OT: To pay off a mortgage or not?

[texbike]

Given the recent discussions about a potential double dip recession, the very real potential for inflation, weakening of the U.S. dollar, jobless recovery, etc, etc, etc I have a question for the forum gurus.

Let's say that you have a fixed rate mortgage with a rate of 4.75% and about 20 years left to pay off the balance. Let's also say that you find yourself in a position to pay off the mortgage today if you wanted.

What would you do? Would you pay off the mortage or move the capital into other investments? If so, what other investments would you consider given the current climate and why?

Thanks!

Texbike

[GuyGadois]

A 20 year loan at 4.75% is historically low. With inflation on the horizon I think it is silly to pay it off. Factor in your tax savings and inflation I think the answer is fairly easy.

-GG-

[fourflys]

I think I'd be tempted to pay off my own house and maybe buy something as a rental property....

You can never go wrong with paying off debt in my opinion... but then I'm in medicine and not real estate so take that for what it's worth... :)

I guess it could depend on if you feel the house you're in is the last house you'll buy as well...

[rugbysecondrow]

I don't like have more things than necessary controlling my life decisions, which is why I don't like debt. I would pay it off as a matter of freedom and opportunity. It would also increase your cash flow and allow you to invest, travel or do other things with your excess monthly cash. It also matters how you sit for other savings (retirement, college). If you are good there, then I would pay it off tomorrow.

That is what I would do, but these are very personal decisions and there is no one way. Frankly, it matters what your wife thinks. The security of having the house paid for might mean more to her than you.

[endosch2]

I would not pay it off - as someone says if we have some inflation it will erode the balance over time - plus after tax the effective interest rate is next to nothing. Are you going to do better than 3% investing the cash you would otherwise use? In all likeleyhood the answer is yes so take the same money and invest it elsewhere.

[GuyGadois]

I don't like have more things than necessary controlling my life decisions, which is why I don't like debt. I would pay it off as a matter of freedom and opportunity. It would also increase your cash flow and allow you to invest, travel or do other things with your excess monthly cash. It also matters how you sit for other savings (retirement, college). If you are good there, then I would pay it off tomorrow.

That is what I would do, but these are very personal decisions and there is no one way. Frankly, it matters what your wife thinks. The security of having the house paid for might mean more to her than you.

I take a different view of this. Paying off your low interest debt can actually limit your options later. Instead of having spending money and money to invest in other things you have used it to pay off an extraordinary low interest rate. Your cash flow could actually decrease as your extra money isn't invested in income instruments but rather used to payoff a loan.

Like the poster said, though, it all matters about how old you are, cash situation, tax bracket and life goals. Unfortunately, these questions can't be answered on a board like this. Best to go see a financial pro.

-GG-

[93legendti]

I don't like have more things than necessary controlling my life decisions, which is why I don't like debt. I would pay it off as a matter of freedom and opportunity. It would also increase your cash flow and allow you to invest, travel or do other things with your excess monthly cash. It also matters how you sit for other savings (retirement, college). If you are good there, then I would pay it off tomorrow.

That is what I would do, but these are very personal decisions and there is no one way. Frankly, it matters what your wife thinks. The security of having the house paid for might mean more to her than you.
If he did NOT pay off the mortgage with this $, he could use it to increase his cash flow, invest AND travel.
Putting all the money in the house ties him to it-until he could sell the house and get the same amount or more back as he is about to pour into it.

Once he puts the $ in the house, it goes down by at least 6%-the amount a broker charges to sell the house. On a $200,000 payoff, that's a $12,000 loss-that would ruin my sleep.

[Ray]

If you look at it as an investment, sounds like you should keep the mortgage. If you look at it as a home that you don't want to have to worry about losing if times get tougher and you're not planning to sell it in the foreseeable future, paying it off will probably give you some piece of mind that's worth whatever small financial sacrifice you'd be making.

-Ray

[Ken Robb]

paying it off is like a sure 4.75% return on your cash. At the moment it's hard to get 1.5% on a CD.

Those are both near the lowest in the past 40+ years. If you are youngish and a bit of an aggressive investor you might be wise to keep the cash liquid and hope for an opportunity to realize some "safe" returns in the 6 or 7% range in a couple of years. The "spread" between what you pay on the mortgage and the return on your investments can be all profit for you.

I'm neither so I paid off my mortgage. :)

[MattTuck]

I don't like have more things than necessary controlling my life decisions, which is why I don't like debt. I would pay it off as a matter of freedom and opportunity. It would also increase your cash flow and allow you to invest, travel or do other things with your excess monthly cash.

This doesn't seem right to me. Let's say you have $100 cash, and $100 due on your mortgage. Your net worth in this simple example is $0. If you take your $100 cash, and pay off your mortgage, you now have a net worth of ..... $0!!

I would agree with the Guy, your mortgage rate is VERY low, and inflation will almost invariably mean that you'll be able to pay off the mortgage and monthly payments with greater ease, there's no real incentive to paying off the mortgage early... (it is very cheap money and on top of that, you have your cash that you could use for something critical that could come up. once you pay off the house, you won't have that any more.)

I'd be inclined to keep that money in savings with the security of knowing that you 1.) you could pay off the house at any time, and 2.) if something else came up that was an emergency, you'd have the cash to pay for it.

[BengeBoy]

My favorite answer: "it depends."

Age, income, job security, status of kids' college funds, size of retirement account, neighborhood, tax situation, risk tolerance, liquidity, etc.

From a strictly economic view, if you have a safe and secure way to make more than 4.75% pre-tax on your investments, you should keep the mortgage. However, if you have a safe and secure way to earn 4.75% pre-tax on your investments, please post the answer here.

[fourflys]

paying it off is like a sure 4.75% return on your cash. At the moment it's hard to get 1.5% on a CD.

Those are both near the lowest in the past 40+ years. If you are youngish and a bit of an aggressive investor you might be wise to keep the cash liquid and hope for an opportunity to realize some "safe" returns in the 6 or 7% range in a couple of years. The "spread" between what you pay on the mortgage and the return on your investments can be all profit for you.

I'm neither so I paid off my mortgage. :)

I think Ken might know a thing or two about real estate if I remember right...

[johnmdesigner]

Keep enough funds for 6-12 months in your war chest in case something happens (and it always happens).
Pay off your other debts (if any) first.
Put the money aside to pay your mortgage in the safest investment vehicle.
Only idiots and billionaires invest in the stock market now.
Eat, drink and be merry and forget about making returns on investments like you got in the last 10 years.
Consult CNY Rider about raising your own food. :D

[93legendti]

If you can afford your payment, paying off your 4.75% mtg with a windfall makes little sense.

Heck, just a few years ago, my FMA money fund was paying over 5%.

When interest rates soared in the early '80's my father locked in annuities at 18%, The day before rates were 21%. He was liquid and made out. The annuities started paying off when rates were in the 8-9% range. Liquidity is what makes me sleep well.

[Louis]

A 20 year loan at 4.75% is historically low. With inflation on the horizon I think it is silly to pay it off. Factor in your tax savings and inflation I think the answer is fairly easy.

Agreed. The only caveat is what you do with the liquid money you have now. If you're likely to blow it on some crazy get-rich-quick scheme then that would not be a wise investment. If you're going to manage it wisely then not paying off looks like it's the way to go.

[old fat man]

why not pay off a portion, say 50% of the mortgage. that lessens the amount you'll pay in interest over the years and allows you to do other things with the rest of the money.

if you can pay off the house and still do everything you'd want with the money you have remaining then by all means, pay it off.

[rugbysecondrow]

This doesn't seem right to me. Let's say you have $100 cash, and $100 due on your mortgage. Your net worth in this simple example is $0. If you take your $100 cash, and pay off your mortgage, you now have a net worth of ..... $0!!

I'd be inclined to keep that money in savings with the security of knowing that you 1.) you could pay off the house at any time, and 2.) if something else came up that was an emergency, you'd have the cash to pay for it.


I think you are off a little bit. The amount of value you own in your home is factored into your net worth. If you have $100 cash and put that $100 towards the principle, then you net worth is still $100.

My assumption was that it was a lump sum that was not part of his regular monthly cash flow (inheritance, bonus etc). If you make $4000 a month, have $2000 worth of expenses including a $1000 mortgage, and pay off that mortgage, your expenses are reduced to $1000 a month. That would free up $1000 increasing your available monthly cash flow. As for investing the money, I am thinking of retirement (IRA or Roth) investing where the income is reinvested and not brought back into the home for monthly cash flow. My assumptions my be off though, but this was a pretty general question.

[rugbysecondrow]

Once he puts the $ in the house, it goes down by at least 6%-the amount a broker charges to sell the house. On a $200,000 payoff, that's a $12,000 loss-that would ruin my sleep.

???
The broker gets 6% of the sale price of the house, regardless of what you owe on it or whether it is paid off. That figure is not tied to your loan balance, so he will pay 6% regardless of what he decides to do with the cash.

There are two primary schools of thought:

1) Pay off the mortgage for peace of mind, simplicity and personal values
2) Invest the money and anticipate the difference between interest rate and the investment rate will be profitable.

[texbike]

Wow! This is what I was looking for.....debate and discussion of options. :)

My wife has the same opinion that I do....the money is cheap and in a different market we wouldn't be having this discussion. In this particular case, we're sitting on a bit of cash without any real idea of where to put it that we both agree on (with today's market and the mechanizations currently at work in the economy). We're both conservative in our finances, debt-averse by nature (conservative farm family influences) and hold no debt outside of our mortgages (we also own a rental). So, it would be nice to pay off one of those mortgages, but we know that it may not be the smartest thing given the historically low rate. However, it would be nice to improve the monthly cash flow.

We're in our late 30s/early 40s with a couple of young kids. We maintain a reserve that by design will allow one or both of us to be unemployed for a year or more. We're well on our way to funding the college funds and retirement accounts (but who's to say what will actually happen to either of those).

We do have a financial planner that we work with, but I'm really looking for objective, real world experience from people who've "been there" or "are there".

Once again, thanks for the input and insight. Please keep it coming...

Texbike

[1centaur]

Texas, so no state muni bonds I guess.

The right comparison might not be cash in/cash out today, but longer-term investment, life and cash options in the future. Money market rates may well be greater than 4.75% in 3 years. The stock or bond market may well sell off and create good opportunities within a couple of years. 4.75% tax-affected is very cheap historically as others have said, and a levered bet on real estate is the way most people make most of their lifetime wealth, historically. Risks include future tax treatment of mortgage interest in various tax brackets and the potential for a lost decade of low interest rates and lousy returns on everything, making 4.75% look like a good return. The odds favor returns of over 4.75% somewhere in the world for your money at some point. Risk tolerance varies, however.

[caleb]

Let's say that you have a fixed rate mortgage with a rate of 4.75% and about 20 years left to pay off the balance.


Well, my trained gut is that in the next 20 years we're going to see inflation at or above the rate of interest on your mortgage. Americans are so massively in debt - both consumer debt and student loans - that we will be left with two choices. Either (1) accept massive defaults, or (2) inflate the currency to make the debt go away. Option #1 will cost primarily the banks, and option #2 will cost primarily individual consumers. Since the banks are better organized than are individual consumers, I think we'll choose choose option #2 and screw individual investors (rather than the banks) via inflation to make the debt go away.

We inflated the currency in the 1970's to make government debt (Vietnam spending) and consumer debt (the suburbs) go away, and we'll have to do it again soon (see Brad Delong (http://delong.typepad.com/) 's work on peacetime inflation for an elaboration of this point).

So... basically, fixed rate debt is a pretty good bet right now, assuming your income is secure. I'd keep the mortgage and invest the money overseas.

[54ny77]

i say pay it off with a check, and enclose a photocopy of your middle finger addressed to the bank when you mail it in. :beer:

[slowgoing]

Keep the mortgage and the interest deduction, keep a bit of your cash as a reserve, and invest the rest aggressively long term. Put that money to work for you instead of putting it into the house where the appreciation will already be yours even if you don't pay off the mortgage. You should easily be able to make more than 4.75% per year. If you can't find anything that fits the bill, talk to someone else.

[Ahneida Ride]

pranks practice amatorization, which means you pay off the interest
first and then slowly pay back the principle.

It's a real screw job if you analyze the math.

Suppose you "borrow" 100k at 5% for 20 years ...
You pay about 60K in interest. Plus pay back the 100K.

Figure out how much you will pay from here forward in interest and
how much in principle. Then decide. You might be very surprised just
how much you are paying in interest.

pranks really don't like it when you pre-pay, nor does the mortgage
backed derivative security market. It really fubars up the amatorization
"calculations" in your favor.

If your loan frns (fed reserve notes) were created by fractional reserve
then you are paying infinite interest, cause the frns were created outa
thin air by typing numbers into a computer spreadsheet.

:D

[djg]

If he did NOT pay off the mortgage with this $, he could use it to increase his cash flow, invest AND travel.
Putting all the money in the house ties him to it-until he could sell the house and get the same amount or more back as he is about to pour into it.

Once he puts the $ in the house, it goes down by at least 6%-the amount a broker charges to sell the house. On a $200,000 payoff, that's a $12,000 loss-that would ruin my sleep.

Well, the first line seems right. Paying off the loan means that you increase your cash flow at time T2 by paying down a large (I'm guessing) chunk of money at time T1. But not paying the large chunk at T1 provides other ways of generating income (or "cash flow") at T2.

But why 6%? If I send the bank an extra 200K today, I don't necessarily need to sell the house and pay a realtor to do it if I want the 200k back. I need to refinance -- it's not free of course, as there are transaction fees, etc.; and it may well be that borrowing later means borrowing at less favorable terms, but the transaction costs themselves are likely to be way less than 12k.

I refinanced last year to drop my interest rate a bit (about a point). There's a sense in which I followed each bit of contrary advice in the thread. I borrowed a good deal less than the bank was willing to lend me, putting potential cash (leaving actual "equity") in the house, rather than seeking other investments; but I did walk away with a mortgage that might have been paid off.

If I had a crystal ball I would know what to do: sell the crystal ball -- for a bundle.

[Lifelover]

Given the recent discussions about a potential double dip recession, the very real potential for inflation, weakening of the U.S. dollar, jobless recovery, etc, etc, etc I have a question for the forum gurus.

Let's say that you have a fixed rate mortgage with a rate of 4.75% and about 20 years left to pay off the balance. Let's also say that you find yourself in a position to pay off the mortgage today if you wanted.

What would you do? Would you pay off the mortage or move the capital into other investments? If so, what other investments would you consider given the current climate and why?

Thanks!

Texbike

A group of enginerds (myself included) I work with just had this discussion. After running the numbers using historical rates, clearly there is serious financial benefit to keeping the loan if you invest the money.

However, the 'if" should be printed like this: If

If you are like most of us, there is a high chance you will spend.

All that said, there is a great argument to be made for spending it. Life is about living, not saving.

[93legendti]

Well, the first line seems right. Paying off the loan means that you increase your cash flow at time T2 by paying down a large (I'm guessing) chunk of money at time T1. But not paying the large chunk at T1 provides other ways of generating income (or "cash flow") at T2.

But why 6%? If I send the bank an extra 200K today, I don't necessarily need to sell the house and pay a realtor to do it if I want the 200k back. I need to refinance -- it's not free of course, as there are transaction fees, etc.; and it may well be that borrowing later means borrowing at less favorable terms, but the transaction costs themselves are likely to be way less than 12k.

I refinanced last year to drop my interest rate a bit (about a point)...
sure refi is an option. I have been trying to
refi since summer. My credit is great and the house appraised so my ltv is around 65%. Things are moving slower than slow. I'm just trying to lower my payment at this point- but there is no movement.

[Louis]

After running the numbers using historical rates

This is probably the single biggest variable. Key question: Do you think the next 20 years will give us historical rates i.e "average") or better? The answer to that question will dictate your choice.

(BTW, if you're smart enough to know what the future will bring there are some folks on Wall Street who will pay you so much money you'll be able to sell this hovel and live on 5th Avenue high above the stinking masses.)

[caleb]

(BTW, if you're smart enough to know what the future will bring there are some folks on Wall Street who will pay you so much money you'll be able to sell this hovel and live on 5th Avenue high above the stinking masses.)

Not at all true. The best economists and political economists are predicting long term growth that is far worse than Wall Street's behavior evidences right now. Wall Street couldn't care less about the 20 year outlook; they hope to be retired by then.

[Louis]

Not at all true. The best economists and political economists are predicting long term growth that is far worse than Wall Street's behavior evidences right now. Wall Street couldn't care less about the 20 year outlook; they hope to be retired by then.

1) It was a joke.

2) I meant predicting the future in general, not for any specific period of time.

[fierte_poser]

My issue with paying off a mortgage early is that you are sinking a large amount of money into a non liquid asset. To retrieve cash out of a home, you either have to 1) sell or 2) do a home equity line of credit.

In future economic conditions such as a real estate crash or a period of very high interest rates, those 2 options for retrieving cash might be very painful.

[sienna]

"It all depends", is really the answer, so you'll have to look deeper into your finances and future. One thing that hasn't been mentioned is that if you do pay off your mortgage, you can always refinance your paid up home and get some cash out. Of course, you'll be paying some fees to get a loan, but at least the cash will always be there if you need it.

[dave thompson]

My opinion: I'd have a certified check FedEx Overnight first thing tomorrow! I financed my current house for 15 years simply because I don't like to owe money and I couldn't pay cash. Things change, people change and conditions change, the more debt a person has the narrower the choices they have to help themselves. The first person you should pay from your paycheck is you. By paying off your house, you've made an investment in yourself, you'll feel absolutely terrific as well as very unencumbered. Then you can find good counsel and start to look for these 'investments' that everyone is talking about, investing what used to be your mortgage payments.

[GuyGadois]

I financed my current house for 15 years simply because I don't like to owe money and I couldn't pay cash.

I always recommend going with a 30 year mortgage and if you want to pay it off like a 15 then do so. You pay a slightly higher rate but you have the comfort of scaling back your payment if tough times hit. When inflation hits you'll be happy to have more money and a locked in low rate. Rates right now are really low.

-GG-

[JimmyO8]

I was fortunate to be in the situation of "do I or don't I" pay off my house. It is a very personal choice and it boils down to the comfort level of the individual debt and where you fall tax wise.

When I had the opppurtunity to pay off my mortgage in 2008, the majority told me to invest but I chose to pay it off. We saw what happened in the market...I was I could say I am a financial genius but I was just lucky. I do not like debt and there is a great feeling of not having any.

I think it is so true that you need to make a decision that works best for you and your family.

[LegendRider]

Interesting discussion. There are some very thoughtful responses. My question to the OP is what exactly would you do with the funds if you don't pay-off your mortgage? In other words, a lot of the discussion is centered around theory. To (possibly) make it easier, compare the terms of your mortgage to the alternative investment (and don't forget the tax implications).

[Walter]

So much of this is based on very personal choices, what weight we as individuals give to various factors, and is subject to the vagaries of the economic market.

My wife and I faced this choice several years ago. We loved our house, did not (and still do not) plan on selling it, and I was 60 then. So we paid it off and funded a remodel out of funds on hand. Had I not done so and placed he funds in the market, I would now have a mortgage, a non-remodeled house, and probably 50-60% of my money on hand due to the market decline.

It worked well for us.

One thing the posts do not seem to recognize is that if you pay of the mortgage, you now have the monthly payment amount liquid to invest as you choose

[rugbysecondrow]

So much of this is based on very personal choices, what weight we as individuals give to various factors, and is subject to the vagaries of the economic market.

My wife and I faced this choice several years ago. We loved our house, did not (and still do not) plan on selling it, and I was 60 then. So we paid it off and funded a remodel out of funds on hand. Had I not done so and placed he funds in the market, I would now have a mortgage, a non-remodeled house, and probably 50-60% of my money on hand due to the market decline.

It worked well for us.

One thing the posts do not seem to recognize is that if you pay of the mortgage, you now have the monthly payment amount liquid to invest as you choose


This is the exact point I was making regarding reducing expenses and increasing monthly cash.

You also highlight why paper math and the real world don't always mix.

Congrats!

[93legendti]

If the choice is invest money for a 2 year period or sink the money in your home, that is a different question.

If you think taking money out of your bank and putting it in your home gives you MORE money to invest, than you should put it all in your house.

If I had paid off my mortgage in early 2008 and my home value had gone down 50%, I would be depressed.

If I didn't have a mortgage and could get one at 4.75%, I would do it as fast as they would let me.

[rugbysecondrow]

If the choice is invest money for a 2 year period or sink the money in your home, that is a different question.

If you think taking money out of your bank and putting it in your home gives you MORE money to invest, than you should put it all in your house.

If I had paid off my mortgage in early 2008 and my home value had gone down 50%, I would be depressed.

If I didn't have a mortgage and could get one at 4.75%, I would do it as fast as they would let me.

The line in bold makes no sense. You already are obligated for the mortgage amount regardless of what the value of the home. If the value goes up or down it doesn't change your obligation.


This is the overall point, the math is not as simple as you guys are laying out. Yes, in a perfect world in optimal conditions with historical numbers applied, you would be money ahead by not paying it off. You could also end up like Walter, sitting pretty. Maybe I am too conservative, I try to plan for the known and expect the unknown. There are formulas that work which would illustrate how one would be money ahead by not paying off the note and investing, but that takes into account an optimistic view of return and a pessimistic view of inflation, IMHO. For me, and my financial planning, the opportunity to have my house paid for FOREVER and knowing I have a place to live FOREVER is worth more than the few points I could possibly earn by investing.

There are too many variables here for cogent and meaningful discussion, but it will most likely come down to what the OPs beliefs are regarding debt. If that is not reconciled, then everything else is irrelevant.

[93legendti]

The line in bold makes no sense. You already are obligated for the mortgage amount regardless of what the value of the home. If the value goes up or down it doesn't change your obligation.


This is the overall point, the math is not as simple as you guys are laying out. Yes, in a perfect world in optimal conditions with historical numbers applied, you would be money ahead by not paying it off. You could also end up like Walter.

There are too many variables here for cogent and meaningful discussion, but it will most likely come down to what the OPs beliefs are regarding debt. If that is not reconciled, then all the talk of math and projections is void.
Actually, the math is as simple as it gets.
If I had more money in my home than it was worth, because I took money out of the bank to put it in the home, that would be depressing.

I sleep well with money in the bank, liquid, where the liquidity can work for me. Some sleep well with their money tied up in thier homes. THIS is NOT a math question.

[Walter]

If the choice is invest money for a 2 year period or sink the money in your home, that is a different question.

If you think taking money out of your bank and putting it in your home gives you MORE money to invest, than you should put it all in your house.

If I had paid off my mortgage in early 2008 and my home value had gone down 50%, I would be depressed.

If I didn't have a mortgage and could get one at 4.75%, I would do it as fast as they would let me.

If the choice is invest money for a 2 year period or sink the money in your home, that is a different question.

My choices were not short term or speculative...rather longer term (a house I planned on being in for many years).

If you think taking money out of your bank and putting it in your home gives you MORE money to invest, than you should put it all in your house.

I never said it gave me more money, simply that the monthly savings of not making a mort. payment was one thing to factor in to your personal choice.

If I had paid off my mortgage in early 2008 and my home value had gone down 50%, I would be depressed.

The shorter term reduced value of my home does not trouble me too much right now as I am in the home for the very long term, not to flip it or otherwise move on (down or up) in a short time frame. If that is one's position, one makes different choices.

If I didn't have a mortgage and could get one at 4.75%, I would do it as fast as they would let me.

Different people make different choices based upon different goals and circumstances. Each of us make our own "guns or butter" choices. For me the freedom of having no debt at all gave me more latitude in making a number of decisions and a greater comfort level.

Follow up message:
I sleep well with money in the bank, liquid, where the liquidity can work for me. Some sleep well with their money tied up in thier homes.

Liquidity is very important, but is to be considered in the light of your personal circumstances. I am blessed with a stable profession, and a recession-proof specialty, that gives me a very good income. In the 2-3 years since I made my personal decision to pay things off, I have rebuilt my level of liquidity to the same level as before my choice.

It just all depends in great measure on your economic circumstances. The same shirt does not fit us all the same.

[Ray]

I sleep well with money in the bank, liquid, where the liquidity can work for me. Some sleep well with their money tied up in thier homes. THIS is NOT a math question.
This is possibly the first non-bike related thing that Adam and I have agreed on 100%, maybe even 110%. Its all about your personality and what makes you more comfortable. I've always been debt averse. I sleep really well knowing we're carrying essentially zero debt at this point in our lives. It might not be the absolute best move financially, but I sleep well knowing it. Figure out which kind of liquid floats your boat and get lots of it to float on.

-Ray

[rugbysecondrow]

This is possibly the first non-bike related thing that Adam and I have agreed on 100%, maybe even 110%. Its all about your personality and what makes you more comfortable. I've always been debt averse. I sleep really well knowing we're carrying essentially zero debt at this point in our lives. It might not be the absolute best move financially, but I sleep well knowing it. Figure out which kind of liquid floats your boat and get lots of it to float on.

-Ray

This seems to be the common theme that people can agree on. It is a very personal decision.

[dekindy]

I am a CFP, CPA/PFS, so I am a financial pro.

Mortgage is debt. Debt has positives and negatives.

Inflation is positive because you can pay back the debt with “cheaper” dollars. Conversely if there is deflation you would be paying back with more “expensive” dollars and that is a negative.

Debt gives you leverage. It multiplies gains and losses. Obviously you want to multiply gains but you don’t want to multiply losses. Here is an example. You purchase a $60,000 house with cash. The housing market goes down 30% and you lose your job and are forced to sell. You sell for $42,000 so your loss is $18,000. If you purchase a $120,000 house with a $60,000 mortgage in the same scenario, your loss is still 30% but the dollar amount is $36,000 instead of $18,000. The numbers would be reversed if the housing market went up 30%. You would have a $36,000 gain with a mortgaged $120,000 house but only an $18,000 gain on a $60,000 home. This is leverage.

Now suppose you had $120,000 and were trying to decide if you want a mortgage or not. As you can see from the above example, your net worth would increase the same if the $60,000 home and the $60,000 investment both increased by 30%. In this scenario, whichever asset increases in value the most is the best place to invest your assets. If the investment is going up more than the home, then you would be better off having a mortgage and the opposite would be true if the home were going up faster than investments. Both markets will have there ups and downs. Having your investment in your home makes it more difficult to panic and sell during a down market.

You can summarize these two points by saying that is prices and wages are going up and you have a reliable cash flow, and your investments are going up, then debt is a positive.

Then there is the “sleep” factor. If the points above are true but you still have trouble sleeping at night because you are still worrying about the mortgage, then pay it off.

A question that you can ask yourself is, “If I had $10,000 to invest, would I borrow money so I can invest more?” You can open a margin account and use your investment as collateral just like your home is collateral. The only difference is that the debt is held with a mortgage company and your house is collateral instead of the debt being to the investment with your investment balance as the collateral.

If you really wanted to be aggressive and you qualified, you could take out a mortgage on your home and open a margin account with your investments.

Now that you know having a mortgage is the same as margin investing, read this because all these things will happen if you cannot pay your mortgage.
http://www.finra.org/Investors/ProtectYourself/InvestorAlerts/MarginAndBorrowing/P005973

At least with a margin account there are strict rules designed to determine if a margin account is appropriate. If you don’t qualify that should be a warning sign that you should not be investing with debt.

[rugbysecondrow]

A question that you can ask yourself is, “If I had $10,000 to invest, would I borrow money so I can invest more?” You can open a margin account and use your investment as collateral just like your home is collateral. The only difference is that the debt is held with a mortgage company and your house is collateral instead of the debt being to the investment with your investment balance as the collateral.



This is the question I would ask as I think it gets to the heart of it. If you say yes, they you are in the investing/keep the debt camp. If you say no, then you should pay it off and not look back.

[happycampyer]

<snip>A question that you can ask yourself is, “If I had $10,000 to invest, would I borrow money so I can invest more?” You can open a margin account and use your investment as collateral just like your home is collateral. The only difference is that the debt is held with a mortgage company and your house is collateral instead of the debt being to the investment with your investment balance as the collateral.

...

At least with a margin account there are strict rules designed to determine if a margin account is appropriate. If you don’t qualify that should be a warning sign that you should not be investing with debt.This is the question I would ask as I think it gets to the heart of it. If you say yes, they you are in the investing/keep the debt camp. If you say no, then you should pay it off and not look back.This is very true. to highlight a point that dekindy made, an individual can obtain far more leverage in their home than they can obtain in a margin account. Historically, this has been a good bet and has generated a lot of wealth. Unfortunately, leverage works both ways, and over the last several years it has wiped out an enormous amount of wealth. Just think if mortgages were subject to margin calls...

[hookookadoo]

To the OP:
Don't pay it off. Over the long term you will be able to get a positive arbitrage off that interest rate and as long as you have the cash to pay it off then you have all the flexibility and peace of mind you should need. Said another way, you don't need to pay it off to have peace of mind if you could do it anyway.


Sorry, but don't know how to quote multiple items but here are a few responses on prior posts. My responses are in CAPS for distinction not to infer tone! I enjoy a lively but civil debate!

************************************************** ***********
"I think I'd be tempted to pay off my own house and maybe buy something as a rental property...."

IF YOU PAY IT OFF THEN YOU JUST GOT RID OF THE CASH YOU NEED TO BUY A RENTAL PROPERTY. THE OPPOSITE WOULD BE CORRECT: DON"T PAYOFF AND INVEST IN RENTAL PROPERTY BUT THEN YOU ARE PUTTING YOURSELF IN A RISKIER SPOT WHICH MAY NOT BE THE GOAL.


************************************************** **********
"If he did NOT pay off the mortgage with this $, he could use it to increase his cash flow, invest AND travel." and..."That would free up $1000 increasing your available monthly cash flow."

I THINK THIS LINE OF THINKING NEEDS SOME MORE THOUGHT. THE POSTER HAS CASH HE DOES NOT NEED CASH FLOW. SAID ANOTHER WAY, WOULD YOU RATHER HAVE $100K TODAY OR RECEIVE $10K A YEAR FOR 10 YEARS? NET PRESENT VALUE MATH WOULD TELL YOU THE $100K TODAY IS THE MUCH BETTER CHOICE. BY CHOOSING THE LATTER YOU ARE SAYING A STREAM OF CASH FLOW IN THE FUTURE IS BETTER THAN HAVING THE CASH TODAY...(?!?)

************************************************** **********
"Suppose you "borrow" 100k at 5% for 20 years ...
You pay about 60K in interest. Plus pay back the 100K.

Figure out how much you will pay from here forward in interest and
how much in principle. Then decide. You might be very surprised just
how much you are paying in interest."

I KNOW THE REGULATORS REQUIRE THIS DISCLOSURE ON VARIOUS LOAN FORMS BUT IT REALLY IS A FLAWED ANALYSIS. IT SIMPLY IS USING THE POWER OF 'MAGNIFICATION" TO MAKE THE MATH APPEAR WORST THAN IT REALLY IS. FURTHER, IT ONLY SPEAKS TO ONE SIDE OF THE EQUATION. A COMPARABLE ANALOGY:

- IF YOU EAT 1LB OF FOOD A DAY THEN 20 YEARS FROM NOW YOU WILL HAVE EATEN 7,300LBS OF FOOD. SOUNDS DISGUSTING DOESN'T IT! IT DOES BECAUSE IT IS SIMPLY MAGNIFYING THE OBVIOUS AND ONLY GIVES ONE SIDE OF THE EQUATION. DOES NOT SPEAK TO HOW MANY CALORIES YOU BURN OVER 20 YEARS TO BURN OFF ALL THAT FOOD.

FOR THE OTHER SIDE OF THE EQUATION...THE PERSON THAT BORROWS $100K PROBABLY MAKES AN AVERAGE OF $60K OVER 20 YEARS OR $1.2MM. SO ABOUT 5% OF HIS ANNUAL EARNINGS GO TO PAY THE $60K IN INTEREST WHICH IN TURN GIVE HIM THE ABILITY TO OWN A HOME. DOESN'T SOUND NEARLY AS BAD DOES IT?

************************************************** *****
That's all I have to say about that - Forrest Gump

[Walter]

I am a CFP, CPA/PFS, so I am a financial pro.

Mortgage is debt. Debt has positives and negatives.

Inflation is positive because you can pay back the debt with “cheaper” dollars. Conversely if there is deflation you would be paying back with more “expensive” dollars and that is a negative.

Debt gives you leverage. It multiplies gains and losses. Obviously you want to multiply gains but you don’t want to multiply losses. Here is an example. You purchase a $60,000 house with cash. The housing market goes down 30% and you lose your job and are forced to sell. You sell for $42,000 so your loss is $18,000. If you purchase a $120,000 house with a $60,000 mortgage in the same scenario, your loss is still 30% but the dollar amount is $36,000 instead of $18,000. The numbers would be reversed if the housing market went up 30%. You would have a $36,000 gain with a mortgaged $120,000 house but only an $18,000 gain on a $60,000 home. This is leverage.

Now suppose you had $120,000 and were trying to decide if you want a mortgage or not. As you can see from the above example, your net worth would increase the same if the $60,000 home and the $60,000 investment both increased by 30%. In this scenario, whichever asset increases in value the most is the best place to invest your assets. If the investment is going up more than the home, then you would be better off having a mortgage and the opposite would be true if the home were going up faster than investments. Both markets will have there ups and downs. Having your investment in your home makes it more difficult to panic and sell during a down market.

You can summarize these two points by saying that is prices and wages are going up and you have a reliable cash flow, and your investments are going up, then debt is a positive.

Then there is the “sleep” factor. If the points above are true but you still have trouble sleeping at night because you are still worrying about the mortgage, then pay it off.

A question that you can ask yourself is, “If I had $10,000 to invest, would I borrow money so I can invest more?” You can open a margin account and use your investment as collateral just like your home is collateral. The only difference is that the debt is held with a mortgage company and your house is collateral instead of the debt being to the investment with your investment balance as the collateral.

If you really wanted to be aggressive and you qualified, you could take out a mortgage on your home and open a margin account with your investments.

Now that you know having a mortgage is the same as margin investing, read this because all these things will happen if you cannot pay your mortgage.
http://www.finra.org/Investors/ProtectYourself/InvestorAlerts/MarginAndBorrowing/P005973

At least with a margin account there are strict rules designed to determine if a margin account is appropriate. If you don’t qualify that should be a warning sign that you should not be investing with debt.

Dekindy: I mean no disrespect to you personally or to your profession. You make some good points. That said, I am concerned that a "leverage is the god" approach has led many well-meaning folks to financial compromise and in some cases, outright ruin.

There are some "financial pros" who have led folks down the wrong path the last several years with catastrophic results. There are formerly well thought of financial firms with long track records of success whose knees have been buckled of late.

The notion of riding an ascendant market through leveraging can pay off handsomely...if you get out quick enough. If you do not...serious trouble follows. We are seeing good businesses having serious ongoing viability issues due to over-expansion and leveraging. Folks have lost their homes because of too much mortgage (and other) debt. Here in the Southwest the rapid collapse of the markets caught many savvy folks knee deep in highly-leveraged assets with plummeting values and an inability to restructure debt (how do you spell Chapter 11?).

I was an economics major in college before law school. While I no doubt do not possess the more recent hands on experience in the financial markets that you have, I considered a lot of options with my assets. I made some choices based on cold logic and some on a more emotional level (perhaps being the child of depression-era parents influenced me). All I know is this: with my mortgage paid off, my home will not be foreclosed. I have enough reserve to weather a storm. I have good cash flow even in these difficult times. I do sleep well at night. I...maybe...could be in a better financial position had I leveraged my money more...but then again...maybe not. My stock accounts sure took a thrashing.

I suppose the lesson of it all is that the old school advice of not putting all of one's eggs on one basket and having a diverse financial strategy is a sound one.

One last point...never borrow against your bicycle!

[dekindy]

Walter, pardon me if I am wrongly interpreting your statement.

You are either assuming something that is not there or I did not do a good job of presenting only the facts and taking the neutral position I intended. I did not even discuss the tax advantages of borrowing on your home or deducting margin investment interest. If I had added that you would probably have thought that I viewed people that paid off their mortgage as idiots.

At age 45, which was about 5 years ago, I paid off my mortgage.

The clients that came into my office had never heard a financial professional talk about the sleep factor or that leverage (debt) has a negative side.

I also know that the vast majority of investors either lose money or only earn a fraction that the market returned. This is due to a number of factors that have nothing to do with the investments themselves or that they picked an actively managed fund that underperformed the market versus an index fund. It has purely to do with emotions, which guide all human decisions, whether you will admit it or not. You said that you only made some of your decisions based upon emotions. This is simply untrue. Being a rational, anal retentive person who also thought that logic could control, this took me a long time to understand but made me a much better adviser when I did.

My experience as a planner has been limited to the midwest, specifically Indianapolis and Cincinnati. The Millionaire Next Door book is true. The people I met with that had significant net worths had no debt. This was especially true in Cincinnat since my firm was on the west side. If you know anything about Cincinnati then you know exactly what I mean.

[Walter]

Dwight,

I think you are misinterpreting what I had intended to say. I was not speaking to your specific points, statements, or personal approach with your clients, rather to several general points.

First, leverage can make you a lot of money or it can bite you. Second, the financial events of the recent past have caught the brightest of folks out in some cases. Third, all of this is very personal. I like your comment that we may be more emotional and less logical in these decisions than we care to admit.

With that, let us all ride on....

Walter

[93legendti]

I am a CFP, CPA/PFS, so I am a financial pro.

...A question that you can ask yourself is, “If I had $10,000 to invest, would I borrow money so I can invest more?” You can open a margin account and use your investment as collateral just like your home is collateral. The only difference is that the debt is held with a mortgage company and your house is collateral instead of the debt being to the investment with your investment balance as the collateral.

If you really wanted to be aggressive and you qualified, you could take out a mortgage on your home and open a margin account with your investments.

Now that you know having a mortgage is the same as margin investing, read this because all these things will happen if you cannot pay your mortgage.
http://www.finra.org/Investors/ProtectYourself/InvestorAlerts/MarginAndBorrowing/P005973

At least with a margin account there are strict rules designed to determine if a margin account is appropriate. If you don’t qualify that should be a warning sign that you should not be investing with debt.

I should quit now that Ray has agreed with me on a point. :)

Taking out a margin account and not paying off your mortgage, which is at a historical low, are 2 different things. Stocks and real property are so different that we need a seperate thread to discuss the differences.

FWIW, I once checked with my broker and the effective % rate to borrow against my account was higher than my mortgage rate.

Mortgaging/leveraging a stock account, in my opinion, is a bad idea.

The OP's Q was not "should I take out a mortgage to invest in stocks?"

When rates are 9-10% in a few years, paying off a 9-10% mortgage will be a different question.

Given the recent discussions about a potential double dip recession, the very real potential for inflation, weakening of the U.S. dollar, jobless recovery, etc, etc, etc I have a question for the forum gurus.

Let's say that you have a fixed rate mortgage with a rate of 4.75% and about 20 years left to pay off the balance. Let's also say that you find yourself in a position to pay off the mortgage today if you wanted.

What would you do? Would you pay off the mortage or move the capital into other investments? If so, what other investments would you consider given the current climate and why?

Thanks!

Texbike

[djg]

sure refi is an option. I have been trying to
refi since summer. My credit is great and the house appraised so my ltv is around 65%. Things are moving slower than slow. I'm just trying to lower my payment at this point- but there is no movement.

Although a dose of lending caution is a good thing, it's been way too hard for many people to do business -- and it seems much more to do with (extraordinary) variation in the application of new standards than new standards themselves. For us it was easy and quick; for others, not so much. I expect that things will smooth out before too long, but calling the timing on this is anybody's guess.

[93legendti]

Although a dose of lending caution is a good thing, it's been way too hard for many people to do business -- and it seems much more to do with (extraordinary) variation in the application of new standards than new standards themselves. For us it was easy and quick; for others, not so much. I expect that things will smooth out before too long, but calling the timing on this is anybody's guess.
I have my fingers crossed. Easing up lending to qualified borrowers, in sensible amounts, would be a welcome chnage in this State.

[Pete Serotta]

I hope to meet him one of these days for he always gives "words of wisdom" and things to consider. A wealth of knowledge. THANKS for being on the forum and sharing. PETE :beer:


Texas, so no state muni bonds I guess.

The right comparison might not be cash in/cash out today, but longer-term investment, life and cash options in the future. Money market rates may well be greater than 4.75% in 3 years. The stock or bond market may well sell off and create good opportunities within a couple of years. 4.75% tax-affected is very cheap historically as others have said, and a levered bet on real estate is the way most people make most of their lifetime wealth, historically. Risks include future tax treatment of mortgage interest in various tax brackets and the potential for a lost decade of low interest rates and lousy returns on everything, making 4.75% look like a good return. The odds favor returns of over 4.75% somewhere in the world for your money at some point. Risk tolerance varies, however.

[nm87710]

walter, pardon me if i am wrongly interpreting your statement.

You are either assuming something that is not there or i did not do a good job of presenting only the facts and taking the neutral position i intended. I did not even discuss the tax advantages of borrowing on your home or deducting margin investment interest. If i had added that you would probably have thought that i viewed people that paid off their mortgage as idiots.

at age 45, which was about 5 years ago, i paid off my mortgage.

the clients that came into my office had never heard a financial professional talk about the sleep factor or that leverage (debt) has a negative side.

I also know that the vast majority of investors either lose money or only earn a fraction that the market returned. This is due to a number of factors that have nothing to do with the investments themselves or that they picked an actively managed fund that underperformed the market versus an index fund. It has purely to do with emotions, which guide all human decisions, whether you will admit it or not. You said that you only made some of your decisions based upon emotions. This is simply untrue. Being a rational, anal retentive person who also thought that logic could control, this took me a long time to understand but made me a much better adviser when i did.

My experience as a planner has been limited to the midwest, specifically indianapolis and cincinnati. The millionaire next door book is true. the people i met with that had significant net worths had no debt. this was especially true in cincinnat since my firm was on the west side. If you know anything about cincinnati then you know exactly what i mean.

+1

[dave thompson]

+100

I have some experience in the mortgage/finance/vc world and to simplify things as an individual you are either a slave(- net worth) or lender(+ net worth). There is no middle ground. The quicker you are out of debt the quicker you build net worth - if that is your goal. It ain't rocket science.

Mortgages were designed by mortgage bankers for the benefit of mortgage bankers - not borrowers. Contrary to the housing, lending and real estate industry marketing hyperbole, mortgages are not financial investment instruments for borrowers and neither are homes. Nobody in their right mind would borrow money under mortgage terms for investing purposes.

Pay it off in a heart beat and you'll see the world in a whole new light while setting a good example for your children.
Now you are my kinda guy! If you were a financial counselor I would hire you in a second, right after firing the rest of the so-called advisors who would advise me to keep/take on debt. Having little or no debt opens a vast new world for folks in addition to creating a frame of mind that is at peace. No-debt marriages are wonderful (ask me how I know), they last longer and produce happier families.

[slowandsteady]

This doesn't seem right to me. Let's say you have $100 cash, and $100 due on your mortgage. Your net worth in this simple example is $0. If you take your $100 cash, and pay off your mortgage, you now have a net worth of ..... $0!!


1) Matt - Their new net worth is the FULL VALUE OF THE HOUSE. They have no cash but they have full ownership of the home so their net worth is not $0 but instead whatever the home is valued at. Additionally, they can borrow against the home value...

2) Your mortgage rate is exceedingly low. Homes sale are at very low prices right now as are new mortgages. I would tell you to invest your cash back into another rental unit. Historically speaking you will do much better with that money in real estate than paying off your cheap existing loan. The new rental will kick off cash flow, increase in value over time and offer tax advantages not available in many other investments.

3) You can invest it in long term bonds or CDs and earn more than the 4.75% loan you are paying down now. Anything over your loan amount is money earned!

4) don't forget the tax advantages your mortgage offers so it may make your loan less than the interest you pay from an out and out tax standpoint.

5) You can leave it as cash or partial cash and partial invested in same funds, cds, bonds etc. and GO ENJOY THE YOURSELVES. TRAVEL, VISIT THE KIDS , SEE THE WORLD DONT WAIT TILL YOU'RE HALF DEAD AND TOO OLD TO DO THE THINGS YOU HAVE ALWAYS WANTED TO SEE AND DO!!!!

[hookookadoo]

To the back and forth comments on leverage I think an important clarification needs to be made. LEVERAGE IS NOT BAD...it is simply a mathematical amplification of risk and returns. A $400K home with a $10k mortgage and a $400K home with a $390k mortgage are both leveraged assets. The former is is conservatively leveraged and the latter, most would argue, is excessively leveraged though noting many a mortgage was given out prior to 2008 with exactly that profile. But let's take a deeper look. What if the guy with a $390k mortgage has $1 million in liquid assets. He has an excessively leveraged real estate investment but individually he is not excessively leveraged at all.

You could likely apply the same analogy to debt. Debt is debt - it is not intrinsically bad. The question is can an individual comfortably afford the terms of their debt across a wide range of economic scenarios.

So, I guess all roads leads to "it depends."

[hookookadoo]

1) Matt - Their new net worth is the FULL VALUE OF THE HOUSE. They have no cash but they have full ownership of the home so their net worth is not $0 but instead whatever the home is valued at. Additionally, they can borrow against the home value...



I might be jumping in line ahead of Matt on this one but he is correct. Add the house to the equation and the end result is the same as he stated.

$300k home + $100K in cash = $400k in assets.

$400k in assets less $100k in mortgage is a $300k net worth.

Payoff the $100k mortgage with the $100k in cash. The two cancel each other out and your net worth is $300k...same as it was before.

[1centaur]

The quicker you are out of debt the quicker you build net worth - if that is your goal. It ain't rocket science.

That has simply been untrue for millions of people for 50 years.

If you make the right calls, debt builds your net worth quicker than lack of debt, period. Being in US real estate has been the "right call" for a long, long time (indeed, its stubborn refusal to go down was its downfall because the ratings agencies assumed it would continue to rise in assigning AAA ratings to RMBS). Homeowners who were scared of leverage by the Depression but really wanted to own a home ended up making a levered bet on real estate and it paid off big time, funding retirements for many who would have been debt free and much poorer because of it if they had not chased the suburban dream. Further, those who feel the need to be debt free are also likely to be very conservative in their investments, and that also would have been the path to low net worth over the years.

I can't tell you that US real estate will rise in price over the next decade, though inflation and in-migration may suggest it will, but if it does your net worth will be higher (assuming you are not forced to sell in a downturn) from levering that rise 5x and investing the remainder in 5% bonds than if you pay your house off and invest in 5% bonds with your monthly excess cash flow. That's arithmetic.

[allegretto]

as someone mentioned earlier, rates will be higher and money will be worth less in the future. makes less sense to pay off a debt with today's money right now unless you have nothing else to invest in.

most investors can't make more than 5% or so long term. but then again most investors either DIY (foolish unless you're educated) or have a "Financial Planner" (even more foolish unless he/she is extremely well educated).

so

1) don't pay off the mortgage. put the money to work conservatively until,

2) you've educated yourself enough to make more than 5%

finally, perhaps in some places millionaires have no debt, but most i know have plenty. they realize that some debt should be paid early and some not. to throw liquid assets at an illiquid, non-income producing asset should only be done when you have more money than you know what to do with. some would suggest that this should not be done in any case.

[dekindy]

Taking out a margin account and not paying off your mortgage, which is at a historical low, are 2 different things. Stocks and real property are so different that we need a seperate thread to discuss the differences.

Mortgaging/leveraging a stock account, in my opinion, is a bad idea.

When rates are 9-10% in a few years, paying off a 9-10% mortgage will be a different question.

I agree about the mortgage/margin discussion. I mentioned the margin account only as an example to make a philosophical point about whether to pay off a mortgage versus not. For some reason people don't make as strong a conncection about the debt supporting the investment until you put it in the terms of a margin account with the investment as the collateral instead of the debt being a mortgage with your house as collateral.

Mortgaging or leveraging is neither a good idea or a bad idea, it is decision based upon the investor's tolerance to take on an additional risk factor. The good or bad idea is the investment. Leveraging a good investment multiplies your earnings. Leveraging a bad investment multiplies your losses. Bigger potential gains and losses equals more risk.

I disagree about the 9-10% mortgage. It is not the real value but the relative value of interest rates versus riskier investments. I don't remember enough history on risk premium to comment on the historical numbers. But as long as you have capitalism there is going to be a risk premium. Sometimes it is small and has also been negative. But over the long term it will be positive otherwise nobody would take risk.

[rugbysecondrow]

Mortgaging or leveraging is neither a good idea or a bad idea, it is decision based upon the investor's tolerance to take on an additional risk factor. The good or bad idea is the investment. Leveraging a good investment multiplies your earnings. Leveraging a bad investment multiplies your losses. Bigger potential gains and losses equals more risk.



I agree with you. I think it depends on how one thinks of their house. Is it strictly and asset with which you manage like any other investment or is it a home? I don't think the two reconcile well as general concepts. Frankly, I wouldn't leverage my home, where my children sleep and we have some security as a family. Some people view it strictly as an asset, which is their position and it works for them.

[93legendti]

I agree about the mortgage/margin discussion. I mentioned the margin account only as an example to make a philosophical point about whether to pay off a mortgage versus not. For some reason people don't make as strong a conncection about the debt supporting the investment until you put it in the terms of a margin account with the investment as the collateral instead of the debt being a mortgage with your house as collateral.

Mortgaging or leveraging is neither a good idea or a bad idea, it is decision based upon the investor's tolerance to take on an additional risk factor. The good or bad idea is the investment. Leveraging a good investment multiplies your earnings. Leveraging a bad investment multiplies your losses. Bigger potential gains and losses equals more risk.

I disagree about the 9-10% mortgage. It is not the real value but the relative value of interest rates versus riskier investments. I don't remember enough history on risk premium to comment on the historical numbers. But as long as you have capitalism there is going to be a risk premium. Sometimes it is small and has also been negative. But over the long term it will be positive otherwise nobody would take risk.
I think we agree on all counts.

The reason I mention 9-10% interest rates is:

1) If he needs a mtg/money in the future and rates are double what they are now, he will probably be kicking himself.
2) Higher mtg rates likely mean higher rates all around, so instead of paying off a 4.75% mtg he could be liquid in a money market fund. Not too long ago my Smith Barney FMA was as high as 5.5%.

So yes it is relative, but once that chunk of money is in the house it is hard/painful to access-especially if rates have doubled.

[dekindy]

I think we agree on all counts.

The reason I mention 9-10% interest rates is:

1) If he needs a mtg/money in the future and rates are double what they are now, he will probably be kicking himself.
2) Higher mtg rates likely mean higher rates all around, so instead of paying off a 4.75% mtg he could be liquid in a money market fund. Not too long ago my Smith Barney FMA was as high as 5.5%.

So yes it is relative, but once that chunk of money is in the house it is hard/painful to access-especially if rates have doubled.

All valid points. The only problem with these money market funds is that they are taking more risk and seem to be breaking the buck more often than in the past. I was recommending a guaranteed income fund in a 401k. I found out later it was going to break the buck, might be as high as 9 cents but never heard the final outcome. These have not been confidence inspiring events and make me more suspicious of higher earning liquid funds, especially in light of the recent financial events.


OP, are we helping?

[nm87710]

That has simply been untrue for millions of people for 50 years.

(1)If you make the right calls, debt builds your net worth quicker than lack of debt, period. Being in US real estate has been the "right call" for a long, long time (indeed, its stubborn refusal to go down was its downfall because the ratings agencies assumed it would continue to rise in assigning AAA ratings to RMBS). Homeowners who were scared of leverage by the Depression but really wanted to own a home ended up making a levered bet on real estate and it paid off big time, funding retirements for many who would have been debt free and much poorer because of it if they had not chased the suburban dream. Further, those who feel the need to be debt free are also likely to be very conservative in their investments, and that also would have been the path to low net worth over the years.

I can't tell you that US real estate will rise in price over the next decade, though inflation and in-migration may suggest it will, but if it does your net worth will be higher (assuming you are not forced to sell in a downturn) from levering that rise 5x and investing the remainder in 5% bonds than if you pay your house off and invest in 5% bonds with your monthly excess cash flow. (2)That's arithmetic.

(1) People don't, can't and won't make the "right calls".

(2) Arithmetic doesn't make one wealthy* The right behaviors do.


*OK, so arithmetic does make the "lender" wealthy - especially if using rule of 78s on a product that never goes full term. I know.

[93legendti]

All valid points. The only problem with these money market funds is that they are taking more risk and seem to be breaking the buck more often than in the past. I was recommending a guaranteed income fund in a 401k. I found out later it was going to break the buck, might be as high as 9 cents but never heard the final outcome. These have not been confidence inspiring events and make me more suspicious of higher earning liquid funds, especially in light of the recent financial events.


OP, are we helping?
My FMA has FDIC insurance.

[texbike]

OP, are we helping?

Absolutely!

This has been a great discussion and I've read each and every entry and opinion expressed in the thread so far.

The only reasons that we considered paying off the mortgage in the first place is that it would bring great satisfaction to have paid off one of life's largest purchases, it would reduce the amount that we would "really" pay for the property over the life of the mortgage, free up monthly cash flow, and play to our natural inclination to be debt-free.

However, we do recognize that the money could be used elsewhere to generate returns that would be greater than what we are paying in interest on our property. As mentioned before, two or three years ago, we wouldn't even be having this conversation. The money would have gone into other investments that were generating a significantly better return for us at the time. However, those returns are now MUCH flatter and leading us to this discussion.

Like Adam, I'm a fan of liquidity, but I'd like for those liquid assets to be generating more of a return than what we are currently seeing out of our accounts.

One of the things that we have considered is buying a couple of cheaper rental properties to generate more of a monthly cash flow. We could then direct the profits into paying down our current mortgage each month beyond the monthly payment.

1Centaur asked about Munis a couple of pages back. We don't directly hold any bonds, but do so through a couple of managed funds that we are a part of in our other investments.

I've also used margin accounts for trading in the past somewhat successfully. Although I'm coming up on the 10th anniversary of being bitten significantly while trading on margin during the downturn of 2000. It definitely tempered my use of margin trading. :)

Anyway, this has been great information. I hope that it has been helpful for others as well!

Texbike

[xlbs]

200K over 20 years @ 4.75% total expenditure = $309K (paid monthly)

200K value of house with real estate growth in value @ 3% = 361K at 20 years.

Net value of invested dollars is $361-$309 = $52K to the good.

Compare.

200K value at 20 years 3% growth (with paid off mortgage) = $361K

$1,000 invested monthly at 3% compounding for 20 years = $327K

House plus investment is 361 + 327 = $688K net worth at 20 years.

Questions?!

[Pete Serotta]

(1) People don't, can't and won't make the "right calls".

(2) Arithmetic doesn't make one wealthy* The right behaviors do.


*OK, so arithmetic does make the "lender" wealthy - especially if using rule of 78s on a product that never goes full term. I know.


People can make the right calls if they are taught (no not all will make it but some will and that is better than today),

Some have to live for today and impress the neighbor or themselves so they borrow on their future earnings. In this economy that will become harder to maintain the life style they want with a salary not growing by much (even figuring inflation) and payoff their past life style choices,

Arithmetic does make one "less poor" (spend less than you earn) Live within your means and use $$s and time to increase skills to obtain bigger pay and/or happiness,

As I tell my daughters "Life is not fair, suck it up, move forward and things will get better with hard work and education," (this does not necessarily mean a PHD but is life experience education, technical education, skill growth,) Yes this is a 10,000 foot view of life but it works more ofter than not.

Credit card debt interest rates and monthly fees are as bad or worse than rule of 78. (BTW rule of 78 was an old formula that banks used to penalize you on installment loans (such as auto) when you wanted to pay it off early)


Banks are in the business of making money, They will do whatever is needed to reach that objective. Please keep that in mind when you go for a loan on anything-The cost of that money for the time you have it can be a LOT OF $$s and you must factor that into purchase price and then decide is it worth it.,,,

I am lucky that my daughters deplore debt (except for mortgage) and live within their means (saving something for down the road).

The payoff of a 4.5% mortgage is a personal one for at that rate (at least for me) it is better to keep the $$s in the bank other financial investments - in case that day comes when I need it to support myself. BUT for others the peace of mind of having no mortgage is nice.

Also some folks can not save, I have some in-laws that have inherited money and in less than a year have spent it (on what? who knows. ) In that case, if that is part of your personality, pay off the mortgage!!!. Unfortunately, these folks are the ones who then take another mortgage down the road to pay off other items they want...

YEAH NO SINGLE ANSWER - but after all that is life and there is more than one way of living it. :confused: :confused:

[McQueen]

There are many other things to consider prior to paying off ones Mortgage..

I would reccommend the OP contacting a professional to do some financial planning. I'd want to look at all areas of financial health before one starts to pay back a mortgage as it is a very illiquid investment..

How much savings in short term/liquid investments the OP has for an emergency fund, should something happen to income.

Wife, kids at home still? College looming? Enough saved for college?

How about insurance? Enough life insurance in place? Disability insurance? Is homeowners adequate (maybe an addition/remodel hasn't been factored in?)

How is retirement savings looking? Will company sponsored plans be sufficient, or is savings outside a qualified plan needed? How about post retirement medical insurance - has that been planned for.

How is credit report - contrary to what you might think, having a mortgage and paying it timely, helps, not hurts, your credit rating. A person with a mortage and two revolving credit cards who pays the balance each month, will likely have a higher credit score than a person who is the same in every other detail, except no credit cards or mortgage.

Do you have a car payment?

I'm missing tons of other things, but you get the point.

Once you prioritize all the other possible uses of your excess money, then you can start looking at what the opportunity cost is of paying off your mortgage.. whether there are other investments that may produce greater returns than the tax adjusted interest on your mortgage.

The idea of paying off your mortgage to be debt free and owning your home outright sounds great - but whether it is the best use of your money is (as this discussion has proven) of great debate.

[Pete Serotta]

;) well put!

There are many other things to consider prior to paying off ones Mortgage..

I would reccommend the OP contacting a professional to do some financial planning. I'd want to look at all areas of financial health before one starts to pay back a mortgage as it is a very illiquid investment..

How much savings in short term/liquid investments the OP has for an emergency fund, should something happen to income.

Wife, kids at home still? College looming? Enough saved for college?

How about insurance? Enough life insurance in place? Disability insurance? Is homeowners adequate (maybe an addition/remodel hasn't been factored in?)

How is retirement savings looking? Will company sponsored plans be sufficient, or is savings outside a qualified plan needed? How about post retirement medical insurance - has that been planned for.

How is credit report - contrary to what you might think, having a mortgage and paying it timely, helps, not hurts, your credit rating. A person with a mortage and two revolving credit cards who pays the balance each month, will likely have a higher credit score than a person who is the same in every other detail, except no credit cards or mortgage.

Do you have a car payment?

I'm missing tons of other things, but you get the point.

Once you prioritize all the other possible uses of your excess money, then you can start looking at what the opportunity cost is of paying off your mortgage.. whether there are other investments that may produce greater returns than the tax adjusted interest on your mortgage.

The idea of paying off your mortgage to be debt free and owning your home outright sounds great - but whether it is the best use of your money is (as this discussion has proven) of great debate.

[BigDaddySmooth]

Why don't you compromise and just double your monthly payments? You'll pay off your mortgage much quicker while still having a large "cash" nest-egg that I presume you would have use to pay off the 20-year note.