pay off the house or no?

[retiringat50]

Signing up for a 72t. Besides covering my gross income (will take taxes out ourselves) we also added in a percent for inflation. 72t will be for 9 yrs
At first we'll have more money than needed. Should I put this towards the house principal and pay off the house sooner than the loan period? I realize we wont have the interest for tax time.

 

[rs0460a]

I realize we wont have the interest for tax time.

So you would rather "spend" $2 to get $1 back in taxes?

I could never understand why people continue to look at interest payments as a way to get "payback" on their taxes.

- Ron

 

[Sandy]

Please read some of the pay off your mortgage threads. This issue has been discussed multiple times. There is no one right answer for everyone.

Prepay mortage, reinvest, splurge - Isn't it nice to have options?

 

[REWahoo]

Should I put this towards the house principal and pay off the house sooner than the loan period?

Everything you could possibly want to know about this subject - and much, much more: http://www.early-retirement.org/forums/f47/should-i-pay-off-mortgage-invest-money-30644.html

 

[W2R]

So you would rather "spend" $2 to get $1 back in taxes?

I could never understand why people continue to look at interest payments as a way to get "payback" on their taxes.

- Ron

I agree and I think about half of us are in the "pay off the house" camp, and the other half aren't.

I bought my house on a 6.375% loan with 20% down in 2002. I skimmed off my bank accounts and sent every penny over $1K or so to the mortgage company every few months, LBYM'd like crazy, and paid it off in four years.

As a result, instead of paying $159,478 in interest on my $160K home I paid a total of $17,401 in interest and the home is MINE. I like this!

If someone else doesn't like a result like that, they are more than welcome to do things their way (like Frank Sinatra, "I did it MY WAY")! It's all a matter of individual choice. I made mine.

 

[rs0460a]

As a result, instead of paying $159,478 in interest on my $160K home I paid a total of $17,401 in interest

Don't forget, that $142,077 you "saved" (by not paying it) would have had you needing to "earn" $181,158 (at the 28% federal tax rate) to pay that interest to the bank.

How many years did that take off your ER forecast?

- Ron

 

[maddythebeagle]

Actually, I think the numbers were more 2/3 pay off vs 1/3 keep keep....

 

[growing_older]

I'm in the pay off the house camp. Your situation may be different, but I'm planning to reach FIRE in a few years and I want to not have a fixed monthly obligation for a house mortgage. I think it will give me more flexibility in cash flow and better ability to fly below the tax brackets (maybe make some Roth conversions) while still maintaining a reasonable lifestlye. My current mortgage is tied to the prime rate, so the recent cuts make it more reasonable to hold onto the cheap money, but I still want it gone, so I'm still prepaying.

 

[W2R]

Don't forget, that $142,077 you "saved" (by not paying it) would have had you needing to "earn" $181,158 (at the 28% federal tax rate) to pay that interest to the bank.

How many years did that take off your ER forecast?
- Ron

Without a paid off house, I don't think I could ever have retired on my own as planned! At least, I couldn't figure out a way to do it and make mortgage payments as well in anywhere near the same timeframe.

(Recently all my plans have been turned upside down by an unexpected impending inheritance, but very little of it is in hand yet so I am still trying not to count on it.)

At my present rate of saving, it would take me over five years to save $181K. But in my spreadsheets it seemed to take a lot longer than that to retire if I didn't pay off my house. I don't recall exactly why!

 

[Walt34]

Without a paid off house, I don't think I could ever have retired on my own as planned!

That's the way we felt about it. We could have done it, but things would have been tighter than we liked. I suppose it depends on one's priorities. Both of us like that "zero-debt" feeling.

 

[megacorp-firee]

Without a paid off house, I don't think I could ever have retired on my own as planned! At least, I couldn't figure out a way to do it and make mortgage payments as well in anywhere near the same timeframe.

(Recently all my plans have been turned upside down by an unexpected impending inheritance, but very little of it is in hand yet so I am still trying not to count on it.)

At my present rate of saving, it would take me over five years to save $181K. But in my spreadsheets it seemed to take a lot longer than that to retire if I didn't pay off my house. I don't recall exactly why!

That's the way we felt about it. We could have done it, but things would have been tighter than we liked. I suppose it depends on one's priorities. Both of us like that "zero-debt" feeling.

I guesstimate my mortgage expense to be about 22% of my total spend in retirement. If I paid it off, I could eliminate the necessity for my nestegg to be so big (for example, a $1000/mth mortgage payment calls for $300,000 in assets to support a 4% swr of $12K/yr). Fortunately I don't need to do so and I will be pleasantly surprised when the mortgage is paid off (I like built in buffers to my plan).
So I can see how having a mortgage could throw off ones retirement plan.

 

[theHundt]

OK, I'm sure I'm about to get flogged but... what if instead of paying off your mortgage over say 5 years, you set up a high yield savings account and made the "extra" payments to yourself. At the end of the 5 years you would have enough to pay off your mortgage whenever you wanted, but would still have complete control over that money... you could then continue the monthly payments out of your "mortgage fund" not really upsetting the rest of your retirement. Depending on the tax rate and the mortgage rate, this seems like it would work out pretty well for some people. Of course savings account yields may fluctuate so it may be better to ladder CDs or something like that. It seems like the discussion so far has been "should I pay off my mortgage or just spend the money?". What about "should I pay off the mortgage or pay myself?". I think in the end it would probably be nearly a wash and thus all the debate

 

[FIRE'd@51]

I guesstimate my mortgage expense to be about 22% of my total spend in retirement. If I paid it off, I could eliminate the necessity for my nestegg to be so big (for example, a $1000/mth mortgage payment calls for $300,000 in assets to support a 4% swr of $12K/yr). Fortunately I don't need to do so and I will be pleasantly surprised when the mortgage is paid off (I like built in buffers to my plan).
So I can see how having a mortgage could throw off ones retirement plan.

I'm not sure this is the right way to look at. In your example the 300K you set aside to make the 1000 per month payments at a 4% SWR has a very high probability of leaving you with a large cash balance 30 years out after the mortgage (assume 30 years) is paid off. I think the proper way to do this analysis is to cash-match the amount of money that will self amortize to pay off the mortgage. For example a 30 year mortgage of 167K at 6% will have payments of about 1000 per month. So, if you were earning 6% on your money, this would be the amount to set aside to finance the mortgage. If you only earn 5%, the required amount would be 186K, and so forth.

Then I would slice out the 12K from both the income and expense sides of the ledger, and apply the 4% SWR rule to the remaining expenses to find the required nest egg. This would be financially equivalent to paying off the mortgage today.

 

[theHundt]

I'm not sure this is the right way to look at. In your example the 300K you set aside to make the 1000 per month payments at a 4% SWR has a very high probability of leaving you with a large cash balance 30 years out after the mortgage (assume 30 years) is paid off. I think the proper way to do this analysis is to cash-match the amount of money that will self amortize to pay off the mortgage. For example a 30 year mortgage of 167K at 6% will have payments of about 1000 per month. So, if you were earning 6% on your money, this would be the amount to set aside to finance the mortgage. If you only earn 5%, the required amount would be 186K, and so forth.

Then I would slice out the 12K from both the income and expense sides of the ledger, and apply the 4% SWR rule to the remaining expenses to find the required nest egg. This would be financially equivalent to paying off the mortgage today.

Haha... that's what I was trying to say, but this is much clearer than my babble. What about tax implications?

 

[megacorp-firee]

I'm not sure this is the right way to look at. In your example the 300K you set aside to make the 1000 per month payments at a 4% SWR has a very high probability of leaving you with a large cash balance 30 years out after the mortgage (assume 30 years) is paid off. I think the proper way to do this analysis is to cash-match the amount of money that will self amortize to pay off the mortgage. For example a 30 year mortgage of 167K at 6% will have payments of about 1000 per month. So, if you were earning 6% on your money, this would be the amount to set aside to finance the mortgage. If you only earn 5%, the required amount would be 186K, and so forth.

Then I would slice out the 12K from both the income and expense sides of the ledger, and apply the 4% SWR rule to the remaining expenses to find the required nest egg. This would be financially equivalent to paying off the mortgage today.

You are probably right, it's 1am where I am now, I'm retired and choose not to think this much about the problem.

My point was that if you look at your income needs in retirement (mortgage payment included), then if you figure the income stream to support that, then you need to add some figure (300k, 167k, 186k) to your required nestegg to support a 4% swr. That, I think is why W2R's numbers did not compute if she still had the mortgage.

I am an atom bomb type of a guy. Most on this board are sharpshooters. If I err, I want the tie to go to me. I am a big believer in buffers. If I am wrong, I don't have to go back to w*rk.

oh and what's wrong with leaving a large amount of money in the pile ... or if you see it growing hugely at one point taking a handful of it and going on that world cruise?

 

[ERD50]

Actually, I think the numbers were more 2/3 pay off vs 1/3 keep keep....

Except that leaves out the people who are not in either 'camp'.

I've always said, do the math correctly, and then decide for your situation.

Counting the savings from paying off the mortgage, but not counting the pile of money you would have by not paying it off is not correct math.

-ERD50

 

[Spanky]

Math is not necessary. Just compare the two rates, mortgage and investment rate. If mortgage rate is higher, pay off the debt. If investment rate is higher, do not pay off the mortgage.

 

[twaddle]

Not really that simple unless your investment returns are risk free. While current mortgage rates are very low, so is the risk-free rate. You have to bet that you can beat the current rate over time, which I happen to think is a very good bet.

 

[ERD50]

Not really that simple unless your investment returns are risk free. While current mortgage rates are very low, so is the risk-free rate. You have to bet that you can beat the current rate over time, which I happen to think is a very good bet.

I understand the concept that pre-paying the mortgage is risk-free return, but that always brings up a question in my mind:

If 'risk free' investments are providing less after-tax return than a mortgage pre-pay, does that mean that no one should ever have any money invested in anything until they have paid off their mortgage?

One seems to lead to the other, no?

Let's say that all savings went to pay the mortgage, and that paid it off in 10 years rather than 30. That person would be totally out of the market for 10 years, but could step up the savings rate in years 11-30. Would they catch up?

-ERD50

 

[twaddle]

That's why I say you're making a bet when you invest your mortgage principal in the market. Your tolerance for risk comes into play, but it's no longer a simple matter of how well you can stomach volatility.

For example, Nords put his entire mortgage principal into small-cap value. That's a "good" long-term bet in terms of expected returns, but the asset class is so volatile, it could affect his ability to pay the mortgage if he were relying on those returns. He could get a "margin call" in effect that would cause him to sell stock at a loss or lose his house.

Of course, Nords has other assets, so he's never really taking that much risk, but that's one end of the risk spectrum.

I'm on the other end of the spectrum. I don't mind investing my mortgage principal, but I want to ensure that I have the ability to pay it off at any time without putting myself in an over-leveraged position that might require me to sell assets at a loss.

So, there are many ways to play this game:

1) Play the odds, like Nords.
2) Play it safe, and find a risk-free return higher than your mortgage rate.
3) Play it safe, and pay down your mortgage.

Of course, there are a bunch of hybrids, too. For example, clifp indicated he would probably buy high-yield financials with his proceeds. That puts the principal at risk, but he has an excellent chance of sustaining a yield that will be sufficient to cover the interest on his loan.

In general, the larger your nest egg, the less you need to worry about matching specific liabilities to specific investment assets.

 

[Spanky]

So, there are many ways to play this game:

1) Play the odds, like Nords.
2) Play it safe, and find a risk-free return higher than your mortgage rate.
3) Play it safe, and pay down your mortgage.

I pick #3. NO more mortgage.
I thought about taking out a home equity loan (HEL) at 4.99% from PenFed but decided not to proceed, even though the market return should be higher over time.

 

[W2R]

I understand the concept that pre-paying the mortgage is risk-free return, but that always brings up a question in my mind:

If 'risk free' investments are providing less after-tax return than a mortgage pre-pay, does that mean that no one should ever have any money invested in anything until they have paid off their mortgage?

One seems to lead to the other, no?

Let's say that all savings went to pay the mortgage, and that paid it off in 10 years rather than 30. That person would be totally out of the market for 10 years, but could step up the savings rate in years 11-30. Would they catch up?

I was out of the market completely (as far as taxable investments) for the forty-eight months that it took to pay off my mortgage. I did contribute the maximum plus over-50 catchup to my TSP(401K), but that was it. This was a conscious decision and I think such a decision is not the right one in every circumstance, though I think it was absolutely right in mine. Here's why:

Everybody has, or should have, a "bare bones survival income" figure in mind that is necessary for basic survival only in ER. This would be the figure covering nothing more than minimal existence, the income threshold needed for bare short term survival and nothing more. For me it would even involve eating the cheapest food, enduring uncomfortable (though survivable) temperatures inside my home, buying zero that is not immediately needed for survival, no medical, and so on. Got that "bare bones survival income" figure in mind?

OK, I believe the "bare bones survival income" plus inflation MUST be available to me with zero risk (or as near zero as possible) for my entire ER. I have only one child and I doubt she will be able to support me in my old age. I really don't want, or feel that I have, a fallback position of depending on her for my survival.

My expenses beyond "bare bones survival income" can be covered by investments of moderate or higher risk. By paying off my mortgage, my "bare bones survival income" level is reduced to less than half what it was before paying it off. The part covering my "bare bones survival income" must be covered by the very lowest risk investments possible, and whatever excess I have to invest can go into all sorts of risk levels.

In order to get a reasonably balanced portfolio (that is not massively overloaded with very low risk investments that may provide income reflecting little more than inflation), I feel I have to keep the "bare bones survival income" figure lower than it would be if it included mortgage P&I.

Someone like Nords, who I believe has probably a considerably larger portfolio than I ever will in addition to a substantial military retirement pension, has no issues with bare bones survival distorting his portfolio. Any money he gets his hands on from not paying off his home can go into higher risk investments that will provide him with higher gain.

Makes sense to me, anyway. Of course now that I have this potential, unexpected inheritance coming (hopefully), my plans are in a state of flux or transition. My portfolio may end up being several times larger than this prior planning reflects. My planning outlook should respond to any increase in resources.

 

[ERD50]

Everybody has, or should have, a "bare bones survival income" figure in mind that is necessary for basic survival only in ER. This would be the figure covering nothing more than minimal existence, the income threshold needed for bare short term survival and nothing more.

....

OK, I believe the "bare bones survival income" plus inflation MUST be available to me with zero risk (or as near zero as possible) for my entire ER.

Thanks WTR, I think that was stated very well.

I do need to calculate a bare bones expense - I haven't done it yet ( I hate actual budgeting, but manage to keep spending within a range, just out of habit and LBYM principles), but I do recognize the need. Being LBYM, there is not a lot I would want to cut, but of course I could if I had to.

One other way to look at this: rather than drawing that bare bones expense from near-risk-free investments, I think one could consider a near-risk-free SWR (2.75-3%?) of a standard portfolio? I can see where someone would be more comfortable drawing that from near-risk-free investments. Who knows what the market might do, but who knows if inflation might outpace those near-risk-free investments far beyond what was thought?

No easy answers I guess. ER-ing (or just R-ing) involves a leap of faith. I know it's been discussed to death on this forum, but at some point we just need to decide when enough is enough, and then get on with enjoying our life.

I've been doing some FireCalc runs, and looking at that 'minimum' number that pops up. When I get it organized, I'll start a thread on that with some test cases, but right now, it looks like a number that might scare most people, especially considering the reaction we have to this little 15% dip in the market.

-ERD50

 

[haha]

I've been doing some FireCalc runs, and looking at that 'minimum' number that pops up. When I get it organized, I'll start a thread on that with some test cases, but right now, it looks like a number that might scare most people, especially considering the reaction we have to this little 15% dip in the market.-ERD50

By this do you mean the nadir reached on any non-failing trip?

I posted on this about three years ago; there was zero interest. Although, as you say. there might be more now that a few skin cuts have recently been suffered.

Personally, I know that I will not be a happy camper if my total portfolio gets down to half its starting value.

I don't suspect this; I absolutely know it. So I must set my definition of failure considerably higher than "any positive value".

People are easily influenced by others, and sometimes don't stop to think that the others in question may have very different situations from oneself. (For example, in the case of federal workers, you will be paying their generous pensions and health care.)

Firecalc is clearly a useful tool, but my guess is that a minority of users have really thought through just what it is and is not capable of telling us.

Ha

 

[ERD50]

By this do you mean the nadir reached on any non-failing trip?

I posted on this about three years ago; there was zero interest. Although, as you say. there might be more now that a few skin cuts have recently been suffered.

Personally, I know that I will not be a happy camper if my total portfolio gets down to half its starting value.

I don't suspect this; I absolutely know it. So I must set my definition of failure considerably higher than "any positive value".

Ha

Yes, the nadir is exactly what I'm talking about. Do you have a link to your thread on the subject? I'd like to take a look.

I will start another soon (or add on to yours), I just want to get some good test cases together to make the point (and make sure I understand it).

If what I saw holds under other more general scenarios, I do think there is a psychological aspect to these runs that I need to consider for myself. Just as you say, I can probably take a 20 or 30% drop in NW in stride, but a 50% drop would test my ability to say with confidence, 'but, historically, I have a very good chance of recovering....'. And it looks like Even a 100% success rate on FireCalc will see some drops below 50% - Yikes!

No, I don't think I'd sleep well.

-ERD50