Perhaps another argument to paying off home?

[DawgMan]

Along the lines of a current post, but thought it may warrant a new thread...

Putting aside some of the traditional arguments of holding a mortgage vs. paying off home (i.e. interest rate comparisons of investments vs. mortgage, peace of mind in having no debt), I wonder if maybe we should be taking into consideration another angle. Assuming you look at your home as a place you plan to stay in for an indefinite period of time post RE, shouldn't you really be comparing your effective debt constant (current mortgage or potential mortgage) to your more conservative potential bond allocation return? It seems to me that once you go from accumulation mode to drawing down/from your assets (assuming you don't have pensions/fixed annuities covering your nut), you really need to look at your mortgage obligation as part of your bond allocation, as in theory, you need a reliable/dependable return to match up with your fixed mortgage payment... hence the debt constant comparison? So, if you are really a 60/40 AA guy with a mortgage, are you really fooling yourself and are you a 55/45 AA guy. I'm not sure it's really fair to compare a more volatile average return of an overall AA when it comes to ensuring your fixed mortgage is paid. OTOH, since your debt constant only goes up as you pay down your mortgage, it feels like the prudent approach is to pay it off which reduces your overhead/cash flow needs, not to mention gives you a high in being debt free. I also suppose you can take this argument further in that the lower your true fixed cash flow needs are, the more flexible can be with your AA??

I'm a couple/few yrs from launching RE, but I continue to analyze (probably over analyze) the pros/cons to paying off my mortgage once i do launch. Am I missing something here in my argument??

 

[Newventurer]

Seems like more of an emotional decision. The financial benefits can (and have) been argued ad naseum

 

[DawgMan]

Seems like more of an emotional decision. The financial benefits can (and have) been argued ad naseum

Don't disagree. I just wonder if we properly consider our homes as it relates to an expense and asset and how it does or doesn't affect our AA and withdrawal strategies. I get the emotional and the conservative attitudes of not counting your home as an "income producing" asset, but if you have a mortgage, it's an "income decreasing" asset, so you can't totally ingnore its impact.

 

[Newventurer]

How would you account for paper losses if the real estate market tanks if you are adjusting your AA?

 

[bingybear]

i paid my house of decades ago (at 32 yo) and did not get sucked into the move up fad.
The house or better yet housing is an expense in. If I were to carry a mortgage I would assume that I would invest the rest in my AA, not restricted to high grade bonds. One would likely do better over the long term taking the mortgage and investing.
I see not having a mortgage as dropping my needed expense since I don't have to pay a mortgage. If I took a mortgage, I would invest at my desired AA.
The house is a relatively small part of my assets. I don't worry about optimizing it. More useful to me knowing I have an affordable nice space.

 

[DawgMan]

How would you account for paper losses if the real estate market tanks if you are adjusting your AA?

Not any different than any stock/bond I wasn't selling. No realized loss unless I sell, however, any real dividends/interest I receive or mortgage payments I have to make still directly effect my cash flow

 

[bingybear]

How would you account for paper losses if the real estate market tanks if you are adjusting your AA?

Not any different than any stock/bond I wasn't selling. No realized loss unless I sell, however, any real dividends/interest I receive or mortgage payments I have to make still directly effect my cash flow

So you don't rebalance your portfolio unless you realize a gain or loss? If you equities drop 40% and you don't sell... do you hold tight? do you rebalance? I think most who do rebalancing would have. So if your house value drops 40%... if it is an asset, what would you do to rebalance?

 

[Markola]

The house's value bounces around all the time, we just can't see it, because it isn't traded every day with a high/low bid posted each evening. In general, it creeps up about 3%-4% per year, just like our total bond index, and that's close enough for me. We keep enough in bonds to pay off the mortgage OR pay 3 years of living expenses, but not both, because we're working and in growth mode. Maybe we'll think differently when we FIRE.

 

[Danmar]

Yes, we have discussed this briefly before. If a strong case can be made to include the capitalized value of a pension in your AA it would also suggest doing the same with a mortgage (it would be a reduction in the FI portion of your AA). I couldn't convince many people of the desireability of including the pension so didn't even try for the mortgage, but it certainly makes conceptual sense. Another inclusion might be alimony either received or paid.

Including the actual market value of a personal use house as a rent substitute and thus a bond proxy seems to be "pushing it" in my view.

 

[pb4uski]

I think the view expressed by the OP makes sense only if one would change their AA if they paid off their mortgage, otherwise not. If they would change their AA then the fixed income return is the relevant comparison, if not then the overall portfolio return. Since my 3.375% mortgage and 1.9% car loan total less than 10% of our total portfolio, I am in the latter camp.

 

[audreyh1]

How would you account for paper losses if the real estate market tanks if you are adjusting your AA?

Simple: I don't include my house in my AA. It doesn't lend itself to rebalancing.

 

[audreyh1]

Don't disagree. I just wonder if we properly consider our homes as it relates to an expense and asset and how it does or doesn't affect our AA and withdrawal strategies. I get the emotional and the conservative attitudes of not counting your home as an "income producing" asset, but if you have a mortgage, it's an "income decreasing" asset, so you can't totally ingnore its impact.

All spending is income decreasing. Rent, mortgage, whatever. That doesn't matter. What matters is your expected annual spend.

You look at your annual spending requirements, determine your needed income taking taxes into account. That lets you establish a minimum retirement portfolio for a given safe withdrawal rate. Then you pick an AA you feel comfortable with that supports that withdrawal rate with good survival characteristics.

So, I suppose you could look at your portfolio before and after you pay off your mortgage. In the first case, you have a larger portfolio, but higher annual expenses.

 

[audreyh1]

Not any different than any stock/bond I wasn't selling. No realized loss unless I sell, however, any real dividends/interest I receive or mortgage payments I have to make still directly effect my cash flow

Would you buy more house?

When stocks take people buy more to rebalance.

Don't get caught up in cash flow such as dividend income - that's just part of total return and rebalancing an AA only looks at total return.

 

[USGrant1962]

So, if you are really a 60/40 AA guy with a mortgage, are you really fooling yourself and are you a 55/45 AA guy.

I think it has been discussed elsewhere, but a mortgage is like shorting (selling) a bond (you are borrowing not lending) so I believe in your example it decreases your fixed income allocation, not increases it.

But I don't recommend including a mortgage or home in AA anyway so it is academic to me.

 

[haha]

Don't disagree. I just wonder if we properly consider our homes as it relates to an expense and asset and how it does or doesn't affect our AA and withdrawal strategies. I get the emotional and the conservative attitudes of not counting your home as an "income producing" asset, but if you have a mortgage, it's an "income decreasing" asset, so you can't totally ingnore its impact.

I tried to say this in another thread. I think that anything that either produces or uses cash has to be explicitly configured. Imagining that an overall expected portfolio return could safely fund payments that must be made is downright risky.

In a sense, what one is trying to do is defease the mortgage debt. This really cannot be done with absolute security, unless one's mortage payments can be met by US government obligations. That is rarely going to be possible. Still, it would be safer to use a fixed rate mortgage loan than a margin loan if the idea is to lever up an investment portfolio.

Ha

 

[FIRE'd@51]

So, if you are really a 60/40 AA guy with a mortgage, are you really fooling yourself and are you a 55/45 AA guy.

I would say you are 65/35 guy since having a mortgage is equivalent to being short a bond (you make the interest payments and benefit if interest rates rise).

 

[W2R]

I suppose there are other reasons for wanting to pay off one's home, but personally my favorite reason is having a lower cash flow requirement during retirement.

Even though I'm not a "prepper", it's especially nice when reading the doom'n'gloom on the news and financial pages. I can even read Nouriel Roubini articles without freaking out. With a very low cash flow requirement for bare bones existence, and with a variety of income sources, I think I am pretty well positioned to survive whatever the future brings.

 

[RunningBum]

I would say you are 65/35 guy since having a mortgage is equivalent to being short a bond (you make the interest payments and benefit if interest rates rise).

I'm getting a bit dizzy thinking about this, but I'm pretty sure I agree with this post. The more I think about it, the more I like this explanation/interpretation.

 

[FIRE'd@51]

I suppose there are other reasons for wanting to pay off one's home, but personally my favorite reason is having a lower cash flow requirement during retirement.

It's one of mine also, since having to increase your income to make the mortgage payment raises your AGI resulting in higher taxes.

 

[Danmar]

I would say you are 65/35 guy since having a mortgage is equivalent to being short a bond (you make the interest payments and benefit if interest rates rise).

Yes, I agree. Owing a mortgage is like being short a bond. That's why it makes some sense to include it (and pensions) in your AA.

 

[audreyh1]

When we paid off our mortgage, we did so to lower our fixed monthly expenses. We were taking considerable risk at the time because most of our net worth was tied up in company stock. Our net worth was getting up there where we could consider retiring quite early, so we started looking at our expenses more carefully. At one stock price run up we sold a little company stock and paid off our mortgage. Then we held on a couple more years working to meet our nest egg goals and then some.

Got lucky in general. No, the company stock never cratered and the company remained healthy, but it was a wild ride over many years. I think we were used to it though. Holding on was what made it possible to retire super early.

 

[Bamaman]

I just like a peace of mind in my retirement. I don't want to think about watching a calendar in order to pay any house or car payment on time. When a bill hits the mailbox, I pay it online immediately and toss the paper away. I seldom even pay that close of attention to my cash balances--as there's enough funds there to cover my expenses.

I just want a simple, no hassle existence that includes no house payments.

After spending mega hours on the phone while working, I seldom talk to anyone on the telephone Most correspondence is by email or Facebook.

 

[Blue Collar Guy]

Im with bamaman, I would have made a mint if i kept a high mortgage and invested the money. But i have enough of money. I wanted to sleep at night. Paid off house makes me sleep better. I do NOT include my house in my AA. Therefore, it doesnt affect the percentages.

 

[Danmar]

I just like a peace of mind in my retirement. I don't want to think about watching a calendar in order to pay any house or car payment on time. When a bill hits the mailbox, I pay it online immediately .

Likewise. I was probably into my 50's before I could easily afford to do this. Felt great then and still feels great now.

 

[gamboolman]

We paid off our home afew years ago.

We understand all the arguments for making more ROI on the money we spent to eliminate the debt.

Best decision we ever made - but thats just us.....