YAPOMD (Yet another pay off mortgage debate...)

[dizzy]

Hate to delurk just to (re)start the The Great "Pay Off Or Not" Debate, but hey its a new year ...

IMHO you don't need firecalc to figure this out (emotional component aside). Just look at your SWR with debt load and a larger portfolio, vs. without debt load and a smaller portfolio. Since survivability of a portfolio is predominately a function SWR, your answer should be clear. Sure you could use firecalc and use a different AA in both scenarios, but fundamentally it seems logical to me that a lower SWR is always the better choice.

Here is my situation: looking at ER within the next year (aged 50). Portfolio is reasonably sized and we need SWR of 3% to maintain lifestyle w/ mortgage. 2.6% w/o mortgage.

So, I'm considering paying off... but...

Has anyone looked at using some kind of fixed payment annuity (my mortgage is fixed-rate) to fund a mortgage? Would that be more cost effective? I don't even know if such a product exists, but ideally I'd like is an annuity which would be just enough to service the debt. The term of the annuity would be 27yrs (amount left on mortgage). It would survive at full payment level until both me and DW are dead. If we both die during the period of the annuity the annuity would stop. Basically the insurance company would make a profit if we died before the term. Assuming the cost of this annuity is smaller than the mortgage payoff, it seems like this might be something to consider and give us a few more $$ to play with while we're alive to enjoy it... Might be a totally wacko idea, but anyone explored this? Could it work?

dizzy

 

[brewer12345]

I think buying an annuity would introduce needless complications and put you on the hook for significant credit risk in the event your insurer ran into trouble. If you want to kill the mortgage, just write the check.

 

[dizzy]

I think buying an annuity would introduce needless complications and put you on the hook for significant credit risk in the event your insurer ran into trouble. If you want to kill the mortgage, just write the check.

I don't mind risk, balancing risk/reward is what investing is all about

Explicity I am talking about balancing the credit risk of the annuity vs. the advantage of a slightly larger portfolio, especially in the case where I live a long time. If I die early, the insurance company will get a pile, for sure, but I am happy to give them that if I have significantly more chance of my portfolio surviving a long, healthly life.

However, I have no idea about annuity pricing and whether or not this hairbrained idea is workable at all. And I have no idea how to sanely evaluate the credit risk of an annuity supplier. Also, I'm not sure how taxes fit in here -- the annuity would have to net the debt service (after taxes), but of course the mortgage interest would be deductible...

I would think that in the great history of this debate, someone more financially savvy than I has looked at this...

dizzy

 

[dizzy]

Poking around on the net... I see various products that payout over MAX(lifetime, specified period) but I don't see anyone offering what I want, which is MIN(lifetime, period). All of the online quotes I could get for MAX(lifetime, 25) annuities were (obviously) much more expensive than just writing the payoff check :-(

Anyone every hear of an immediate annuity that pays over MIN(lifetime, period)?

dizzy

 

[clifp]

Dizzy am far from an annuity expert, but I am not aware of any products that do what you want. I think it is worth a phone call to Vanguard and see if they have any suggestions.

I think the idea is an interesting one. However from a practical viewpoint now is not the time to be looking for a product like this. Risk free interest rates are so low that any annuity product is going to be more expensive than simply paying off your mortgage.

Now if interest rates increase by 100-200 basis point than it maybe be worth looking for mortgage payoff annuity.

 

[free4now]

A mortgage and an annuity are basically mirror images of each other, with frictional and sales costs on both ends paying for the predictibility of the chosen payment/payout schedule. If you have a lump sum and a mortgage I'd just pay the mortgage off and invest any extra. That way you save all the frictional/sales costs.

 

[cute fuzzy bunny]

How exciting. Combining two bad ideas in the hopes that the two evils will cancel each other out?

 

[yakers]

CFB

Just seems too complicated for me. Of course I am mainly into target retirement type funds, DW has Wellesley. Maybe you can come out a few bucks ahead with a sharp pencil but it just doesn't seem worth the risk. And what about estate planning, I prefer to have assets I can leave to family & charities that to an insurance company.

 

[dizzy]

A mortgage and an annuity are basically mirror images of each other, with frictional and sales costs on both ends paying for the predictibility of the chosen payment/payout schedule. If you have a lump sum and a mortgage I'd just pay the mortgage off and invest any extra. That way you save all the frictional/sales costs.

Understood, but the twist is the life expectancy (insurance) component. I'm saying I'm willing to have a smaller estate if I die early (and give a windfall to the insurer), in exchange for a larger estate (and higher probability of portfolio survival) if I live a long life.

Given all this, tho, I am beginning to think any benefit would be fairly minor, even if I could find an appropriate annuity product...

-The mortgage payoff is less than 10% of our portfolio.
-The probability of either me or DW being alive in 27 years is 95% (according the basic vanguard life expectancy calculator).

So... we already talking about a 5% of a 10% thing, so I'm not sure the PV of the expectation value of our early death would be significant even if the underlying interest rates of the annuity and the mortgage were a wash.

Still, there might be cases where such a strategy could come in handy. Any other thoughts on this out there?

dizzy

 

[brewer12345]

Still, there might be cases where such a strategy could come in handy. Any other thoughts on this out there?

dizzy

I think that unless there is a big interest rate differential, you are unlikely to come out ahead with this strategy.

I did see a popular strategy whereby an older person could buy an annuity, buy a life policy that would return the amount they put into the annuity at their death, and pocket an excess amount of monthly income. Dunno if it still works, but it was an arbitrage of annuity pricing and different mortality assumptions on the part of the annuity and life policy providers.

 

[Dawg52]

I think that unless there is a big interest rate differential, you are unlikely to come out ahead with this strategy.

I did see a popular strategy whereby an older person could buy an annuity, buy a life policy that would return the amount they put into the annuity at their death, and pocket an excess amount of monthly income. Dunno if it still works, but it was an arbitrage of annuity pricing and different mortality assumptions on the part of the annuity and life policy providers.

My sis-in-law did something like this when my brother died. Can't remember who talked her into it but hope it works out. Her son, who works for a brokerage firm, seemed to think it was a decent plan.

 

[OAG]

IMHO if you have the money to buy the Annuity - why not just create an account with the institution that you pay your mortgage to, if possible. Throw money into the account (assuming a competitive interest rate) and then set up automatic transfers to the mortgage each month. Never a missed payment. Not sure if this would work for you but maybe it would and it would put the mortgage on "automatic". Not sure why someone would want to do this but it may work for OP.

 

[brewer12345]

My sis-in-law did something like this when my brother died. Can't remember who talked her into it but hope it works out. Her son, who works for a brokerage firm, seemed to think it was a decent plan.

Heh, the insurance brokers were doing this for themselves (if they were old enough) and their parents. This is usually a sure sign that someone at the insurance companies has made a big mistake in pricing their products and someone will be very, very sorry when it comes to light. But usually existing management who made the problem have collected their payouts and moved on.

 

[dizzy]

fyi... bogleheads has an interesting discussion of immediate annuities and how they can aid portfolio survivability. See:

Bogleheads :: View topic - Immediate Annuity Recommendations

Beginning to think my idea might not be so crazy after all. Still haven't found a MIN(period, life) annuity product, tho...

dizzy

 

[brewer12345]

fyi... bogleheads has an interesting discussion of immediate annuities and how they can aid portfolio survivability. See:

dizzy

Moishe Milevsky a Canadian finance professor, has ton a ton of research in this area: Welcome to the Individual Finance and Insurance Decisions Centre online...

If his work has holes, I see two main ones:

1) survivability improvements depend on getting an attractively priced annuity from an insurer that isn't underpricing its product and potentially increasing its solvency risk

2) Buying an annuity means you give up potentially a LOT of upside.

Having said that, I think Prof. Milevsky is a smart guy and hs work is generally academically rigorous enough to convince me that it is on the level.

 

[dizzy]

Moishe Milevsky a Canadian finance professor, has ton a ton of research in this area: Welcome to the Individual Finance and Insurance Decisions Centre online...

If his work has holes, I see two main ones:

1) survivability improvements depend on getting an attractively priced annuity from an insurer that isn't underpricing its product and potentially increasing its solvency risk

2) Buying an annuity means you give up potentially a LOT of upside.

Having said that, I think Prof. Milevsky is a smart guy and hs work is generally academically rigorous enough to convince me that it is on the level.

Thanks, great pointer. I will do some more reading on this. RE: upside -- since in my case, I'm looking at an annuity vs. a big cash outlay, I'm actually trying to increase both my surviveability *and* my potential upside.

Of course, I agree, finding a fairly priced (and apparently exotic) annuity with a low credit risk to make it all worth the hassle is probably the biggest concern here.

dizzy

PS: Looks like this finance stuff might be an interesting new hobby for me in ER!

 

[cute fuzzy bunny]

Injection of a reliable income stream into an SWR calculation always improves the outcome, providing you arent giving up a lot to get it, which I think is Brewers primary point.

Unless you have a good reason to expect that you'll seriously outlive the mortality tables, it might be a good idea to go the ESRBob route and have some sort of fun and interesting low key part time job, or self annuitize using an available fund, or better still wait a little while until the new vanguard Managed Payout funds become available and go with their 5% or 7% options.

Then you get a semi reliable income stream and retain ownership of your principal, but you do lose that "guaranteed until you're 120 years old" thing that very few people will receive the benefit of.

 

[dizzy]

Then you get a semi reliable income stream and retain ownership of your principal, but you do lose that "guaranteed until you're 120 years old" thing that very few people will receive the benefit of.

I think you might be missing one of my points. I'm explicitly *not* interested in a "guaranteed until you're 120 years old" thing. I'm looking for a MIN(lifetime, term) annuity. I only want to hedge my mortality during the duration of the remaining mortgage. After the mortgage is payed off, I don't want the annuity anymore. If the price of such an annuity is less than my payoff $$$, I will come out ahead, with a larger portfolio to sustain me though ER. (risk aside).

I think abstractly this is a sound idea, but I haven't yet sat down to figure out how large the effect would be. When I get some time, I am going try to sharpen my pencil and calculate the actual PV of such an annuity assuming prevailing interest rates and standard mortality tables. (just for fun )

dizzy

 

[FinanceDude]

I think you might be missing one of my points. I'm explicitly *not* interested in a "guaranteed until you're 120 years old" thing. I'm looking for a MIN(lifetime, term) annuity. I only want to hedge my mortality during the duration of the remaining mortgage. After the mortgage is payed off, I don't want the annuity anymore. If the price of such an annuity is less than my payoff $$$, I will come out ahead, with a larger portfolio to sustain me though ER. (risk aside).

I think abstractly this is a sound idea, but I haven't yet sat down to figure out how large the effect would be. When I get some time, I am going try to sharpen my pencil and calculate the actual PV of such an annuity assuming prevailing interest rates and standard mortality tables. (just for fun )
dizzy

Those annuities are out there, if you want them. Just Google it...........

 

[Texas Proud]

I calling trolll here.. (first time I read this thread)......

Dizzy has seven post... all on this thread....

His first post said he wanted a 27 year annuity to match his mortgage... then later he changed what he said when someone pointed out they were mirror images and it was stupid to do it...

And then when someone else said it was an interest rate arb with no upside if you die and only downside... he changed it again....

To answer the first question... there is NO good reason to buy a 27 year annuity that matches the payments exactly on a mortgage unless the cost of that annuity is LESS than the payoff of the mortgage AND it is guaranteed for the full 27 years even if you die... anything else is just trolling...

 

[cute fuzzy bunny]

Dancing Badger Badger Badger.com! The Original!

 

[dizzy]

I calling trolll here.. (first time I read this thread)......

Dizzy has seven post... all on this thread....

His first post said he wanted a 27 year annuity to match his mortgage... then later he changed what he said when someone pointed out they were mirror images and it was stupid to do it...

And then when someone else said it was an interest rate arb with no upside if you die and only downside... he changed it again....

To answer the first question... there is NO good reason to buy a 27 year annuity that matches the payments exactly on a mortgage unless the cost of that annuity is LESS than the payoff of the mortgage AND it is guaranteed for the full 27 years even if you die... anything else is just trolling...

Sorry -- I'm really not trying to be a troll. Apologies if my communication has been less than clear. But here goes an 8th post to try to explain it again...

I am not and never have been looking for an annuity to be the exact mirror of my mortgage. Even I agree that would be stupid. I am considering is an annuity which expires at the MIN(27 yrs, death) and exactly covers the mortgage payment. Clearly with no friction and exactly the same interest rates, the cost of this annuity should be less than cost of the mortgage payoff since in the case of death in less than 27 years, the insurer would receive a windfall. Make sense?

The debate in my mind is about the magnitude of the effect, not its underlying soundness.

dizzy

 

[dizzy]

I got some time to do a simple calculation with the mortality tables at

Actuarial Life Table

Basically, I modeled a series of payments to a population of 50-year-old men for 30 years. According to the table, about half of them will die sometime during the period. Each year I would only pay the ones still living. I took this series of outlays to NPV with an arbitrary interest rate (I picked 5%). Then I also took the PV of the constant payment over 30 years assuming everyone lived. It turns out the "mortality discount" in this case is about 13%.

So assuming no cost of money difference between the mortgage and the annuity, I could buy my mortgage payments for life and still have 13% of the payoff still in my portfolio.

I think this effect is interesting enough that I might consider keeping my mortgage for a few years and annuitize later if interest rates rise, (or pay it off anyway if we get a few bullish years of growth).


dizzy