Pay off the Mortgage at Retirement???

[free4now]

The simplistic answer is that a 30-year mortgage almost always gives you enough time to recover from a bear market.

Thanks for that explanation Nords... I'm learning from this thread! I'm coming around from my "mortgage always bad" perspective to see that they can be useful in some cases.

The main thing that seems to help mortgages look good is that the payment doesn't rise with inflation over 30 years.

Still though, I think hardly anyone actually pays off a 30 year mortgage over 30 years. In most practical cases people pay off mortgages earlier to refinance or move. This is why I assume I will hold a mortgage for only 5-10 years when I do planning, to avoid making the mistake of counting on lots of inflation protection I will never see.

I'm too lazy to run FIRECalc simulations right now for 5-10 year real world mortgage terms, but I suspect that shorter term would make them look much less attractive.

 

[clifp]

I'm glad that refinancing worked out for Nords, but for most us without guarranteed government pensions (Does anybody outside of the military get get pension before they are 55?) I think it seldom makes sense to keep an existing mortgage, much less take out a new one.

While I understand how having a mortgage could increase a portfolio survivable using historical data, what if future stock returns in the next 30 years are lower than we've seen in the past 136 years? There are some very smart people, Buffett, Berstein, Speigel all suggesting this is likely to be the case.

For me the pay off vs keep mortgage debate is pretty simple; you should pay off your mortgage if either A. it makes you sleep better at night or B. The after tax cost of the mortgage is higher than the after tax risk free rate you can get on your investment.
I think it is important for people to really understand all the tax ramifications. Ffor instance early retiree are often able to take advantage of the standard deduction once the mortgage interest expense is eliminated, on the other hand paying off the mortgage may require selling appreciated assets that you owe capital gains tax on.

In my case assuming my ex-girlfriends 4.875% mortgage vs selling assets and pay $25K in cap gains tax, was the slightly cheaper option. Although pyschologically having a mortgage after not having one for 13 years is not a happy feeling.

 

[W2R]

For me the pay off vs keep mortgage debate is pretty simple; you should pay off your mortgage if either A. it makes you sleep better at night or B. The after tax cost of the mortgage is higher than the after tax risk free rate you can get on your investment.

I know that for me, it's SO simple. Both A and B are true. I will have no mortgage, and I will probably have a nice vegetable garden in the back yard. My small pension and small social security check will cover the rest of the necessities. I am working hard to build my nestegg, and plan to enjoy it. No matter what, I will have my home and that will give me tremendous peace of mind.

I don't want to travel. I don't want a Cadillac, or a boat, or an RV, diamonds, or furs. What I DO want is the peace of mind that I have, knowing my house is paid off. That probably makes no sense to most people, but I have lived through some hard times that have made this a Big Deal to me.

 

[Hydroman]

I don't want to travel. I don't want a Cadillac, or a boat, or an RV, diamonds, or furs. What I DO want is the peace of mind that I have, knowing my house is paid off. That probably makes no sense to most people, but I have lived through some hard times that have made this a Big Deal to me.

You make a whole lot of sense to me.

 

[Khan]

I know that for me, it's SO simple. Both A and B are true. I will have no mortgage, and I will probably have a nice vegetable garden in the back yard. My small pension and small social security check will cover the rest of the necessities. I am working hard to build my nestegg, and plan to enjoy it. No matter what, I will have my home and that will give me tremendous peace of mind.

I don't want to travel. I don't want a Cadillac, or a boat, or an RV, diamonds, or furs. What I DO want is the peace of mind that I have, knowing my house is paid off. That probably makes no sense to most people, but I have lived through some hard times that have made this a Big Deal to me.

Same here.

Have too much stuff as it is; and by middle class USA standards I have not much.

 

[LEX]

I applaud hilbilly and the rest of those that see a mortgage as in net liability no matter what one can attempt at financial arbitrage. Getting a banker (or loan shark) out of your chain of title is more important to me than working a spread against the mortage and the S&P and putting my home at risk. The fewer third parties you have in life that can impact your basic security, including bankers with their deed of trust, bad drivers, tax grabbing politicians, and not distant enough relatives with their agenda, the better chances to remain FIRED without unnecessary risk or hassels.

 

[sgeeeee]

I don't want to try to convince anyone to keep their mortgage. They should do whatever they feel comfortable with. But for those readers who are not afraid of debt on principle and may read this thread, we should correct at least one of misconceptions.

Keeping a mortgage in retirement puts my house at risk -- Your house is always at risk. Fail to pay property tax and you can lose it to the county. Fail to pay your insurance and you can lose it to fire, flood or wind. Holding a mortgage provides another organization (the bank) that you can lose your house to, but for a retiree this possiblility is extremely remote. Consider two unit retirees: Retiree A has $1M and a paid off house. Retiree B has $1.1M and a $100,000 mortgage. Retiree B would have to lose over 99% of his portfolio to lose enough to fail to make annual mortgage payments. If that happens, retiree A will also be out of money. Retiree A may be able to starve to death in his own living room, but he will not have avoided losing the house to the county. By the way, if starving to death in a home you own is the goal, then retiree B could choose to spend his last $100K to pay off the loan at any time. The only thing at risk for both retirees is that their choice to pay off or keep the mortgage may turn out to be more expensive than the alternative choice. That's where the FIRECalc simulations can be valuable. For any specific portfolio and mortgage situation, you can run the simulator and find out whether historically the odds were better (lower risk) for you to hold your mortgage or pay it off.

 

[Spanky]

I am amazed that this tread still raises so many responses.

It is very, very simple:
If you can earn a higher after-tax return on your investments than the after-tax interest rate expense on your debt, you should invest. Otherwise, you should pay off your balance.

For example, if your mortgage rate is 5% for a loan period of 5years and you can invest in a 5-year CD at 5.5%, do not pay off your mortgage. Is this simple?

 

[fluffy]

Consider my situation. I have about $70,000 in principle remaining with a $750 mortgage payment. At a 4% SWR, I need $225,000 in the bank to make the payment. If I just paid off the balance of $70,000, I would have $155,000 left, and withdrawing at 4% from the $155,000 I would be able to spend an extra $6,200 on myself as compared to keeping the mortgage.

Couple thoughts...
1. It seems like your monthly payments are very high, considering just $70,000 in principal. You ought to be able to refinance it to around $450/mo with 30-year fixed. That would make it be the "4% SWR equivalent" of only $135,000 instead of $225,000.
2. The 4% SWR allows for annual inflation increases while your fixed interest mortgage payments never go up. So while your mortgage payment now is equivalent to 4% SWR from $225,000 in 2007 dollars, in 10 years it will be significantly less.

P.S. I'm agnostic on whether it's better to pay off the mortage before ER... Just trying to define the problem more precisely

 

[sgeeeee]

I am amazed that this tread still raises so many responses.

It is very, very simple:
If you can earn a higher after-tax return on your investments than the after-tax interest rate expense on your debt, you should invest. Otherwise, you should pay off your balance.

For example, if your mortgage rate is 5% for a loan period of 5years and you can invest in a 5-year CD at 5.5%, do not pay off your mortgage. Is this simple?

Well . . . Spanky, it's very simple to say it's simple. But this advice is like saying, "Investment in stocks is easy. Buy low. Sell high. It really is that simple."

In fact, there is more to portfolio & mortgage planning than simply return. There is also the risk issue. With a house, you have the risk that your neigborhood declines and you no longer wish to live there -- inflation risk that your investment in your house does not keep up with inflation -- liquidity and reinvestment risk if you want or need to move -- event risk that some political or social change adversely affects the value of your home . . . With a mortgage, you diminish all of the risks above (especially inflation risk) but add a payment risk (ie. the risk that you will be unable to pay the mortgage). It is this payment risk that most posters who favor payoff seem to focus on. So choosing to keep or pay off a mortgage is about more than return. It is about risk too.

Your simple rule about whether you can get higher return is also difficult to evaluate for 30 year periods. Rates and returns will change over the next 30 years. It is not important that I beat my mortgage rate every year, only over the 30 year period (or the duration of my loan), and that is more difficult to predict. That's where FIRECalc comes in. FIRECalc can tell you your historical probability of beating your mortgage by paying it off for periods as long as 30 years. Most people with 20+ years left on their mortgage and 6.25% or lower mortgage rates will find that investment in a balanced portfolio provided a better SWR and greater return historically. But if the payment risk dominates their concern list, they should still choose to payoff the mortgage.

 

[jIMOh]

I don't think a paid off mortgage is the "central issue", it's the time it takes a person to pay it off and the trade off of that time, which is the central issue.

Most posts here looked at rates of return/ and whether it's a god idea to have the mortgage paid off for early retirement... there is also "regular" retirement and "late" retirement which have different time variables.

If a person can pay off their mortgage and be FI, then that is best case scenario.

If a person has time, and realizes they need to make decisions which will "reap" benefits in 20-30 years, then the time to execute given plan is the most important variable.

For example, if extra payments on mortgage pay it off in 26 years instead of 30. But same "extra payment" if invested would be 3-5 years of income for ER, then the trade off is

either "debt free" in 26 years
or
ER in 30 years.

4 years is the cost (4 extra years of debt, but a larger pool of "savings" to draw from in ER.

If trade off is "debt free" in 15 years or ER in 30 years, then the situation changes, because in years 16-30 of being debt free allows one to save a significant amount and probably come out ahead.

I just described my situation in terms of time... I can eliminate most debt in 15 years (2nd mortgage paid off) with 1st mortgage left. To hit that 15 year mark with only 1 loan/debt (1st mortgage) is a major milestone, IMO.
However the time/effort/resource to pay off the 1st could cost me ER, because the savings which would be created from investing could be the difference between FIRE and FIRO (retire on time at 67 bs early at 55 or 60).

 

[Finance Dave]

I tend to look at this theoretically. Let's say your mortgage rate is 6%. If you can earn more than 6% elsewhere, keep the mortgage. It's not that simple of course because you have the tax deductibility, but that's the general idea. In addition, if you have ALREADY paid off your mortgage and are thinking of taking out a new one to get the tax benefit, be sure to figure in all the closing costs you'll have to pay the bank.

For me it's more about safety. In other words, to get more than a typical mortgage rate, you'd have to be invested in the market...and many of us (depending on age and risk tolerance) don't want to be too heavily in the market in our older years...too much volatility for some.

I'm not saying to get completely out of the market....just saying there is a balance...and as we get older we tend to shift out slowly.

Dave

 

[free4now]

If there were a risk free way to earn more than mortgage rates, then the mortgage underwriters would be investing in that rather than loaning their money to yahoos who want to buy homes.

Sometimes the timing makes it seem like you can earn more, e.g. today my mortgage is at 3.75% because I took it out when rates were low, and I do indeed get about 5% in interest on my savings account. In this case the only thing that allowed me to be in this enviable position is having gotten lucky by originating the mortgage during a dip in rates... it's not anything I could duplicate or would want to spend money trying to duplicate in the future.

There is one thing that can make the mortgage a useful tool for some investors with very long time horizons: The interest rate is determined by the fact that most people pay them off in 5-7 years, so it tracks that part of the yield curve. But a fixed rate stays the same for 30 years. So essentially a mortgage is the purchase of an option on that rate for 30 years, contingent on your staying put. If you know (not just hope or wish) that you will be in the same place for 30 years for some unique reason, then there is a chance that you can take advantage of that option.

 

[aenlighten]

Taxes really made the difference to me. Higher income and taxes, vs low income and low taxes. Mortgage rates are also based on tax deductibility and if you are in a position they are no longer deductible, they can be very expensive.

 

[cute fuzzy bunny]

It has nothing to do with "the house being at risk".

It has EVERYTHING to do with the planning and asset allocation you have to fit yourself to in order to assure making the payments, the higher withdrawal rates, the limited asset choices and the negative tax implications of a mortgage.

With a mortgage, i'd be uncomfortable with a high equity percentage in my portfolio. I'd have a higher withdrawal rate and need more income producing components, which means I could kiss my 5% capital gains and qualified dividend rates goodbye. I'd probably want to keep a larger cash buffer.

Wow, a lot of problems created to try and arb out a percent or two. Although statistically it might work out in 30-40 year spreads, why go through all that angst?

For you firecalc modelers, try out the calc using a regular 60/40 with a mortgage and using 80/20 without one. You can certainly take the higher volatility and if its your bag, the 30-40 year higher return rates on the 80% equity portfolio.

Yep, with that 80/20 no mortgage model, you can retire earlier, with less money, a higher level of spending cash, higher survival rate, and so on.

But if you wanna wait longer, have less money, and a lower rate of survival...but maybe arb out a few grand over several decades...keep the mortgage.

This has nothing to do with fear, emotions, or a lack of vulcanlike approaches to investing. You simply have to look at your WHOLE investing picture.

"I dont have a quarter million of debt and I dont need the 20k a year in income I used to require. What would I do differently?"

 

[runchman]

I'm in the payed-off mortgage camp, for what that's worth.

I always wondered if the keep-the-mortgage crowd also believe in financing all vehicle purchases to the largest amount possible, if the rate is reasonable.

If you believe in keeping a mortgage so you can invest your money, wouldn't you logically extend that philosophy to *any* financial purchase that you could finance instead?

I hate to add a post to the payoff-mortgage debates. Guess I did anyway though

- John

 

[Nords]

I always wondered if the keep-the-mortgage crowd also believe in financing all vehicle purchases to the largest amount possible, if the rate is reasonable.

Yes, to the extent that the seller of the used vehicle is willing to let themselves be exploited in this manner. The beauty of a 30-year mortgage is that it beats the worst of the historic stock market's losses. I haven't found a Craigslist seller willing to take back 30 years of paper on their clunker fine used vehicle, but maybe I should keep asking them...

I think we save more by buying used vehicles than by trying to arb the financing on a new vehicle.

If you believe in keeping a mortgage so you can invest your money, wouldn't you logically extend that philosophy to *any* financial purchase that you could finance instead?

Yeah, but I just don't make that many major purchases. I thought I was doing pretty well getting 1.5% back on my credit card for buying $7000 of blemished photovoltaic solar panels... they wouldn't loan me the money, either!

But your point is well made. We refinanced our mortgage four times to get it down to its current low low rate (all refinancings were paid back within a year through minimal closing costs and lower monthly payments). I did recently break a NFCU five-year CD at 5% in favor of a PenFed three-year CD at 6.25%. The early-redemption penalty was way less than the profit.

 

[Sam]

I still carry a 40K mortgage at 4% ARM, expiring next year. I could have paid it off any time I wanted to in the past 4 years. But no way!!! In the past 4 years, the average return in equity is 2 to 3 times 4%.

Why treat the house mortgage differently?

 

[sgeeeee]

. . .For you firecalc modelers, try out the calc using a regular 60/40 with a mortgage and using 80/20 without one. You can certainly take the higher volatility and if its your bag, the 30-40 year higher return rates on the 80% equity portfolio.. . .

That's how I ran the simulations I posted here a few years ago. I never ran a simulation with a higher than 60/40 stock/bond ratio. I did run the simulations to consider a shift in the portfolio to keep a constant ratio of stock/(bond + mortgage). I personally don't think that is a reasonable thing to do, but I ran the simulation because you brought up this belief you have that a mortgage is the same as a bond. I also ran simulations that considered 100% of the $$s used to pay the mortgage to be taxable.

No matter how you look at it, there are mortgage rate-mortgage periods-portfolio combinations that have historically favored keeping your mortgage. This is simply a hisrorical fact. That's all FIRECalc can do, simulate what would have happened.

 

[spideyrdpd]

Have you guys ever looked at what would happen to your early retirement if you couldnt make 5% on your money over the years.
I still think that anyone that argues its better to pay off the mortgage is being emotional and not logical.

 

[bosco]

Have you guys ever looked at what would happen to your early retirement if you couldnt make 5% on your money over the years.
I still think that anyone that argues its better to pay off the mortgage is being emotional and not logical.

I disagree.

if I can't make 5%, then my rate of return is lower than I'd like. if my rate of return is lower, then I need a bigger stash (my SWD is less). If I have a mortgage, I have higher expenses so I need an even bigger stash to go with my lower SWD. So the less I can make on my money, the less desirable a mortgage is.

If I have reasons why the tax benefits are not usable (like living in Canada where it's not deductable, or having the standard deductable being nearly as much as the interest), then it is even less 'logical' to carry a mortgage.

 

[Delawaredave]

The reason this can be debated so long is because it is a marginal play either way - if you are comparing "like risk" alternatives.

The decision should be comparing "like risk" alternatives on an after tax basis.

For me in "AMT land", there basically no deductibility of mortgage interest. So a 6% mortgage costs me 6% after tax. So I would need 8.57% "like risk" pretax return - to get me 6% after tax (assuming 30% total taxes).

I can't get that return for comparable risk to house (hell, equities might not return that the next few years....).

So I have no mortgage (like the "emotional feeling" too...)

Once retired (and not in AMT situation), there could be a small "carry trade" play in having a mortgage. Pay 6% for money, 4% after tax cost for that money. if you can beat 5.7% for a "like risk" pretax return - then there's a small spread to make a buck.

So the Penfed 6.25% CDs a few months back would give a 1/2% spread over mortgage money -- which is about $500 / year for every $100,000 of mortgage.

You can compare to equity returns for greater spread - but that involves assuming greater risk - and is not an "apples to apples" comparison to home mortgage risk.

Not a big deal either way.

 

[al_bundy]

Have you guys ever looked at what would happen to your early retirement if you couldnt make 5% on your money over the years.
I still think that anyone that argues its better to pay off the mortgage is being emotional and not logical.

in the last 100 years there has been more than one 20 year stretch where the market returns less than 5% a year on average with some years being double digit negatives. in the 30 year period off 1965 to 1995 the Dow went from 1000 to 4000. too lazy for math, but that is not exactly stellar returns.

paying your mortgage off is completely risk free since after you do so you get to live in the home for just the cost of taxes and utilities. taking out a mortgage to invest can involve a lot more risk

 

[runchman]

So the Penfed 6.25% CDs a few months back would give a 1/2% spread over mortgage money -- which is about $500 / year for every $100,000 of mortgage.

So call it $1250 per year for the 250k I'd hypothetically pull out of my house if it were paid off.

I'll trade that extra $104 per month investment gain for the sleep-easy feel of the paid off mortgage any day. Sure that 250k might grow to a nice tidy sum, but then again it might drop.

Risk/reward ratio just doesn't cut it for me.

- John

 

[FinallyRetired]

This has probably been discussed, but just about all of my retirement money is in tax deferred accounts. I haven't run the figures exactly but my thinking has been that taking out money from those accounts to pay off the mortage would not be a good idea. Taking out large sums would make the tax due immediately on that money, at a higher tax bracket, and would lose me the tax deduction from the mortgage. Anyone disagree?