices subtle age discrimination. You just have to look back to the 1997 Asian crisis and th number of those educated men in their 40s and 50s who were retrenched. Many were not able to get back their similar jobs at previous pay levels and had to become taxi-drivers or accept lower paying jobs.

This reality scares me and is one of the key factors that make me paranoid about my own financial security. Hence, it helped to shape my attitude and approach towards paring down my housing loan early.

HDB Concessionary Loans (2.6%) vs CPF Ordinary Account (2.5%)
Many of you have taken up HDB concessionary loans at 2.6% concessionary rate. You argue that by stretching the loan to 30 years, you will have more spare cash every month to invest. This allows you to "borrow" from HDB at 2.6% and invest for a return higher than 2.6%. However, this approach is not without consequences. For instance, unless you have investible savings more or equal to your outstanding mortgage loan balance, you would need to find investments that are significantly higher than 2.6% to be able to gain.

For most people who are relatively inexperience in personal investments, this is not easy. Current treasury bill yields are about 2.1% which is the closest thing to a risk-free return you can get for small amounts of $1,000. Hence, let's say you only have $50,000 spare cash and CPF ordinary account balance to invest, you would need to find an investment that generates more than 7.8% to be able to "gain" by having investment returns exceeding your borrowing costs. :)

If you intend to buy a home, it is inevitable that you would have to take up a bank or HDB loan to finance it as most of us would not have the amount of cash to pay 100% of the purchase price. But be prudent in how much leverage you want to take on because compound interest on the housing loan makes your home cost much much more than the purchase price!

Be well and prosper.