Eliminating debt is my main FIRE goal

[clifp]

Quote:

Originally Posted by Lusitan Alternatively, if the money is invested in "safe" investments, say FDIC-insured CDs or heck even throw in short-term govt bonds ... well, the rate or return on those is lower than most debt that people are considering paying off (i.e. mortgage and student loan debt ... obviously credit card debt is generally a no brainer to pay off). I'm just thinking out loud, I appreciate hearing the other side of the coin. I can never make up my mind, so with my after-tax dollars I always try to do both -- taxable investments & paying down debt! Schizo investing

While it is certainly true today, at many times during the last ten years (when I've been watching CD and mortgage rates closely) it has possible to get a 15 year mortgage loan for X% and turn around and invest the money in a long term (5+ year) CD at X+.5-1% higher. I know when I got my HEL in Jan 2008 at 4.99%, I could have turned around and stuck the money in 5-7 year CD at 5.5% that same day. The rates were 6% only a couple of weeks early which POed me enough that I didn't bother to do it . In the case of 30 year mortgage the CD spread is narrower and often the same.

Now ignoring my discussion of the tax implications of the previous post. BTW, ERD are you looking at taxes when you do your FIRECalc runs?

Lets consider the case of somebody who has a mortgage at 5% and also a 7 year CD ladder also averaging 5%. To address Want2Retire concerns about having to enough to pay the mortgage, during your annual withdrawal you increase the amount to cover your mortgage, by decreasing the amount you roll over in the CD ladder.

The advantage is that CD ladder/mortgage combination gives you a lot more flexibility than simply being debt free.

Lets say interest rates slowly over time, in this case each year as you roll over your CD your income increases. If CD interest rise dramatically (lets say by 2-3%) you are often better to pay the 6 month early withdrawal penalty and lock in a new higher interest rate for the whole CD ladder. If on the other hand CD interest rates drop (like has happened over the last year) as your CD mature you are free to apply the money to your mortgage, and you are in the same situation.

The new addition to this discussion is that if housing prices drop dramatically, you can also simply walk away from the mortgage.


In effect the mortgage/CD Ladder is a the rare situation where if things go up (interest rates/housing prices) you win, if things go down you break even and the banks lose.

[Gumby]

Quote:

Originally Posted by clifp The new addition to this discussion is that if housing prices drop dramatically, you can also simply walk away from the mortgage.

Only in certain states (like California and AZ, I think) in which mortgages are non-recourse. In my state, the lender can foreclose and then execute against any other assets you may possess to make up the deficiency.

[ERD50]

Quote:

Originally Posted by clifp BTW, ERD are you looking at taxes when you do your FIRECalc runs?

Tax situations will vary of course. CFB would always make the case that since you are drawing that extra amount from your portfolio, it would be taxed at your marginal rate, and many people don't qualify for tax deductions on their mortgage.

I suppose that is true if these are withdrawals on a tax deferred account. Mostly, I think people could avoid a full marginal tax hit. But...

In my case, even if I ran the numbers with a full 15% added to the mortgage payment, to represent the whole thing taxed at 15% for the entire 30 years (who knows what future brackets might be), and no deduction, the mortgage still came out *slightly* ahead.

If I get organized, maybe I'll create and organize some "tiny url" links to each of the scenarios, and post those for review.

-ERD50

[clifp]

Surprisingly I couldn't find a definitive list of recourse and non-recourse states (and Refi often changes the situation) on the net. One source said 27 of the state were non-recourse. Certainly most of the problem states, CA, AZ, NV are non-recourse, as is Hawaii. Florida is evidently a recourse state but AFAIK many mortgages in the state were non-recourse. (Why a mortgage lender would write a non-recourse loan in a recourse state is beyond me.)

I never hear about banks going after people who walk away from their mortgage, if they have assets I kinda of wish some banks would.

[Martha]

Quote:

Originally Posted by ERD50 OK, I'll admit it, you love being entirely debt free. There, that wasn't hard for me to say at all. Why do you say we won't admit it? As far as the rest of your explanations, I think you should stick with "it makes me feel good, so I do it". Your added explanations always seem to totally ignore the benefits of having the larger portfolio, and it always leaves me wondering why that is. When I've done the FIRECALC runs, I don't pay much attention to the final average and max (though those are generally higher as well). I look at the success rate. It always tells me that the larger portfolio *helps* in the bad times, not hurts. But I keep hearing people say they don't want that debt in case bad times come? Heck, I *want* the debt (and added liquidity) in case bad times come. More buffer for the portfolio. -ERD50

But FIREcalc does not have historical data on the value of homes. Or any other real estate.

[ERD50]

Quote:

Originally Posted by Martha But FIREcalc does not have historical data on the value of homes. Or any other real estate.

Irrelevant, isn't it?

A $300,000 home is a $300,000 home, mortgage or no mortgage. And after 30 years, neither has a mortgage.

-ERD50

[Martha]

Sorry ERD, I leaped ahead to the issue of how real estate effects survivability of a portfolio and we don't know that answer from FIREcalc.

To exaggerate, should you retire with a million dollar paid off house and a 500,000 portfolio? Maybe, especially if you plan to sell the house and your expenses are really low. FIREcalc won't help you much in figuring it out unless you do sell the house and invest it in what FIREcalc tracked. But you wouldn't retire with a million dollar house with a 100% mortgage and a 500,000 portfolio. Your expenses are too high. Your portfolio is the same but your networth is a lot less. Maybe you figured on 20% a year "Honobob" appreciation, but you still couldn't retire.

The issue I was thinking of is two million dollar portfolio with no home but with rental expenses, vs a 1.5 million portfolio with a .5 million dollar home and no rental expense or mortgage. You can't properly compare the risk using FIREcalc because we don't have historical data which includes performance of real estate. If you include the home in the portfolio, the portfolios are the same size but may have different risks. FIREcalc won't give you history of those relative risks. If you do not include the home in the "portfolio" then you may be overstating your risk (smaller portfolio, less expenses, but your expenses probably won't increase as much if you are a owner rather than a renter).

FIREcalc never was helpful to me except as a very rough tool because we have been so heavily invested in real estate.

To go back to the issue fromwhich I digresed (whether to pay off the mortgage) how many here would borrow money on their paid off home to invest in the market?

[clifp]

Quote:

Originally Posted by Martha To go back to the issue fromwhich I digresed (whether to pay off the mortgage) how many here would borrow money on their paid off home to invest in the market?

Well I did last year, and I'm pretty sure that in effect Nords has with all of his refinances over the years. Maybe it is just an island thing.

Last fall lenders were are getting smarter, and much stricter on lending on houses and credit was hard to get,. but if I could have borrowed money at <5% back in Nov. I would have been very tempted. Now last March I was suffering from market combat fatigue so I wouldn't have been tempted.

I certainly don't rule out refinancing in the future if I think mortgage rates, CD rates, and the market prospects all look favorable.

[ERD50]

Quote:

Originally Posted by Martha Sorry ERD, I leaped ahead to the issue of how real estate effects survivability of a portfolio and we don't know that answer from FIREcalc. ... FIREcalc never was helpful to me except as a very rough tool because we have been so heavily invested in real estate.

Just to be clear (in case anyone gets the wrong idea), I am not promoting buying *more* home than you would using a mortgage for leverage. The debate is about the pros/cons of paying off debt on your principal residence, not how much house to buy. I think Martha understood that, but for any others...

I keep the home value out of my FIRE calculations, since I agree with you - it is tough to estimate it's future worth. And I figure (like in this downturn), if my house declines, so would the house I might move to. Not a good thing if you are downsizing, or selling it off to rent, and not a bad thing if it is a "sideways" move.

I guess all you could do is take your best guess and plug in some equivalent investment, or run FIRECALC separately for best portfolio success, and treat the real estate as a separate portfolio outside of FIRECALC? I know real estate is an attractive investment for a lot of people, and probably works out well for most, but the lack of diversification always bothered me, and my only real estate is my home. But I may be the one who is losing out - tough to say.

Quote:

To go back to the issue from which I digresed (whether to pay off the mortgage) how many here would borrow money on their paid off home to invest in the market?

If I'm being honest with myself, that is exactly what I did by maintaining my AA with a mortgage. The interesting thing is, that wording does scare people off, and makes it sound risky. I think it is one of those "behavioral finance" traps, where if you turn it around, you often get a different answer.

When I moved to a house of about the same price, I took out a bigger mortgage than the balance I had. Yep, I invested it (1992), some of it back into the house along with sweat equity. A lot of people said "Oh, I would never risk my house on an investment", but of course, I was not doing that. I could make the mortgage payment if the investments lagged. But since I had been LYBM and a saver investor for so long, the mortgage was not so big compared to my portfolio.

So let's turn the question around (open to all). I think I've posted this before, and I don't recall getting a reply:

If anyone is in the camp that believes it is too risky to take out a mortgage and invest the money - then:


QUESTION:

Did you avoid investing a single penny (excluding an emergency fund) until after your mortgage was paid off?

It seems to me, that if a person had any investment at all, then they are not following their own advice. I would make an exception for offers of "free" money, like 401K matching, etc. But outside of that, any takers? I'm betting that a lot of people are talking out of both sides of their mouth on this one, w/o realizing it.

-ERD50

[Nords]

Quote:

Originally Posted by Martha To go back to the issue fromwhich I digresed (whether to pay off the mortgage) how many here would borrow money on their paid off home to invest in the market?

The first step is realizing that there are two equally valid approaches to financial decisions: emotional and logical. The two camps don't appear to be able to tolerate, let alone appreciate, each other's perspective. But even a Vulcan-grade logical analysis of a financial decision is worthless if the action keeps the person awake at night, causing them to lose faith and sell out at the pit of the market.

Second, the "bigger portfolio = better FIRCalc survival" logic is simplistic. It doesn't consider the issues of whether a mortgager is going to stay put in the house long enough to make the financing costs pay off, whether they're earning lower interest on other assets (bonds) while paying higher interest on a mortgage, and what their overall portfolio's volatility looks like. While a FIRECalc user may be able to juggle enough runs to get a feel for portfolio survival at different asset mixes (and volatility), it doesn't model the part where a mortgager can't come up with the mortgage payment despite having taken on this fixed expense.

When we were debating the mortgage decision, we were encouraged by a larger FIRECalc portfolio survival rate. However our effective decision determinants were an inflation-adjusted pension, a high-equity portfolio, and not moving for at least the next 20 years. I'd never do this if I was still on active duty.

http://www.early-retirement.org/foru...ets-15237.html

Yes, we did take out a smallish mortgage on our rental home in 2001 to buy Berkshire Hathaway at $2200/share. But the last refi on our primary residence dragged us through a knothole and we'd never be able to refi the rental's mortgage. Wouldn't make sense to do so anyway, since we're planning to sell as soon as the tenants are done with the place-- and this time we really mean it.

[RunningBum]

Quote:

Originally Posted by ERD50 Quote: Therefore, the people who are going with eliminating debt aren't dead wrong like you seem to be saying. Hold on there Cowboy - I NEVER said that , and I never say never . I have only said that they may be wrong to think this makes a big difference and that they should run the numbers for themselves. Please do not misquote me. Thanks. -ERD50

I lost sight of your message and got off track a bit. My fault. We're in agreement that it's close to a wash. It doesn't bother me if others put undue importance on getting rid of debt when the numbers show it's not a big thing. I'm bowing out.

[ERD50]

Quote:

Originally Posted by RunningBum I lost sight of your message and got off track a bit. My fault. We're in agreement that it's close to a wash. It doesn't bother me if others put undue importance on getting rid of debt when the numbers show it's not a big thing. I'm bowing out.

Thanks for the acknowledgment - sorry if I came on too strong with the response, but I try hard to remain neutral on this. All I try to do is encourage people to check the numbers for themselves.

Quote:

Originally Posted by Nords The first step is realizing that there are two equally valid approaches to financial decisions: emotional and logical. The two camps don't appear to be able to tolerate, let alone appreciate, each other's perspective.

That is often is the case, but all I can say is - I am well aware of the differences (being analytical myself, and married to a non-analytical type). So it does not mean one cannot understand/appreciate the other, it takes work, and that is what I'm trying do with all this silly typing I do on the subject.

So when an emotional type makes a decision which seems contrary to a rational view, there is usually *something* behind that emotional response. That is what I'm searching for. Generally, these people are not stupid, they are not incapable of understanding the rational view, they may not be ignorant of the data - it is just that the *something* that drives them emotionally is *stronger* (for them) than the rational drivers. An example:

My wife is very afraid of flying. Of course I repeat the statistics, of course I tell her she has more to fear from our drive to/from the airport than the flight. Yet, she is white-knuckled and a wreck on the rare flights I can get her on. She isn't stupid, nor ignorant of the facts, and she can understand the significance of the stats. But she is still afraid.

Why? I think it's pretty simple.

She is 8 miles up in a machine with only air between her and the ground. Machines break. If this one breaks in a serious way, she dies. She doesn't know the pilot, or the mechanics, or the history of the plane, or what that funny noise means, or is that normal routine turbulence, or is that "tear off a wing" turbulence? It's friggin' scary to her. Regardless of the numbers.

OK, so cars are more dangerous statistically. But, she has ridden and driven in cars her whole life. She has been conditioned, she has some control, she has some history, she knows what noises her car makes and that when her car makes a funny noise to pull over and call me. She can't do that in a plane. Even if something bad happens in a car, she knows it usually ends without much drama.

So her fear does not make sense by the numbers, but analytical me still understands it, and I do what I can to comfort her on a flight. I think I "get it".


So people keep repeating that they feel so great w/o debt - but their reasons seem to based on economics (lower cash flow requirement, avoid interest payments). So when presented with other economic data, why not consider it? But so many seem to want to ignore it, in favor of....what? That's what I am so curious about.

OK, so you could say "fear of the unknown" (basically my wife's fear of flying). But most of these people invest in stocks and realize that a 100% fixed investment is not "risk free". I can understand no debt and 100% fixed income - even though I don't agree with the approach.

So I just don't get why so many people feel so strongly about paying down a mortgage. I can appreciate doing it or not doing it, that is personal preference. But I can't understand feeling strongly one way or the other. What is the strong emotional driver that overcomes the numbers that usually say "no big deal"?

-ERD50

[DallasGuy]

Back in 1999 I made the decision to pay off my mortgage early. At that point in my life I had a substational amount in savings/investments already so my decision did not affect my liquidity very much. I had 20 years left on the 30 year mortage and I was paying 7% interest on the mortgage. The interest deduction was no longer a factor for me, so the tax consequences did not have to be considered. I reasoned that by paying off my mortgage early I basically guaranteed myself a 7% return on that money. Of course interest rates later dropped and I could have refinanced to a lower rate, but at the time I had no reason to think rates would drop. So the decision was made based on the 7% interest rate. And I'd slowly be getting the money back each month in the form of no mortgage payment. I may have done better with my investments in the stock market, but a 7% return didn't sound that bad either. In December of 1999 about the time I paid off my mortgage, the DOW closed at 11,497. Today the DOW is at 9,370. The decision actually turned out to be a pretty good one I think. If I'd left my money in the stock market, I'd be down about 18.5%. Instead my house has increased in value by 27.5%. I know this was skewed by the down market, but it actually worked out quite well for me. So, you can't always go strictly on a model like FIREcalc. Sometimes it might be based on a gut feel for how the market is doing. Back in 1999, I was feeling that the market was a bit overpriced and therefore decided to pay off my mortgage instead with the cash I had accumulated. Also, I understand that this analysis assumes I would have let my money "ride" in the stock market the entire time. I actually think many people do the buy and hold strategy so this isn't that unrealistic of an expectation.

[missionfinder]

Given the rate on my mortgage it doesn't make sense to pay it off in one large chunk. Had a discussion about this with my fee-only advisor, ran the numbers and we both came up with basically the same conclusion: financially its not going to gain much, if anything to pay it off early, but if it helps me sleep at night then do it. I owe about $135K on the mortage and paying it off with the one payment plan would be easy but I look at it this way: I'm actually losing money by doing it because my investment dollars are far more deflated by a percentage than the cost of my mortgage. Even if it takes 5 or 10 years for the market to recover, I'm better off waiting. So my wife and I had a discussion about it and we compromised (actually, just continued with our current plan):

Instead of paying the mortgage every month, we pay it every 4 weeks. This gives us one extra full payment each year towards principle. Plus, each month we make an additional $100 payment towards principle so every 12 months we're making 2.04% extra payments which apply fully towards prinple.

Also, any time we get extra unexpected money we put it towards principle. I eBay or Craigslist everything around here when we've gotten the "useful life" we wanted out of it. For example, when I upgrade my computers I sell the old equipment on eBay, I keep the old tires when I get new tires and put them on Craigslist for $50, when my wife was no longer breast feeding the baby I put the pump on eBay, etc. Sounds like small change but it brought in $5000 last year and $2000 so far this year.

Our mortgage will be paid off pretty quick at the rate we're going and its a lot better than throwing a chunk of my deflated investment money at the mortage. The mortgage is our only debt. We purchased some land in this down market where we plan to retire to, and in a few years we're going to sell the current house and downsize (much smaller house but we're going to get a steel outbuilding to hold 2 driven vehicles, a project/hobby vehicle and my wife's studio).

[bosco]

Quote:

Originally Posted by missionfinder Our mortgage will be paid off pretty quick at the rate we're going and its a lot better than throwing a chunk of my deflated investment money at the mortage. The mortgage is our only debt. We purchased some land in this down market where we plan to retire to, and in a few years we're going to sell the current house and downsize (much smaller house but we're going to get a steel outbuilding to hold 2 driven vehicles, a project/hobby vehicle and my wife's studio).

This is an interesting thread. I haven't posted (nor been around much) in some time.

I am in the camp that paying off the mortgage feels good. Since there isn't that much difference in the outcomes, why not? Drinking a beer feels good as well, even though it would definitely be financially advantageous to invest the beer money. Nevertheless, I drink it...

But what I find interesting is your feeling that using your investments to pay on your mortgage would be using "deflated" money. If you believe that your investment money is really deflated, than all the more reason to pay as little as you can on your mortgage (or even get a bigger one) and pile any extra cash into investments before they "reflate." Or am I missing something?

That being said, I think your approach is sort of a "middle way" that makes sense, even if the justification may not be ironclad. I guess this is why I find this thread interesting--it seems to provide a lot of insight into how many of us think. Although I am a retired engineer, some of my financial decisions that worked out the best were not totally logical. But I realized it at the time, and made them anyway. Some seemingly "logical" ones were disastrous as well.

[nun]

I'm a bit worried by the rapid rise in the stock market, I think it's a bit of a bubble, so I'm rebalancing by taking some profits and paying down my principal. I'm actually selling on the way up

[brewer12345]

Quote:

Originally Posted by ERD50 So people keep repeating that they feel so great w/o debt - but their reasons seem to based on economics (lower cash flow requirement, avoid interest payments). So when presented with other economic data, why not consider it? But so many seem to want to ignore it, in favor of....what? That's what I am so curious about. OK, so you could say "fear of the unknown" (basically my wife's fear of flying). But most of these people invest in stocks and realize that a 100% fixed investment is not "risk free". I can understand no debt and 100% fixed income - even though I don't agree with the approach. So I just don't get why so many people feel so strongly about paying down a mortgage. I can appreciate doing it or not doing it, that is personal preference. But I can't understand feeling strongly one way or the other. What is the strong emotional driver that overcomes the numbers that usually say "no big deal"? -ERD50

Thus the fascinating field of behavioral finance exists. Along the same lines, I am a very well edcated and experienced investor who tends to look at my investments/portfolio in a coldly rational light and (mostly) make decisions based on my best analysis rather than emotional factors. Yet I still fall into the common traps noted by behavioral finance (endowment bias, etc), at least until I realize what is happening and step back to reconsider (sometimes unsuccessfully).

So why do people make these types of decisions? I think a lot of it is due to the way our brains evolved over the years: the reflexes and brain architecture that makes survival more likely in primitive conditions does not help in modern finance. FWIW, I have a relatively early payoff of my mortgage in mind (always had a 15 year note, will be done in less than 9 years assuming I don't lump sum it at some point), but I invested from the start and even chose to take out some (cheap, subsidized) student lonas in grad school rather than liquidate assets.

[ziggy29]

The question of using cash flow to pay off debt or invest is an age-old question that we'll never see agreement on (in the general case). They really can't be directly compared because one is more of a safe "sure thing" and the other has the potential to be more lucrative over time but carries considerable risk. Each person's own risk tolerance profile and circumstances guide their decision, and in many cases, neither one is more "right" than the other assuming no unusual circumstances. And yet we so often hear people chastising others of the folly of their ways.

All I know is that when jobs are being eliminated or offshored and the market was tanking, knowing I could live on very little because we were debt-free and live simply was a very comforting feeling. But that's just us and I don't claim it's the right money move for everyone.

[nun]

Obviously the debt vs invest arguement is an old one and I certainly don't know the answer so I do both. Right now I'm putting a third of my excess income and half of my recent market gains towards extra principal with the goal of paying off the mortgage in 4 years. I haven't stopped investing, just increased the amount of my money I'm using to get rid of my final debt.

[Martha]

Quote:

Originally Posted by ERD50 So when an emotional type makes a decision which seems contrary to a rational view, there is usually *something* behind that emotional response. That is what I'm searching for. Generally, these people are not stupid, they are not incapable of understanding the rational view, they may not be ignorant of the data - it is just that the *something* that drives them emotionally is *stronger* (for them) than the rational drivers. An example: -ERD50

You are making too many assumptions. Emotional types? Contrary to rational view? It can be completely rational to pay off your mortgage early. It can be completely rational to borrow money on your home to invest in the market. It can be completely rational not to. FIREcalc tells some about historical risk and surviability but it does not predict the future. The thing with risk is that bad things can happen when you take risk and either choice has risks. It is not irrational for someone to say that they want a paid off house because their only source of income is their portfolio and they want my expenses really low if there is a crash. It is also rational for Nords to say that he has a inflation adjusted pension so using leverage to invest in the market is not so risky and may really pay off.

You don't include your home in your calculations. That is not irrational. But it also is not irrational for people to include their home. The future cannot be predicted. There are black swans. There are divorces. Things we never dream of can and will happen.

BTW, Isaac Asimov was afraid to fly. He was smart, rational, and not what I would call an "emotional type."