Advice for mortgage payoff decision

[Markola]

In four years DW and I both see the stars aligning in our respective careers so that we can start the downslope from our stressful management roles - and peak earning years, probably - to something more enjoyable or part time. At that time, I'll be nearly 55 and she'll be 57.5. Being rid of our 4.1%, $290,000 mortgage with 28 years would give us more options to choose from four years from now because our required yearly spend would drop by $18,000.

For years, we've maxed our pretax savings and are into the seven figures. We have no debt except the mortgage and the house is worth $425,000. We've done less well with after tax savings, which total $77,000. Without going into all of the obvious psychological reasons for having no debt, I think we have this four year wind if we want to knock out the mortgage so I want to make a decision. To do that, the math says we could ratchet back pretax savings to our 6% match levels and throw the rest at the mortgage for three years, at which time we could have a year left to either go back to maxing pretax or recouping some post tax savings. Hence my dilemma:

If we pay off the mortgage in 3-4 years, it looks like we will have to wipe out our after tax savings.

I'm not worried about not having enough net worth. The math actually doesn't point to much of an aggregate loss over time with our high, 63% or so savings rate. However, I like the comfort of having at least a year or so taxable assets at my disposal for "whatever" and it would feel funny to ratchet back our pretax savings during our peak earning years.

How would you suggest I think about these trade offs?






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[RobLJ]

I would be leary of drawing down savings to nothing just to pay off the mortgage.

You could consider an aggressive pay-down, then refi the remaining to 15-30 years, to knock down the required payment.

We did a version of what you are describing, with a 15 year refi (from 2005 or so) and equity loan (for college funds)--paid off the equity loan 2007-2012, then used remaining cash to pay off the small amount left on the original 15 year. But we had a lot of cash sitting paying about 1% and we also had a Colorado Cabin.
After the semi-retirement and move to Reno, we sold the house and cabin and bought a house at about the same value as the two combined, but kept a 45K mortgage--mostly to preserve cash levels, which in our situation are too high and are earning almost nothing. We could pay it off now with no sweat, but DW's employment is precarious, so I'm waiting to see. I was planning to invest 1/2 of the cash but will wait to see what happens.

 

[sengsational]

Since you two are not yet able to tap IRA's without penalty, I'd also be leery of getting my after tax balances too low. Maybe you can tap 401k's under the "leave the company in the year you turn 55 (or older)"? If you have some time to tinker, you can run the two scenarios in i-orp and see if that gives you any insight. After carefully inputting everything, scroll-down and look at the tax rate graph in the pay-off vs non-pay-off scenarios.

 

[COcheesehead]

Other considerations that or may not apply:
Will you lose a significant tax deduction that would help you stay under $75,000 AGI and thus pay 0 cap gains?
Will the interest deduction help you to continue to itemize and thus better manage your taxes?
Can you earn more than 4.1% in the market, actually less if you take into account the tax advantage?
Can you refi to under 3%.

 

[ivinsfan]

Right now, ACA rules favor keeping mortgage and having a large amount of after tax money to live on. I wouldn't give up any possible ACA help to pay off that house.

 

[Sunset]

Are you going to get a pension ?
I would slow down the pre-tax contributions to get the matching, your taxes will go up, but the 77K is too low to retire unless you have a 401K that you can withdraw post age 55 without penalty (some do not allow it).

check into refi your mortgage for a lower rate, is it worth the cost of doing it ?

I might in your situation, just increase the post-tax savings without paying off the mortgage, so you have a large buffer and once you can get to the pre-tax money without penalty, then pay off the mortgage over a few years.

 

[Bestwifeever]

Right now, ACA rules favor keeping mortgage and having a large amount of after tax money to live on. I wouldn't give up any possible ACA help to pay off that house.

OTOH, if you ever have to withdraw from your pretax IRA/401k to make the mortgage payments I believe that counts as income and may push you over the subsidy cliff. Having no mortgage before going on ACA should keep the income lower, no?

 

[ivinsfan]

The op said paying off the house would pretty much wipe out his after tax accounts going into retirement. I wouldn't be in a hurry to do that. Any after tax money you have can be used to lower your income for ACA purposes.

 

[rayvt]

"Being rid of our 4.1%, $290,000 mortgage with 28 years would give us more options to choose from four years from now because our required yearly spend would drop by $18,000.
If we pay off the mortgage in 3-4 years, it looks like we will have to wipe out our after tax savings."

If it's not worth doing, it's not worth doing well.

And paying off a 4.1% mortgage is not worth doing. Financially you are better off keeping the mortgage.

All you are really doing is taking 28 years of principal payments and collapsing them into 4 years. You are just shifting the payout in time, from being spread out over 28 years to compressing it to the next 4 years.

And closing off your options.

With a small(ish) monthly payment and $290K of cash you have a LOT more options than if you have no payment and also no $290K.

Cash is king. The more cash you have, he more options you have.

You have a fixed-rate mortgage? Then the P&I payment is fixed. But inflation marches on, so the dollars you pay will get cheaper and cheaper. $18,000/yr today, but in 20 years that $18,000 will be equivalent to about $13,000, after ~2% inflation. The 28'th year effective payment will be about $10,000.

 

[Markola]

This is why I value the E-R Forum! I made four pages of notes before posting looking at many angles but each expert comment above added a new perspective I hadn't considered. I admit to having been influenced by Dave Ramsey's Baby Steps, all of which we've accomplished except paying off the mortgage. However, I think we'll probably stay the course and keep the mortgage and maximum options, at least until FIRE. My plan all along has been to resolve the mortgage at FIRE or when we are both 59.5 and can balance the payoff across our cash, Roths and IRA/401ks as it makes the most sense then. Despite this recent thought experiment of doing so sooner, as I realized we have a unique four year window to get rid of the debt, I still like my original plan. DW doesn't have a firm opinion on it. Also:

I-Orp: Now bookmarked.

ACA: DW is a Fed who will qualify to buy into federal health insurance for life in four years. Still, she's had major health issues and that's four years away, so best to protect our ACA options.

Age 55+: We can tap both of our 401ks, though it appears her FERS plan requires either annuity-like payments or a one-time lump sum. More to figure out on that down the road.

Mortgage interest deduction: Not a huge factor since the rate is low and I probably won't ever have a lot of interest and dividend income, or capital gains, but it is a tool to help manage marginal rates.

Refinancing: I hadn't considered this enough but will. If interest rates remain historically low at FIRE, then we could refi and at least knock down the mortgage payments into comfortable territory for our FIRE budget, if not pay it off. Also, though we could get a 3.4% rate if we refinanced now, I think the fees and closing costs are such that it only makes sense to do it once, probably at FIRE.

Cash is King: Agreed. Part of my original dilemma is that a bigger nut compounds better, which I of course like, rather than parking cash in a low-to-no return personal residence.

Thanks again. I think I have my decision, which is to not worry further about the mortgage and not lift a finger until at least FIRE. Gotta love that!

 

[Another Reader]

You should be able to do significantly better on the refi. I haven't used them personally, but I know a number of people that used the online lender, Aim Loan. Very low cost and very competitive rates. Get an initial estimate by filling out the form online. www.aimloan.com

 

[ShokWaveRider]

Right now, ACA rules favor keeping mortgage and having a large amount of after tax money to live on. I wouldn't give up any possible ACA help to pay off that house.

Surely what you pay in interest outweighs any you get back (25% - 30%) at the most. If your interest is $12k pa, $9k per year is a lot to put towards a health plan.

We paid our home off in 1998 and never looked back. ($300k mortgage at the time)

 

[ivinsfan]

Surely what you pay in interest outweighs any you get back (25% - 30%) at the most. If your interest is $12k pa, $9k per year is a lot to put towards a health plan.

We paid our home off in 1998 and never looked back. ($300k mortgage at the time)

The biggest factor is after tax money, not the mortgage, each case is different. Remember, the interest can be both a tax deduction and lower your income for ACA. The net cost of borrowing money at a low rate and a double tax benefit is the total picture.

 

[38Chevy454]

I also would not use up after-tax savings. My recommendation is to refi the mortgage to a 10 or 15 year, and then pay more on top of that in next few years while working. Since you have a very high savings rate, just divert some of that to additional mortgage payment and principal reduction. With rates as low as they are currently, you should be able to get less than 3% for a 10-15 year term, seems current 15 year is around 2.7% range. Don't take cash out refi, just a straight refi of the balance. I bet going to a 15 year at less than 3% will not be too much of payment increase over your current 30 year 4.1%.

This will build house equity faster and once retired, you can either pay it off or sell house and move to a retirement house, which may be in a different location.

Keep your current after-tax savings as-is and don't spend it. Continue to get the max company match on 401k and if you can max out the $24K pre-tax contribution for each of you for the year (good for taxes since both working). Any leftover after living expenses and monthly mortgage, you can put towards the house mortgage reduction. That's my $.02 towards your plan.

edit: whether to pay off the mortgage is really a sleep well and emotional decision. The pure financial aspects say to balance the return on the money you would be paying toward the mortgage vs the cost of the mortgage. If return on the money is higher, then invest it and don't pay the mortgage. But for many the no mortgage situation is good for mental health. This is simplified of course, especially if in a rapidly rising house value location, i.e. using other people's money to leverage your actual cash investment.

 

[pb4uski]

I would refi to a 15 year mortgage, which should be less than 3%, if your budget can afford the payments (which I suspect that you can).

Unless you have 401ks that you can access before 59 1/2, you will want a few years of expenses in after-tax account to carry you from ER to penalty free withdrawals... if your current pre-tax savings provided sufficient cash flow to accomplish that then great. The trouble with dialing back on your pre-tax savings is that you'll likely have to pay a lot in tax on the amount that you dial back. You can use Taxcaster or the tax calculator at tax-rates.org to see the impact of changing your pre-tax savings.

Have you sketched out your situation in Quicken Lifetime Planner? It shows you the projected decay of your taxable funds once you ER and if you'll have enough.

 

[Terryjm51]

This is why I value the E-R Forum! I made four pages of notes before posting looking at many angles but each expert comment above added a new perspective I hadn't considered. I admit to having been influenced by Dave Ramsey's Baby Steps, all of which we've accomplished except paying off the mortgage. However, I think we'll probably stay the course and keep the mortgage and maximum options, at least until FIRE. My plan all along has been to resolve the mortgage at FIRE or when we are both 59.5 and can balance the payoff across our cash, Roths and IRA/401ks as it makes the most sense then. Despite this recent thought experiment of doing so sooner, as I realized we have a unique four year window to get rid of the debt, I still like my original plan. DW doesn't have a firm opinion on it. Also:

I-Orp: Now bookmarked.

ACA: DW is a Fed who will qualify to buy into federal health insurance for life in four years. Still, she's had major health issues and that's four years away, so best to protect our ACA options.

Age 55+: We can tap both of our 401ks, though it appears her FERS plan requires either annuity-like payments or a one-time lump sum. More to figure out on that down the road.

Mortgage interest deduction: Not a huge factor since the rate is low and I probably won't ever have a lot of interest and dividend income, or capital gains, but it is a tool to help manage marginal rates.

Refinancing: I hadn't considered this enough but will. If interest rates remain historically low at FIRE, then we could refi and at least knock down the mortgage payments into comfortable territory for our FIRE budget, if not pay it off. Also, though we could get a 3.4% rate if we refinanced now, I think the fees and closing costs are such that it only makes sense to do it once, probably at FIRE.

Cash is King: Agreed. Part of my original dilemma is that a bigger nut compounds better, which I of course like, rather than parking cash in a low-to-no return personal residence.

Thanks again. I think I have my decision, which is to not worry further about the mortgage and not lift a finger until at least FIRE. Gotta love that!

I agree with others on the refi, however the piece of mind that my house is paid for will let me sleep at night and I will feel better when I pull the plug. I am the same age and in your same shoes and will re-read this thread a couple of times but we have been focused on pay down for a couple of years, but still max out my 401k. Great topic and responses


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[Greg V]

"Age 55+: We can tap both of our 401ks, though it appears her FERS plan requires either annuity-like payments or a one-time lump sum. More to figure out on that down the road."

FERS has three components. The FERS annuity is monthly payments based on salary and years of service. If she starts before her minimum retirement age, the annuity is reduced depending on how early she begins. The Thrift Savings Plan (TSP) can be taken as a lump sum, partial payment (one type of partial payment is monthly payments, able to be changed once a year) or an annuity. You could purchase an annuity with all or part of your TSP balance. The third component is Social Security.

 

[rayvt]

I guess that's why they have horse races -- because everybody has a different opinion.

I just don't understand why some people think it's better to have your money tied up in your (illiquid) house instead of in cash. We say it's better to have your money working for you than for you to be working for your money.

And money in your house is not working for you. Money invested in stocks & bonds is working for you.

Ah, it's a neverending debate.

 

[Markola]

Thanks again for everyone's suggestions. Rayvt, the debate never ends because this stuff is so psychological: I am now no longer spending mental energy figuring out how to pay off the house but whether I should refinance to 15 years.

 

[LastOfTheBoomers]

Our decision to pay off the mortgage was based on timing, deduction and current working status.

Paid off during the big downturn in 2008 - took money out of the money market that was earning .1% or maybe less - paid off 4% mortgage - at that point we were no longer getting the interest deduction anyway - the std was a better choice.

At that time it was the most secure way to make 4% return - and in many ways tax free return.

Would I do the same thing right now? Probably not.


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[COcheesehead]

I admit to having been influenced by Dave Ramsey's Baby Steps, all of which we've accomplished except paying off the mortgage.

I like Dave Ramsey, but keep in mind much of his advice is for people without money dicispline so the message is pragmatic and simple to get people on track. He rarely, if ever, goes into the next level of money management often discussed here.

 

[ivinsfan]

I like Dave Ramsey, but keep in mind much of his advice is for people without money dicispline so the message is pragmatic and simple to get people on track. He rarely, if ever, goes into the next level of money management often discussed here.

Agree, according to Dave credit cards were invented by the devil which is absurd. He'll make fun of callers who have credit cards. In this day and age the only reason not to have use of the float, the card bonuses and the card protections is if you are addicted to spending money and have no control over yourself. Not everyone that call him has those problems, but the dude is so dogmatic I can't stand to listen to him.

I get incensed when he tells some with a few thousand dollars left on their car payments to dump that car and buy a 1000 dollar beater. Maybe they shouldn't have gotten the car but to trade off an almost payed off car that should continue to give you years of reliable service for a piece of junk with bad tires is crappy advice.

 

[Cobra9777]

We were in a similar situation 5 years pre-ER... large tax-deferred, modest taxable, and a big mortgage. We mainly focused on building the taxable account, while continuing to max out tax-deferred as well. Periodically, we also made large principal payments on the mortgage, but without any intent to pay it off.

By ER, the taxable account had grown from 5% of the total to 40%. The mortgage balance had dropped to around 6% of the portfolio. We had 9 years left and the payments were still quite high. We looked at whether to pay it off or refi at a low rate. Ultimately decided to pay it off.

As 52 year-old retirees, our main objective was to reduce reliance on portfolio withdrawals to pay the bills. We also bought two rental houses for cash and elected the annuity option on two DB pensions for same reason. Without the mortgage, we have significantly lower expenses and steady income to cover it all. We only withdraw from the nestegg for large discretionary spending. With SS still to come, and large tax-deferred balances waiting, we don't worry too much about the smaller taxable portfolio.

Later on, when we downsize, we might consider holding a mortgage on the smaller place if rates are still low. But this early in retirement, sequence-of-returns risk is our main concern. In our case, the retirement plan doesn't require a leveraged balance sheet to meet our goals. So we see it as just another way to reduce risk and uncertainty at the most susceptible point in early retirement.

 

[rayvt]

- paid off 4% mortgage in 2008.
At that time it was the most secure way to make 4% return - and in many ways tax free return.

Well, that's the thing. You were making a decision for a long-term investment based on a short-term timeframe. That is almost always a mistake, financially.

Sure, in 2008 4% was a good return. But by paying off the mortgage you locked that money in, and now that the market has doubled from then -- you missed out on all that.

Back of envelope figures:
Say you took out $100K from the S&P500 in 2009 to pay off your $100K mortgage. That saved you 4% * 7 yrs = 28% = $28,000.

If you had left in in the S&P500, it would now be around $200,000. Minus $28,000 of mortgage interest = $172,000.
You could now pay off the $100K mortgage and still have $72,000 remaining.

That short-term decision cost you $72,000 long term.

Everybody is different, but me -- I treasure having more money more than I treasure having no mortgage.

 

[target2019]

I don't have the smarts to make a proper analysis, but the mortgage payoff dilemma is tied to many factors.
- interest rate declining or rising.
- timing of decision, such as where in the economic and market cycle are we
- benefit of deduction for mortgage interest, if any
- available cash on hand
- where in the payment schedule you are.

We paid off a mortgage early in 2005, I believe. The rate was in the area of 6-8%. We made double and triple principal payments when possible, say for 10 years. Then we made a lump sum payment to close the loan. It made tough times a lot easier.