Implementing a Mortgage Sinking Fund

Over the years I have addressed the issue of whether or not to pay off your mortgage early numerous times. It seems the decision to do so, not to not do so, is very much like most financial decisions – it’s personal.

Sure, there are a few mathematical advantages to doing it one way or the other. And yes, those advantages may be magnified depending on your current mortgage’s interest rate. However, if you leave math out of the equation (not easy), the decision to put extra money towards a mortgage is largely an emotional decision.

More Cash or a Paid-for Home?

Imagine you had a savings account with the exact balance of your mortgage. The savings account earned 1% interest (I know I said to leave math out of it, but we’ll get to that), and your mortgage rate is 5%. Would you write a check and be mortgage-debt free, and cash poor?

My guess is you would not. I tend to agree. Again, there are mathematical advantages to paying off your morgage early. In our scenario, you are essentially paying 4 more percentage points than you are earning every year for the right to continue to borrow money from the bank to live in your home.

But by writing a check to pay off your mortgage you have essentially wiped out all of your cash. What will you do when the hot water heater breaks, or someone gets sick, or you lose your job (trust me, one of these things will likely happen if you spend 100% of your cash). Yes, there are credit cards and home equity lines (maybe) to finance smaller emergencies, but when this happens you will sure miss that cash reserve.

The Mortgage Sinking Fund Concept

Being the overly conservative person I am, unwilling to take huge risks and being quite content with a healthy emergency fund, I would probably opt to create a sort of mortgage sinking fund.

I would essentially have my mortgage payments withdrawn from that large savings account each month. I would continue to put a little extra towards the principal balance as my monthly cash flow allowed. And I would continue to build savings in other areas – a dedicated emergency fund, investments, retirement, etc.

When my other savings were sufficiently in place to handle emergencies, and my mortgage balance had been whittled down a bit through a few extra payments, then I might be comfortable writing a single check.

The main advantage to this plan is that I get to hang onto my cash reserve for a rainy day (and I mean, really pouring). I think that is a good idea with economic uncertainty becoming the new normal and probably continuing for the foreseeable future.


  1. You make a valid point.

    My wife and I are currently working towards paying off the house, as it is the only debt we have. We have a considerably sized savings but are unwilling to toss it all at the house. Instead, we’ve set up extra principle payments that come out automatically each month.

    Works like a charm and I don’t have to remember to write the check.

  2. One thing that you didn’t note in your post. The FDIC has changed rules on automatic debits in Savings Accounts. The Sinking Fund concept is an awesome one but the new rules indicate that Savings accounts can only have 6 automatic debits per month. This works great if you only have the one payment (mortgage) coming out but be careful if you use the sinking fund for all of your debits.

    My wife and I had to split our sinking fund into two sinking funds. It isn’t a problem but something to note for your readers who may be setting up one for the first time.

    Great blog!

    • That is a good point. It might be a good idea to have a single, large withdrawal from savings to checking and then having the subsequent withdrawals come from checking. Adds another layer of automation, but offers a way around the transactional limits on savings accounts.

  3. I’m with you, never put 100% of your money into your house. And this is coming from someone who wants to be mortgage fee as soon as possible.
    I don’t think you should start paying off your mortgage until other debts are paid off, you are fully funding retirement, and you have a solid emergency fund.

    Here’s a question for you along the lines of keeping some liquidity. How much of your liquid savings would you put toward a downpayment on a house? Everything that isn’t your emergency fund? Assume everything mentioned above holds. Just something I’ve been trying to figure out myself.

    • NoTrustFund,

      I wouldn’t do everything but the emergency funds. For me, I like it safe. I think keeping $5000+ when you go to pay off the home would make me comfortable.

  4. I was thinking the same as Joseph. You don’t have to pay the WHOLE mortgage off, just figure out what you want as the emergency fund, and put the rest into the mortgage payment.
    I keep thinking about putting a little extra into my mortgage each month, I need to just do it!

    • Just set it up Ken! My wife and I didn’t when we first purchased the house and I regret it. We would have been much further ahead had we done that one simple step.

  5. Timely post. But I have a freshman in community college and a junior in high school. The fafsa considers the money we’ve saved being frugal as money to be used by the colleges. I’m evaluating putting a large portion to our 15yr mortgage to create a win-win of reducing our expected financial contribution and moving a couple of years off our mortgage. we’d keep our emergency fund intact. Any thoughts on such an approach? Thanks!

    • Probably not a bad idea, Travis. Can the FAFSA reach back and determine your cash balance from x months ago? Or does it only take into account current assets (or very recent – say last 60 days)? It’s been a while since I completed one of those myself, but won’t be long before I may have to do it again!

      • They take a bank account snapshot from when you submit the forms. It was frustrating, because we keep running into situations like this where we would be “better” to have bought a new car or cranked up more debt. You’re sure swimming against the current, but I appreciate your daily blog.

    • FAFSA considers any savings, even in an IRA, as disposable IIRC. When the rules changed on withdrawals for higher education, the Pell Grants disappeared for those of us that scrimped and saved all our lives.

  6. Each year I decide how much extra to pay and set up automatic payments through my bill pay. It may be $5/month or $500/month. Some friends get 15 year mortgages to pay their house off earlier. I don’t get it. I prefer the flexibility of a longer mortgage and just make a larger payment.

    • I don’t quite understand the 15-year mortgage either, particularly when 30-year rates are so low (seems like there used to be more of a spread between 15 and 30-year rates).

      I suppose if you lacked the discipline to make extra payments it might make sense to go with a 15-year. After all, as Dave Ramsey likes to say on the subject, 15 year mortgages always pay off in…15 years.

      • I always knew about the 15 year mortgage and wanted to do it when we purchased our first house. However, our mortgage broker talked us into a 30 year. He told us that we could always pay off early, just make extra payments.

        Five years into the loan and we had yet to pay extra. There was always something more important or urgent. Then I realized what we had been doing and how stupid it was.

        Now that we have set up the extra, automatic deductions we don’t have that problem. The money comes out and we have no easy control over it.

      • I understand not taking out a 15 year if it makes things too tight on your budget, but it sure seems counter intuitive to take out a longer loan, at a higher (even slightly) intrest rate. My early approach was to shift that money to investments, trying to make enough on the investments to offset the loan rate (i.e., make money on their money). Then about 10 years ago, I saw people losing their jobs and I thought to myself what is my biggest concern?- the mortgage. If I’m going to make the extra payment anyway, I might as well get the lower interest rate- especially when it’s over a15 year period.

  7. We paid extra on our mortgage from the beginning because our original mortgage was an 80/10/10 where the extra 10 was a 15 year balloon. I didn’t like the idea of being forced into a refi if rates were bad so I just made the calculations to pay off the 15 year balloon in 15 years. Since then we’ve refinanced twice and I’ve kept my payments the same so the ‘savings’ from doing the refi become added principal payments (always making sure to keep my amortization schedule the same).

    We just completed our latest refi down to 4% fixed with 25 years left on the original term but given the added payments we’re slated to pay it off in about 16 or 17 years. That means our original 30 year note would be paid off in 21 or 22.

    We also looked at a 15 year in this last round of refinancing but the spread wasn’t worth the liquidity hit. I can always pay more, but if I lose my job I didn’t want to lock myself into the higher required payment.

  8. Last year I refinanced — I took the 30 year, despite being a big Dave Ramsey fan. I wanted the flexibility and am still glad I did it. I have a modest mortgage on a modest home on a modest income in an increasingly expensive town (Austin, Texas). I’m working to pay the whole thing off in 7 years — it is a big bite, but I’m also staring down the barrel of supporting my parents in about 10 years and want this mortgage off my plate. However, I have a HUGE “security glad” and don’t like sending off almost $1400 extra each month, even though I know it’s storing up in the house.

    My solution is to have the $1400 automatically sent to a seperate savings account each month — sort of like your mortgage sinking fund, Jason, except I’m not making any automatic withdrawals from it. In fact, it’s at another institution, I don’t have any electronic access to it, and it’s kind of a pain to go make any kind of withdrawal — all on purpose. It is in a high-yeild MM checking account, and I keep shopping to make sure I’m getting the best rate possible along with maximum liquidity.

    After I’ve stacked up 24 months of extra mortgage payments, I’ll assess my situation at that time and, if everything looks good, I’ll send 12 months of it to the mortage. Each year I’ll reassess my situation, look at the 24 month stash, and send along 12 months of it. I’ve been doing this since September and so far, so good.

    If something catastrophic happens, I’ll have a good cash reserve (this is in addition to my Fully Funded Emergency Fund of 12 months expenses and some other sinking funds). If nothing bad happens, I’ll send a nice chunk of change to the mortgage each year. It’s sort of a Baby Step 6 version of “storm clouds on the horizon” — pile up cash when things are looking rough, and once the storm passes, throw the pile at debt.

    My standard monthly payment is always rounded up, which means I’m always putting about $30 more to principle each month as it is. It’s not much, but every little bit helps along the way as I continue to pile up the revolving 24 month stash. Sending that $1400 each month to the other account makes my operating account very tight — perhaps even tighter than when I was paying off non-mortgage debt — but I’m getting used to it and love the idea of both adding to my cash reserves while working to pay off my mortgage extra early.

    • This is a very, very smart plan. I love the idea of an annual “rebalancing,” only instead of balancing investments you are assessing your risk, reviewing your cash position and making an informed “investment” towards paying down your mortgage debt. And just think, you are getting a guaranteed 4-6% return by making that move (assuming your mortgage payment is in that range).

  9. We paid off our mortgage in 2005. We had sizable liquid assets, so it wasn’t a drain for us.

    I doubt I’d advise it for a younger person, but as a person ages the option becomes more desirable.

  10. I had posted a thread about doing a mortgage sinking fund on TMMO a while back and am very interested in peoples’ views. My wife and I have gone back and forth on the concept, but are currently just throwing extra principle payments at the mortgage. Thanks for posting this!

    aka BigRedWarEagle

  11. In the hypothetical situation, I would put every penny down to totally eliminate the mortgage.

    At that point, you can quickly grow the savings back up to pre-mortgage levels. (how fast depends on the mortgage size and the mortgage payment amount). That’s 1:1. However, Since I only have about 40% of my mortgage in savings, I wouldn’t do it. Eliminating all cash and still having a debt makes less sense.

  12. We were paying down our mortgage super aggressively for awhile. This was at the cost of building our emergency fund, and barebones budget. Although we did have about 2 months of emergency fund saved up. At the time we were both working really good paying jobs.

    We had a standard 25 year mortgage with a 5 year fixed rate. When we actually renewed, we only had 5 years left of the original mortgage payment to pay. But by that time, our circumstances had changed considerably. We had both lost our jobs, I was on maternity leave, my husband found another job but lower salary. So we opted to get a mortgage for another 10 years. Yes, you read that right, we opted to extend our mortgage. This lowered the monthly mortgage payment and gave us the flexibility we need at this time.

    Since then, we have a mortgage sinking fund, we have enough to actually pay off the mortgage. We could pay off the mortgage, but we have some very uncertain financial times in the near future. So, we are paying our monthly mortgage from this saving account. However, if need be this could also act as an extra emergency fund. Plus the interest rate is low at 2.5%, so it’s not hurting us much.

    For now we’ve decided that I’m going to stay at home, as it is not worth it for me to work and pay for daycare for 3 kids under 5. So flexibility is key for us.

  13. There are a lot of reasons to not pay off a mortgage early but I do it regardless. I set up automatic extra monthly payments to equal an annual extra mortgage payment. I evaluate this each year and adjust based on my projected financial needs. It does not require discpiline if the payments are sent automatically (if I had to write a check each month, then phhht.) I prefer a longer mortgage as it gives me flexibility to adjust to job loss, health costs, and the kid’s college tuition. Not sure it makes sense but my theory is to pay more at the front end of the mortgage when I am knocking off a larger percentage of the principal rather than towards the end of the mortgage when most of the payment is going to principal. Now, with so much of the mortgage paid off, I am trying to decide if I want to refinance which will substantially lower my monthly payments freeing up cash flow or ride out the existing mortgage.

  14. We refinanced our home at 3.75%/15 years and our first payment was made January 1st, 2011. It is now the end of December and we’ve paid closed to $32K to the principal. You are definitely right to say that this is a personal choice. For me seeing the principal drop significantly every month gives me a natural high and I hope and pray that I can get this monkey off our backs by January of 2018. We do have an emergency fund in place and contribute to a Roth IRA every month.