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mortgage payoff from investing
Old 01-31-2008, 11:53 AM   #1
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mortgage payoff from investing

I am about to start paying down my mortgage early. I do plan to invest the money (not pay down principal), tax favored accounts are full (401ks to point of match, Roth IRAs for both spouses). Current savings rate is 15% of gross income. I am 34, wife is 33. Twin boys due in June. Target ER age is 52 for me. Mortgage is 30 year fixed and will be paid off in 2036.

Here is my question- if you invest(ed) (instead of paying down), do (did) you mix money with other asset allocation, or did you create a seperate account? Do you see problems with one way (consider all assets one allocation) vs another (keep accounts seperate).

My plan is a seperate account for four reasons

1) paying down mortgage was partly wife's idea, I want a visible place for her to see money
2) The money for paying down the mortgage is coming from a second job whose income stream is high, but unreliable (meaning upping 401k contributions would cause budget issues in some worst case situations).
3) in event one spouse loses a job, this account can double as a way to pay normal mortgage payment.
4) The amount contributed will vary between $500 to $2000 per year. I want to track the return of this money to make sure I can invest it better than 5.75% rate on mortgage.

But if there is a problem with this, I haven't thought of it.

FYI- our credit card is tied to mortgage (GMAC). 1% of all purchases pays down the mortgage in $50 increments (charge $5000 to get $50 pay down). This is more of an afterthought than part of the plan. I only charge gas and travel expenses on the card anyway.
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Old 01-31-2008, 12:43 PM   #2
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you didn't really describe a plan for paying down the mortgage, but rather setting up a separate savings account. 5.75% for 30 years seems like something you might want to hold on to for a while.
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Old 01-31-2008, 12:50 PM   #3
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I don't think there is any problem with your plan. The only potential downside I can see, and it is a minor quibble at that, is that you might be giving up on slightly better overall asset allocation opportunities by separating the "mortgage account" from the rest. I think the advantages you listed (especiallly the first) overwhelm any possible drawback.

I'm in a similar situation and am doing something very similar. I've maxed out my tax deferred options and will soon have a 15 year fixed at 4.625% through PenFed. I'm also starting a taxable account at Vanguard in VTSMX which I look at covering several bases:

1. It's an augment to my emergency fund.
2. It's my "in lieu of mortgage payoff" fund.
3. It's my supplementary college fund.
4. It's my supplementary retirement fund.

I expect to be able to beat the rate over the long term, so I am playing the mortgage arbitrage game a la Nords. But it is really the flexibility and liquidity that seals the deal for me.

Obviously it can't be all of those things at all times, but which of the above it actually turns out to be will depend on how life turns out.

Good luck,

2Cor521
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Old 01-31-2008, 02:09 PM   #4
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Check out the mortgage FAQ...some discussion awhile back from Nords doing something like this...as I understand you setting up a sep. investment account to track your returns vs. paying off the mortgage...
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Old 01-31-2008, 03:34 PM   #5
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you didn't really describe a plan for paying down the mortgage, but rather setting up a separate savings account. 5.75% for 30 years seems like something you might want to hold on to for a while.
The hope would be the account would have enough to pay off balance at age 52 when I think is the earliest I can FIRE.

At minimum I could make the payment from the account while it still grew during ER.

Money would not be a savings account. Thinking PRPFX or a similar mutual fund. Expecting a 7-10% type return pre tax.
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Old 01-31-2008, 05:41 PM   #6
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Maybe spend some money and buy the book to read "Why Smart People Make Big Money Mistakes ..."?

Money is money. There is no reason to have a separate fund labelled for paying off the mortgage eventually. Just have an overall portfolio asset allocation and watch it grow. Your wife should be on board with that.

With the one single overall portfolio following an overall asset allocation plan that is tax efficient I think you will come out ahead in the long run.
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Old 01-31-2008, 07:37 PM   #7
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I am about to start paying down my mortgage early...tax favored accounts are full (401ks to point of match, Roth IRAs for both spouses)...Twin boys due in June.
Congratulations on fatherhood.

You didn't mention a savings plan for the boys' college expenses. Is this factored into your overall plan?

My older daughter is now a freshman. I can personally testify that socking away money in a tax favored 529 plan and letting it grow can lessen the pain of tuition and housing bills. I only wish I'd made heavier contributions when the children were very young.

If you've got college expenses covered (or at least factored into your long-term savings plan), I like your strategy for starting up and growing an after-tax investment account. 2Cor521 lays out a very good case that having an extra stash can be advantageous for any number of reasons...paying off your mortgage early is only one of many opportunities that will present itself in the next 18 years before your RE date.
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Old 01-31-2008, 10:11 PM   #8
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Quote:
Originally Posted by jIMOh View Post
Here is my question- if you invest(ed) (instead of paying down), do (did) you mix money with other asset allocation, or did you create a seperate account? Do you see problems with one way (consider all assets one allocation) vs another (keep accounts seperate).

My plan is a seperate account for four reasons

1) paying down mortgage was partly wife's idea, I want a visible place for her to see money
2) The money for paying down the mortgage is coming from a second job whose income stream is high, but unreliable (meaning upping 401k contributions would cause budget issues in some worst case situations).
3) in event one spouse loses a job, this account can double as a way to pay normal mortgage payment.
4) The amount contributed will vary between $500 to $2000 per year. I want to track the return of this money to make sure I can invest it better than 5.75% rate on mortgage.
But if there is a problem with this, I haven't thought of it.
Put your assets where it makes most sense (taxable or tax-deferred accounts) in accordance to your asset allocation.

If you want to track how you're doing on paying down the mortgage then use a spreadsheet. You'll possibly have to enter dividend or cap gains distribution data and do quarterly/annual updates, but you won't have to mess with your AA just for tracking purposes.
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Old 02-01-2008, 09:23 AM   #9
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The hope would be the account would have enough to pay off balance at age 52 when I think is the earliest I can FIRE.

At minimum I could make the payment from the account while it still grew during ER.

Money would not be a savings account. Thinking PRPFX or a similar mutual fund. Expecting a 7-10% type return pre tax.
I see. I assume you mean that you *could* make a payment from the account in case of emergency. More or less a dual purpose, emergency fund / pay off the mortgage account. I like the idea of keeping your low interest rate mortgage. I don't like the idea of a separate account since it will add unnecessary complexity. As the others have suggested, having a good asset allocation plan across your taxable / tax deferred accounts is important. If you record your contribution amounts / dates to this (now imaginary) fund, you could calculate how well you did, possibly satisfying your spouse.

prpfx -- active management, relatively high expenses. I'd recommend looking for something else... go hang out with the bogleheads...
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Old 02-01-2008, 10:05 AM   #10
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I see. I assume you mean that you *could* make a payment from the account in case of emergency. More or less a dual purpose, emergency fund / pay off the mortgage account. I like the idea of keeping your low interest rate mortgage. I don't like the idea of a separate account since it will add unnecessary complexity. As the others have suggested, having a good asset allocation plan across your taxable / tax deferred accounts is important. If you record your contribution amounts / dates to this (now imaginary) fund, you could calculate how well you did, possibly satisfying your spouse.

prpfx -- active management, relatively high expenses. I'd recommend looking for something else... go hang out with the bogleheads...
Issue #1, show me a fund or group of funds which own the same thing as PRPFX, and show me a cheaper way to diversify into all 4-5 of those funds. I have the minimum for PRPFX, but not minimum for 4-5 funds, plus I would need to rebalance these in taxable accounts.

PRPFX- very moderate fund, some bonds, some commodities (gold and silver), some currencies (US dollar and swiss francs), some stocks (large cap variety). Returns and stability drive the decisions (not expenses), plus it's cheaper to own this one fund that it would be to own 4-5 others. If the fund I invested in lost money when mortgage balance could decrease (by paydown) the wife might not be too happy, so your basic S&P 500 or large cap value fund is way to volatile, and returns to me are net of expenses. I like getting some small exposure to commodities, while keeping with a balanced fund concept. The commodities are not in my asset allocation now, and I only want a small exposure to them (through this fund) for diversification purposes.

I am not an indexer, so bogleheads would not be who I need to speak to for sure. PRPFX would be the most expensive fund I own, but expenses are hardly a killer.

I need to create a taxable account for FIRE anyway (100% of assets now are in Roths, rollovers and 401ks), outside of the 3 months cash we keep in CDs for emergencies.

Wife wanted to pay down mortgage directly. I'd prefer to get higher than a 5.75% return than that. If I added money to one 401k or the other, it would be tough to

a) pull money out if needed
b) tough to track the additional money invested
c) tough to put money in (extra income for paydown comes from a 2nd job by me, which is a cash only gig). If I adjust 401k, I would need to work the 2nd job (I actually do it for fun/hobby, getting paid 15k cash per year is a bonus).
d) If the money is tucked inside a 401k, the budget would not balance unless I was required to do the 2nd job. The work is technically an independant contractor type, and I cannot always find an opportunity, and weather can cut into the income as well. So budget would lose income if money was put inside 401k. Taxable account is needed so I can invest when I have the money, but not change the budget for the family.
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Old 02-01-2008, 10:15 AM   #11
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I am not an indexer, so bogleheads would not be who I need to speak to for sure. PRPFX would be the most expensive fund I own, but expenses are hardly a killer.
good luck. I won't try to 'convert' you, but you are swimming upstream.
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Old 02-06-2008, 06:15 PM   #12
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srry didn't read every post don't know if this was covered.

TWO things for me are taxes and Kids

-do you know what tax bracket you are in?
-do you know how much you save with an interest tax deduction?

If you do that would be some information. I am in the 35% bracket (plus 5% state) so everything I do goes thru a 40% tax filter (or 20% for capital gains).

You mentioned kids.

Do you know how much it costs to raise 2 kids?
Do you know how much college tuition will cost in 2026?

here is an college inflation calculator. ---->FinAid | Calculators | College Cost Projector

if you figure $7500 per year each kid x 2 kids x 4 years that's about $200K for tuition 18 years from now and that's a low estimate.

How do you plan on your kids paying for school?
There are pre-paid tuition plans or college savings planns (some called a 529 plan). In a 529 plan any income or capital gains is not taxed if the money is used for school.

If you saved $500 per month for 18 years at 7% gain you would have over $200K saved. Plus that money can be used without paying tax (on withdrawl, you pay tax on income before you put it in the account) and so you put in ~$100K and have a gain of ~$100K which if you had to pay tax on would be over $20K in tax (usually some gain would be income and some would be capital gain so the lowest you would pay is 20% but could be different in the future ie, higher).

I don't say you have to do a 529 plan, but it's a wise tax move and it's easier to save a little over a long time than to worry about paying $50K per year or having your kids do so.

Also 529 plans (depending on what state you live in) can be state tax exempt when you put in the money. Where I live you can put in $2500 per child per year state tax exempt. 5% saves me $250 a year. Not a lot but over 18 years that's $4500 plus interest.

You do not have to do so much as I said, you could do $200 a month or whatever and you don't even have to do it every month. But it's not a bad idea to put away some.

Also it's a better idea to have a cash nest egg say 3 to 6 months of pay. If you take home $5K a month not bad to have $20K to $30K in savings (get interest on the account) just in case. I believe that's better than having 'home equity' any day.

Also make sure to have life insurance (term life) and disability insurance.

There are a lot of things to think about and paying off your house early, while good may not be the best idea.
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Old 02-06-2008, 06:21 PM   #13
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I need to create a taxable account for FIRE anyway
Why is that?
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Old 02-06-2008, 10:37 PM   #14
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srry didn't read every post don't know if this was covered.

TWO things for me are taxes and Kids

-do you know what tax bracket you are in?
-do you know how much you save with an interest tax deduction?
Yes-25% bracket, slowly creeping into 28% bracket (probably will take 3-5 years). I don't know exact amount, but we do adjust federal holdings (I claim 7 right now) to modify tax return, and we still get 4 figures back from federal and owe state 3 figures (Ohio).
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If you do that would be some information. I am in the 35% bracket (plus 5% state) so everything I do goes thru a 40% tax filter (or 20% for capital gains).

You mentioned kids.

Do you know how much it costs to raise 2 kids?
Yes 12k plus or minus for daycare, plus other expenses (diapers, formula, clothes)
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Do you know how much college tuition will cost in 2026?
NO. I don't plan to fund higher education for kids. This may change down the line, but our own financial house is more important than giving kids a free ride until 22.
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here is an college inflation calculator. ---->FinAid | Calculators | College Cost Projector

if you figure $7500 per year each kid x 2 kids x 4 years that's about $200K for tuition 18 years from now and that's a low estimate.

How do you plan on your kids paying for school?
Loans, scholarships or other.
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There are pre-paid tuition plans or college savings planns (some called a 529 plan). In a 529 plan any income or capital gains is not taxed if the money is used for school.

If you saved $500 per month for 18 years at 7% gain you would have over $200K saved. Plus that money can be used without paying tax (on withdrawl, you pay tax on income before you put it in the account) and so you put in ~$100K and have a gain of ~$100K which if you had to pay tax on would be over $20K in tax (usually some gain would be income and some would be capital gain so the lowest you would pay is 20% but could be different in the future ie, higher).
I understand 529's. We'll barely be funding our Roths the first few years, so not even thinking about college savings. Wife and I are on same page (we both paid our way thru school).
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I don't say you have to do a 529 plan, but it's a wise tax move and it's easier to save a little over a long time than to worry about paying $50K per year or having your kids do so.

Also 529 plans (depending on what state you live in) can be state tax exempt when you put in the money. Where I live you can put in $2500 per child per year state tax exempt. 5% saves me $250 a year. Not a lot but over 18 years that's $4500 plus interest.
List of states?
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You do not have to do so much as I said, you could do $200 a month or whatever and you don't even have to do it every month. But it's not a bad idea to put away some.
Roths take priority over college savings. We also have life insurance with a cash value which might make sense to use for college education. Depends on the curves thrown between now and then.
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Also it's a better idea to have a cash nest egg say 3 to 6 months of pay. If you take home $5K a month not bad to have $20K to $30K in savings (get interest on the account) just in case. I believe that's better than having 'home equity' any day.
Yes. We have 12k in 90 day CDs (4k each) which mature every 30 days. Over time the interest from this will fund the 4th-5th and 6th months cash. The mortgage paydown fund will compliment this emergency fund.
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Also make sure to have life insurance (term life) and disability insurance.
300k each spouse in term, plus 25k whole life with a sub account indexed to S&P 500. We are about 5 years into both policies. Whole life rates now were cheaper than rates for term for a 50 year old, so we opened them years ago, knowing the insurance could be used for college education or other purposes.
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There are a lot of things to think about and paying off your house early, while good may not be the best idea.
If you do the math, I will be age 52 when kids graduate college. The house will be paid off when I am 63. If I FIRE, the house payment is the trigger. So my initial plan is to fund a taxable account to pay down the mortgage (but the money is really invested). At age 52, I would expect I could start withdrawing money from this account to make the payments, and still have money grow over the 11 years I am in ER.

My salary right now only pays the mortgage and the IRAs (wife's check covers cars, groceries and utilities). Meaning if I stopped working, my risk is covering the mortgage.

With kids on the way, the initial plan is to not fund the IRAs each year (from paychecks) and also pay off wife's last student loans early. Comes out to around $1100/month.

IRA contributions might come from my second job (I coach soccer teams and might clear 15k in a good year and 5k in a slow year). If I clear 15k, we are real close to 28% tax bracket. I have not cleared 15k yet (10k projected for 2008), but could see it happening sooner or later.
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Old 02-06-2008, 10:42 PM   #15
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Why is that?
flexibility. I have Roths, 401ks and rollovers. Could do 72(t) if it is still around, but would prefer to have choices.

Plus one aspect of this which I truly believe-

what is most tax efficient going in (401ks) are the least tax efficient coming out.

so creating something which is tax inefficient for a short period of time-15 years while contributing-a taxable account can give me relatively low taxes for the next 30-50 years of retirement.

Taxable account plan is two components
1) a mortgage paydown fund
2) a dividend portfolio

goal is to get dividends to pay around 25% of needed income each year during retirement.
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Old 02-07-2008, 10:31 AM   #16
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I am about to start paying down my mortgage early. I do plan to invest the money (not pay down principal), tax favored accounts are full (401ks to point of match, Roth IRAs for both spouses). Current savings rate is 15% of gross income. I am 34, wife is 33. Twin boys due in June. Target ER age is 52 for me. Mortgage is 30 year fixed and will be paid off in 2036.

Here is my question- if you invest(ed) (instead of paying down), do (did) you mix money with other asset allocation, or did you create a seperate account? Do you see problems with one way (consider all assets one allocation) vs another (keep accounts seperate).

My plan is a seperate account for four reasons

1) paying down mortgage was partly wife's idea, I want a visible place for her to see money
2) The money for paying down the mortgage is coming from a second job whose income stream is high, but unreliable (meaning upping 401k contributions would cause budget issues in some worst case situations).
3) in event one spouse loses a job, this account can double as a way to pay normal mortgage payment.
4) The amount contributed will vary between $500 to $2000 per year. I want to track the return of this money to make sure I can invest it better than 5.75% rate on mortgage.

But if there is a problem with this, I haven't thought of it.

FYI- our credit card is tied to mortgage (GMAC). 1% of all purchases pays down the mortgage in $50 increments (charge $5000 to get $50 pay down). This is more of an afterthought than part of the plan. I only charge gas and travel expenses on the card anyway.
Well, there's also the "forced" mortgage paydown. Say a 15 year mortgage (if it's doable with all your income). We just did a refi to a 15 year @ 4.625%. Starting from the very first payment, we're paying more on the principle than towards interest.
We'll be funding DW's Roth this year in full, but we'll only be putting away about 10%-12% of a single income into retirement accounts. When we get to funding my Roth, we'll be hitting just over 15%, and that's next on our target.
We've got twin girls, and "Irish twins" boy and girl. "Irish twins" mean born a year apart (at least that's what mom always said).
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