LAST week I interviewed a client who shared how liberating it was to finally be debt-free.

Eleven years ago this client purchased her home with a 40-year mortgage. She simultaneously invested in stocks and bonds with modest amounts and continued over the years to make regular deposits. However, as the cost of living increased her debts also grew. She recognised that to invest more, a decision must be taken to reduce her debts. This client committed herself to paying off her debts within a specific period. Retirement planning is a long-term journey and she desires to live comfortably when those years dawn.

According to her, upon assessing her mortgage statements she realised that after 11 years of monthly mortgage payments, her principal balance was untouched. It appeared that all payments were allotted to mortgage interest. In her own words, ‘in 11 years I paid the principal three times’. The decision to pay off her mortgage early was not easy. It required tremendous sacrifice and discipline. She knew that a mortgage is a debt and, coupled with car payments, also offered some level of discomfort as the weight of the debt restricted her ability to invest for her emergency needs and long-term goals. Being uncomfortable with the debts, she denied herself some of the joys of life. She understood the benefits of delayed gratification and chose to live below her means.

Having paid off both the car loan and her mortgage early, she felt free — financially free. Finally, she owns her home and her car and there are no more car monthly payments. These two debts were a monthly burden. She was especially pleased with her accomplishment of paying off for her home early, saving millions of dollars and 29 years of monthly mortgage payments which can now be invested.

There are good reasons and benefits to paying off a car loan early. Since the client wanted to have more cash available for other financial goals, having the car loan paid off early makes economic sense. If the interest rate on a car loan is higher than the interest that could be earned if funds were invested, then paying off the car loan early is a good idea. If there is adequate cash reserve already in place for emergencies then paying off the car loan early can prove beneficial. Paying off a car loan early also helps with an investor’s debt-to-income ratio, especially if the goal is to purchase a house or land. The debt-to-income ratio is the percentage of one’s gross monthly income that is used to pay debts. Having a low debt-to-income ratio is favourable when refinancing other loans or consolidating credit card debts.

A major benefit of paying off your home early is the security of not losing your home should a major financial setback occur. The challenge, however, in paying off a home early is the risk of losing interest because funds that could be earmarked for investing are channelled to clearing a debt. Paying off mortgages early can also exhaust funds earmarked for emergencies, and put the homeowner in a precarious position should a financial setback occur. Therefore, having a well-resourced emergency fund is important when consideration is being made to pay off your mortgage early.

The aforementioned client asked whether the decision made to pay off both her mortgage and car loan early was a wise one. I commended her for the decision made as she had a sound financial plan in place. She implemented a diversified investment strategy 11 years ago that has weathered the economic storms and the volatility of the stock market. Her long-term financial portfolio of stocks and bonds has grown significantly, despite the continuous decline of the stock market over the past four years. The performance of the stocks (high-risk) over the 11 years outperformed bonds (low-risk) over the same time. This client had a long-term mindset. Her investment decision 11 years ago now offers enough buffer at a time when she needed funds for other financial needs. She was amazed that her financial portfolio had performed so well. Compound interest, time, discipline, and diversification worked together to create financial freedom for this client.

The importance of making consistent regular payments is based on a principle called the law of accumulation. It states that every action, great or small, contributes to our overall success. In applying the law of accumulation as an investment principle it simply means that small and sometimes insignificant actions repeated over time lead to great results. The client demonstrated that the law of accumulation works. When investing in stocks the longer the funds are left undisturbed the greater the compounding of the returns. Her diversified portfolio is poised for exponential growth and her other investments, when combined, are on track to build a significant retirement nest egg. Her pension account is also on track to provide a continuous stream of income for retirement. Being uncomfortable is not always a bad thing. It can propel change that will build the momentum needed to clear debts and increase investments. It was a joy to witness the sense of satisfaction a client feels in saying “I am financially free”.

Grace G McLean is a financial advisor and retirement specialist at BPM Financial Limited. Contact her at gmclean@bpmfinancial or visit the website: www.bpmfinancial.com. She is also a podcaster for Living Above Self. E-mail her at livingaboveself@gmail.com