Why Pay off the mortgage?

[aenlighten]

The point is you don't benefit from both

You are initially withdrawing at a higher rate (bad for portfolio survival), but a slightly higher rate can be justified (good for portfolio survival), simply on the basis of historical record. The very same calculations that establish 4%. Since your real mortgage payment decreases with inflation, the effective term of your mortgage is shortening. Do you doubt you can withdraw at a slightly higher rate over a shorter term? Do you doubt you should lower your rate to survive over a longer term? The point is not to pay a higher rate than can be justified. For 100% survival over 30 years, that rate is only 4.68%. for 20 years 5.44%, and for 10 years 8.92%. This means 10 years left on a mortgage is probably reasonable, but 30 years left means are accepting less than 100% portfolio survival. I don't call that gaining from both sides. I call that seeing the risk and making a decision about it.

 

[cute fuzzy bunny]

Okay then, good luck with that.

 

[aenlighten]

Now if it were an unlimited interest only loan

Then 4% would reasonably apply since you would not want to have to pay more than you could safely earn. Inflation would not help since your term is unlimited. Since such loans are not available, mortgages would be an acceptance of higher risk for potentially higher return. The weakness is the data since inflation is really a late 20th century phenomena. One would not have wanted a mortgage going into the depression, but one would very much wanted one in a time of rising inflation. In many ways, this is as much an asset allocation and timing issue as a debt issue.

 

[rayvt]

I'm in agreement with the people who say that no "Congratulations onthe successful transfer of some of your assets from your brokerage account to a single-property REIT investment" are in order.

The comfort factor for me (and more importantly--my wife) is the knowledge that I can pay off the mortgage any time I want to, with just one phone call to my stockbroker. That's a better warm&fuzzy feeling than merely paying off the mortgage.

As far as "Now the house can never be taken away from me"---that is simply not true. See what happens if you forget to pay your real-estate tax bill."

 

[maddythebeagle]

hey....at least we are keeping it all neatly in one thread...

 

[RetireeRobert]

Paying down the principal on a 6% mortgage is financially no different than putting that money into a sure-thing 6% investment for the remaining duration of the loan. If you don't itemize, that's like a sure-thing tax free 6% return. If someone could point me to a tax-free, ultra-safe 6% investment, I'd love to hear about it.

NQI - Nuveen Insured Quality Municipal Fund gets you 5.3% in AAA rated portfolio of muni bonds which is also separately insured by a third party as to payments of principal and interest.

 

[haha]

For me it all depends on rates. I have a free and clear house. I will sell it and live in an apartment for at least the time being. But if I were to buy a dwelling, I would likely get a big loan as long as the rates weren't bad, even if I had to accept a negative delta re: the after tax return on a risk free investment. I would do this because it would still be cheap money that I could always pay if I wanted to but also could use if I wanted to, to invest in perceived high probability high potential return assets.

An American 30 year fixed mortgage is practically a gift from God.

I think a young person with a secure job should almost always take a nice big loan. Inflation is the debtor's friend. Whatever else government officials say is just head-fake.

Ha

 

[ERD50]

NQI - Nuveen Insured Quality Municipal Fund gets you 5.3% in AAA rated portfolio of muni bonds which is also separately insured by a third party as to payments of principal and interest.

Seems to me the discussion usually goes that paying off the mortgage is risk-free, so any alternate investment made with that money (if not paying off the mortgage) needs to be risk-free also.

OK, that makes a good apples-apples comparison, and if one feels that way, it is fine, but is it necessary? How 'safe' does an alternate investment need to be? It seems to me that if the investor is comfortable with some risk, and understands it - fine, then they should consider that in their decision.

I guess if one really believes that one should not consider an investment with some risk in exchange for a mortgage, than they would need to say that no one should have a single penny invested in anything (other than emergency fund cash) until their mortgage is paid off. But I don't think too many feel that way. Or do they?

But it is not apples-apples, not trying to say it is, it does change your risk profile, but maybe it is a reasonable viewpoint?

-ERD50

 

[aenlighten]

One must consider

not only the investment you might make with the borrowing, but the income to pay it off. If you have a fixed pension that is declining in value each day, then a holding mortgage to offset it, would actually represent a lower risk option. The greater the annuity and pension income one has, the more attractive a mortgage would be, while without anything other than equities to pay for it, the less attractive even though they potentially offer a higher return. Return and volatility of the income source as well as rates and term of the loan and the size of it relative to other assets are important.

 

[ShokWaveRider]

OK., PLEASE Help me out here. In this for instance does it pay to have a Mortgage?

Hypothetical Scenario:

DW & DH have income from various sources in "Semi-Retirement" (He is she isn't), for the sake of this example all income sources are considered full income, not dividends etc.

Total Taxable Income: $14,000 per Month ($168k)


Write offs (Per Month) from business/hobbies that they like doing (not working for the man)

Car: $700
176: $800
RE Tax: $850
% of Home Expenses: $500
Insurance: $250

Mortgage: $1055 (Interest only)

Total W/O mortgage is $36,600 With mortgage is $49,250.

Is this not better to get one into a lower tax bracket thus making it more worth while as without the mortgage it may just be $26k or so itemized?

Add to this that money is cheap now 6%, when interest soars to combat inflation and other stupid government financial blunders, in future when interest rates are 12% as opposed to 6%, does this now sound like a good deal?

SWR

 

[rayvt]

I look at it this way:
* Cost--Mortage interest rate = 6%. Fixed for long term (30 years)
* Gain--S&P 500 = 10.5% long term average. Not fixed. Average.
* 30 years is long-term by any reasonable definition.
* 10.5% (gain) is greater than 6% (cost)

Therefore, as long as you can reliably make the mortgage payments during the periods when the S&P500 returns are negative, keeping the mortgage is financially the best thing to do.

If you are risk averse, keep 5 years payments in cash (earning maybe 4%), to tide you over an extended market downturn.

 

[Zoocat]

Sorry to jump into this thread so late but I wonder if anyone has considered that in future years interest rates will likely rise and your 5.7% mortgage (my rate) payment will be looking pretty good, especially if inflation reigns.
I realize I'm speculating about economic conditions but I'm not alone in my views.

If these conditions prevail, having paid off your mortgage in advance will leave you with less $$$ invested and growing. Not good in inflationary times.

 

[W2R]

Sorry to jump into this thread so late but I wonder if anyone has considered that in future years interest rates will likely rise and your 5.7% mortgage (my rate) payment will be looking pretty good, especially if inflation reigns.
I realize I'm speculating about economic conditions but I'm not alone in my views.

If these conditions prevail, having paid off your mortgage in advance will leave you with less $$$ invested and growing. Not good in inflationary times.

I remember back in the 80's when it was smart to borrow as much as possible! Sometimes I wonder if I will regret paying off my 6.375% mortgage. I think you are making a really, really good point and it's one that I have wondered about.

I paid $798/mo for a $128,000 mortgage that I got in 2002, and paid off in 2006.

$798*12 = $9576, which I guess would be about $13,500 before taxes? At any rate, I'm thinking that at 4%, the size nest egg required to produce that kind of monthly payment would be over twice the $128K amount. Maybe my figures are screwy but even in inflationary times I don't think I could retire if I had to have that much extra in nestegg for 25 more years.

Of course, once I was 79 my house would be paid off so there is something to be said for that.

Also, if I had a lot of money things might look different to me. But really, I don't and the simplicity of no mortgage appeals to me.

 

[Running_Man]

There is no guarantee that mortgage rates are going to increase. What if deflation were to hit as in Japan in 1990's or US in 1930's? Of course with that having a mortgage would have been the worst possible outcome as you would still owe the money and your investments (stocks) declined by 80% or more.

The error is at looking at your total portfolio in making the decision as it is really a contained investment idea, other than the ability to recover from a total loss.

It is very difficult to gauge the long term trend of interest rates as a reason to justify such an investment strategy. The decision to not pay off the mortgage with rates at 5.375 and assuming an interest only $200,000 loan will be an annual expense of $10,750 from which you would need a sinking fund net investment of $200,000 to exceed. If you invested in a bear market and your $200,000 went down 50% in the early years, it would be very difficult to earn more than the annual payments of 11-15% of the fund it would be consuming at that point. Once you consumed your $200,000 your mortgage foray would be a total loss as any eventual return to profitablilty would just be shifting investment gains from the rest of your portfolio which you would have had with paying off the morgage in order to cover the loss on your mortgage adventure. This would be true even if over 30 years the result was an average gain of 10 percent, or if the investor was 50 or twenty!Once the investment consumes the $200,000 sinking fund no future results can compensate to make it a successful investment, it would be a 100% failure.

Likewise your total loss would be limited to the $200,000 as that would be the amount you would need to still pay from the remainder of your portfolio, but the problem would be most likely your portfolio would likewise be in a weaker condition to assume this additional expense.

If the early years were bull market years this could be a very profitable strategy based on long term trends.

I would consider of course before making such a decision if my capital structure was such that I was willing to take on the risk of the loss, and how the increased risk of portfolio failure would affect my future. Firecalc indicated a 93% chance of success but it is really the early years that will most likely determine whether it is successful or not. It is just about a 7 percent chance that those early years will sink you.

I would look at it by judging if a bank were to come to you willing to loan unlimited amounts of money fixed at 5.375%, how much would you be comfortable to borrow in an effort to leverage your gains?

A worst case scenario in my mind would be what would the additional $10,750 in expense be on 50% of my remaining portfolio, since in most other cases I would be raking in the money.