10 Reasons You Should Never Pay Off Your Mortgage
A mortgage broker I was introduced to recently just sent me this article on 10 Great Reasons to Carry a Big, Long Mortgage by Ric Edelman. Apparently Mr. Edelman is the expert to be quoted on this subject, as I’ve heard his name associated with this idea several times. Here are his ten reasons along with limited excerpts of the original article. My response is included at the end.
Reason #1: Your mortgage doesn’t affect your home’s value.
You’re buying your home because you think it will rise in value over time. Yet, the eventual rise (or fall) in value will occur whether you have a mortgage or not. So go ahead and get a mortgage: Your house’s value will be unaffected.
Reason #2: You’re going to build equity anyway.
Many homeowners try to build equity in their house by paying off the mortgage. But that produces weak results when compared to the equity you?ll build simply by watching the house appreciate in value. So go ahead - keep the mortgage. You’ll build plenty of equity anyway.
Reason #3: A mortgage is cheap money.
[…] You’ll find that mortgages offer you perhaps the cheapest way to borrow. Mortgage loans offer low interest rates because you post the house as collateral: If you fail to repay the loan, the lender sells your house to recoup its money.
Reason #4: Mortgage interest is tax-deductible.
Not only are mortgage loans low in cost, the interest you pay is tax-deductible. You can save as much as 35 cents in taxes for every dollar you pay in interest. That means a 6% mortgage loan really costs as little as 3.9%. Why carry 18% credit cards, paying interest that is not tax-deductible, when you can instead carry a 6% mortgage with interest that is tax-deductible? Your mortgage is probably the cheapest money you can borrow, so it makes sense to get as much of it as you can.
Reason #5: Mortgage interest is tax-favorable.
Assume you have both a 6% mortgage and a 6% profit on your investments. The mortgage is deductible at your top tax bracket, but the investments are taxed as low as 15%. For someone in the 25% tax bracket, that means the mortgage costs them 4.5% while the investment nets them 5.1% after taxes. In other words, tax law makes it beneficial for you to maintain your mortgage.
Reason #6: Mortgage payments get easier over time.
[…] You might be struggling to make your mortgage payment at first, but over time you can expect your payments to become cheaper relative to your income - especially if yours is a fixed-rate loan. That way, your payment never rises, but your income does.
Reason #7: Mortgages let you sell without selling.
In time, you may well find that your home has grown substantially in value, and you may begin to worry that you might lose that equity if there’s a decline in real estate values. You don’t want to sell the house, which is the obvious way you can capture the value, but there is another answer: get a mortgage. By cashing out some of the equity, you essentially collect the value of the house in cash without actually having to sell the house.
Reason #8: Large mortgages let you invest more money more quickly.
Assume you own a house and want to buy a larger home. So you sell your old house and net $300,000. Now you’re ready to purchase a new $500,000 home. How much should you put down? Should you make a 10% down payment of $50,000? Or should you put down the entire $300,000 in proceeds from the sale of the old house?
Big mortgages mean small down payments. Small down payments mean you retain lots of cash that you can then invest.
Reason #9: Long-term mortgages let you create more wealth.
Do you merely want to eliminate your debt, or do you want to truly build wealth? Please realize that the former does not automatically result in the latter. Indeed, many people who are debt-free are also dead broke.
So, the real goal is to create wealth. You do that by adding as much money as you can to your savings and investments. And the best way to do that is to lower your monthly expenses. That’s why long-term loans are better than short-term loans: the longer the term, the lower your monthly payment. And the lower the payment, the more money you have left over that you can place into investments.
Reason #10: Mortgages give you greater liquidity and greater flexibility.
(Long story about Sam and Nick).
My Reaction
I’m not going to refute any of his overall points - they are mostly true but his main problem is that he tends to overgeneralize. Instead, I’ll just say that the basic premise of this argument is actually very simple. Essentially you are trying to perform an arbitrage - you wish to borrow money cheaply (mortgage), and you invest it at a higher rate (stocks), with the difference being your profit. This is very similar to what people do with 0% balance transfers and 5% savings accounts.
However, an important difference is that you don’t know what your investment returns will be, and the arbitrage gap is not definite. Edelman uses in his Sam/Nick story an assumed annual return of 8% after taxes. He doesn’t acknowledge that there is no investment product that Sam can buy that guarantees that (very optimistic) return. In reality, people invest in expensive mutual funds with varying returns, endure tax consequences from frequent trading, or attempt market timing with bad results. The market may return 8%, but the average person might only get 6% after all is said and done. Someone will do worse, others will do better. Of course, most people think they will do better…
As other have put it - If someone walked up to you an offered you a credit card with a 5% APR for life with no cash advance fees or other catches, would you use it to buy stocks? Say you expect 8% investment returns. Does that mean you’d even borrow money at 7.8%? There’s got to be some room for error.
If I had a 5% mortgage rate and had a lot of itemized deductions, I would be pretty comfortable not paying it off early - especially if I had not maxed out my contribution to tax-deferred accounts like 401ks yet. However, if I had a 6.5% mortgage rate and had lost my interest deduction due to the AMT, it would be a much closer call. In that case, I would probably treat paying it off like a bond.
Find more in Investing, Real Estate | 10/28/07, 5:08am | Trackback
October 28th, 2007 at 5:39 am
Let me think about this… I am going to listen to the guy who makes money off of mortgages as to whether I should keep my mortgage. Or I could cut his profits and pay off my house in seven to ten years leaving me with over $1000 per month to invest and enjoy. I don’t know about you guys but those building the mortgage guys work in are much larger than my house. I think I want to keep my money in my pocket.
October 28th, 2007 at 6:13 am
One item that always comes up in these discussions is that your mortgage payment never rises over time. True enough, but it seems never to be taken into consideration that all the other costs of owning a house do rise, in particular property taxes but also maintenance. (My furnace guy charges me more every year!) This fact is the main reason that your landlord raises your rent!
I am beginning to believe that, at least for a single person or a couple without children, it is not advantageous to own a home. As long as you are responsible with your investments, you can easily do as well financially without the hassle of maintenance. In addition, you are freer to move in search of a better-paying job if you don’t have to deal with selling your property.
October 28th, 2007 at 6:29 am
I find “Reason #7: Mortgages let you sell without selling” just plain stupid. Isn’t that how people end up upside down in their mortgages? Also, taking out another mortgage would just increase your monthly payments. I suppose you could put the equity in stock an pay more each month, but that’s too risky for me. And he also seems to assume that you are carrying credit card balances. Overall, it seems like an oversimplified risk geared at making people who never plan on paying anything off feel better. In my mind, it would make sense to pay your monthly payments at the beginning, taking the tax deduction. But as time goes on, that tax deduction drops as you pay more principal and less interest, you may get hit with the AMT because and your income (hopefully) rises, and your ability to increase your payments increases. At that point, it would make little sense to keep the mortgage.
October 28th, 2007 at 6:31 am
I don’t believe that Ric Edelman or the mymoneyblog make money off of mortgages (or more particularly - your mortgage) so your point here, Savingsfreak, is somewhat off base. Your post sounds like your entire personal financial management system is based on preventing some assumed “the man” from getting any of your money. I wish you the best of luck (and returns) with that strategy.
October 28th, 2007 at 7:02 am
Paying off a mortgage, after all other higher interest debts are clear, is an easy way to make a guaranteed return of 6-7%. Its interesting that Mr Edelman also advocates getting out of all mutual funds.
link
Edelman says to create more wealth through investments, reason #9. Since he excludes mutual funds does that mean he expects the average joe to leverage his money with a mortgage and become a stock trader?
The bottom line is that the system wants you to be in debt. As long as you owe someone money, you have no leverage and you will forever be a slave to your job.
October 28th, 2007 at 7:06 am
Good article. Though I am not sure that having a mortgage really helps that much if you are married. Yes you may be able to itemize some deductions and reduce your taxes, but by a little. For example if you pay $9000 in mortgage, $2K in property taxes, and have other miscellaneous deductions of $3K your total itemized deductions are $14K. If you take standard deduction, for a married couple comes out to $11K ($5.5K x2). So the amount saved is very minimal in taxes ($750-assuming 25%bracket-though usually it works out to be less once you calculate your AGI). And of course his biggest flawed presumption is that Houses always appreciate.
October 28th, 2007 at 7:11 am
Actually, the #1 reason to never pay off your mortgage is so you can pay more of your money to a bank and the guy who gives you the loan. You know, because we all have too much money laying around and it’s hard to find places to spend it.
October 28th, 2007 at 7:26 am
There is no tax benefit if you do not itemize.
October 28th, 2007 at 7:58 am
I have a 5.48% mortgage that is not tax deductible and a savings account paying 6% tax free (I’m in the UK) so I chose to pay more into the savings account than into the mortgage.
Now I’ve thought about it a bit more I think that since I can afford to pay the mortgage off over the term, and I get the benefit of the house, I’m planning on building up my investments rather than pay off the mortage early. When I get to the stage that my investments are worth more than the mortgage balance, I may decide to pay off the mortgage, particularly if that gives me non-monetary benefits (e.g. allowing me to travel more easily).
October 28th, 2007 at 8:07 am
So my wife and I have a very similar situation and want to know what you all would do given the current Real Estate Market.
Purchase Price 463000
Current Value ~495000 (optimistic)
Renovated the house for additional 180000
Mortage Terms 30 year Fixed @ 5.5%
Maxed out contributions to 401k, IRA (for both us)
Approximetly 25 years to retirement
No Bad Debt just minimal 0% Credit Card debt
So here’s the question…
Given the fact the that the reak estate market is slow and we need the value of the home to appreciate to 650000 to break even. Do we Prepay our Mortgage in this situation or do we take the money and invest in a Stocks via Brokerage account?
October 28th, 2007 at 8:25 am
The most important reason why you shouldn’t pay off your mortgage, is chances are your fixed interest rate is probably lower than the current level of inflation. Inflation helps debtors and destroys savers. Uncle sam is the biggest debtor of them all and inflation is his favorite tool. My father bought his house for 80,000 in 1984, its now worth 650,000. The house didn’t increase in value, its the same house, the value of money has decreased in value. And if you really think housing is a great investment just ask someone in Florida.
October 28th, 2007 at 8:28 am
I don’t know, I always thought the best thing to do is get your house paid off asap and live debt free since it’s such a huge barrier. I’m not too sold I’m sold on this article, i’d like to read more comments.
October 28th, 2007 at 8:47 am
plonkee has the right idea. The only time you should not pay off any debt is if you can invest the money at a better rate. In my case I have 2 mortgages 1 at 5.625% and 1 at 7.25%. I’m paying tons more in extra principle on the 7.25% mortgage because it’s hard to get an ROI of 7.25% on anything else with very little risk. I do believe I can get better than 5.625% on my money so I don’t pay any extra on that mortgage (and plus it wouldn’t make any sense to pay extra on a 5.625% loan when the 7.25% loan is still out there).
In short, don’t pay off a mortgage with a relatively low interest rate, pay off a mortgage with a high interest rate.
And my final thought:
Don’t get all caught up in tax deductible interest. If you want to lower your taxes by giving away money, give it to charity and not the mortgage company. When it comes to paying off mortgages, too many people get caught up in the tax deduction.
October 28th, 2007 at 8:56 am
Wow, don’t fall for this trap. Only in the United States.
October 28th, 2007 at 8:59 am
I’d rather pay it off early I don’t care what they say… But I don’t want to buy either way.
October 28th, 2007 at 9:03 am
There was a time when I considered moving around some assets and using the ongoing interest/dividends to pay off the mortgage. However, I decided to forgo the small arbing opportunity and instead pay off the mortgage — I likely gave up some money in returns, but paying off the mortgage was effectively a zero risk investment which nicely balanced my aggressive investments.
On the flip side, my mother is pondering some of these issues and I’ve advised her to not pay off her mortgage. In her particular case, when everything is considered, keeping her mortgage makes the most sense (and probably refi from 15 yrs back to 30 yrs to address some cashflow and avoid too much equity buildup in a illiquid asset).
I guess in the end what I dislike about the original article is the “never pay off” and gross generalizations. It’s not that simple and you have to weigh how the decision effects you short, medium and long term financially (including tax issues, cashflow, and equity buildup).
jeff
October 28th, 2007 at 9:08 am
One thing to keep in mind is CASH FLOW.
One’s mortgage can be a benefit, due to the details described above, but if one pays off the mortgage early it will improve their cash flow.
Furthermore, not all incomes rise over time.
What happens if one loses their job @ age 45? It is quite difficult to obtain comparable wages @ that age.
Also, children take quite a toll on one’s income.
To quote a co-worker, “…between rent, food, utilities, insurance, school, my son’s clothes, and all the other bills, the paycheck from the 15th is exhausted by the 19th….if I’m lucky.”
October 28th, 2007 at 9:08 am
Robert makes an excellent point there at the end.
There are SO many things wrong with that article, it’s all I can do not to vomit!
Points 4, 5, and 7-10 are all !@#$@#%^! (for lack of a better term)
NEVER……………NEVER……………NEVER give away a dollar just to get 35 cents of it back unless you absolutely HAVE TO!!!
There you are struggling to make the wisest investment you can by chipping away at fractions of a point of interest and then you find a way to justify giving away 65 cents of every dollar to some dillhole who tries to convince you it’s a “good idea”.
(Insert obligatory Pulp Fiction, Jules Winnfield-type cuss-fest, here)
Here’s my one and only rule for mortages………
Use a mortgage to buy a house……..when you can afford to, pay more to eliminate that debt early. If you want to play any games w/ your mortgage, do it at the tail end (last 5 years or so) when the interest deduction really isn’t doing jack shift for you anymore. Start putting the extra away in whatever investment vehicle you want……SO LONG AS YOU’VE ACCUMULATED ENOUGH LIQUID CASH AVAILABLE TO PAYOFF THE REMAINING MORTAGE AMOUNT AT ANY GIVEN TIME, SHOULD YOU SO CHOOSE!!!
October 28th, 2007 at 9:59 am
wow, this article sums up all that is wrong in mortgage-land. buy too much house, expect it to appreciate violently, and take out a HELOC whenever the itch for a new Hummer arises. yeesh.
October 28th, 2007 at 10:05 am
I’m baffled by #7. It sounds like he’s saying “ok, so, prices are high, and they might drop - how do you lock in those gains? take out a loan against your house, and now you have that cash, without even having sold!” But, what happens if you’re right, and the prices do now fall? The value of what you own has still fallen, just, now you have an unsecured loan, such that if you did want to move you wouldn’t even be able to cover the cost of selling? Huh? How could this possibly be a good idea? What am I missing, here?
October 28th, 2007 at 11:23 am
Hello. Edelman’s list is atrociously bad and most of the advice will make you poorer (but the mortgage brokers richer), as many commenters have identified. Mortgages are not special and follow normal finance rules about debt so the only potential benefit is the leverage/arbitrage but those circumstances are limited and riskier than a debt-payoff, as MMB and many others noted. My Housing Myths series offers detailed rebuttals to many of the list’s points (click name link if interested).
October 28th, 2007 at 11:57 am
I paid my house off in 5 years instead of 30, I saved over 180K…My house, now, has tripled in value…had I kept my mortgage, my house would have cost me so much more and the profit wouldn’t be so great if I were to sell it.
That article was painful to read.
October 28th, 2007 at 12:10 pm
Paying off your mortgage is not just a numbers question. It is also an emotional one.
If you look just at the numbers, assuming you invest the amount otherwise used for mortgage paydown, having a mortgage makes better sense. But, if you gain peace of mind by paying off your mortgage, then do it. Either way, you are positively improving your financial life. Saving or paying off the mortgage early is a positive.
October 28th, 2007 at 12:35 pm
I think Edelman is exactly right, with two exceptions: if you don’t have enough interest to itemize, or if you aren’t going to be living in your home long enough to ride out any fluctuations in the housing and stock market.
Most people don’t appreciate that, averaged over several decades, investing in equities is the most conservative choice compared with other investments. By this I mean that over several decades the probability that stocks don’t beat real estate, or other real assets, gets very, very small. On the other hand, averaged over several decades, housing has barely kept up with inflation.
So the argument that paying down your mortgage is a sure bet, while investing in the stock market is risky, becomes less and less true the longer your time horizon.
October 28th, 2007 at 1:11 pm
diane,
unless you had a variable rate mortgage or a very high fixed rate (perhaps you bought in the 1980s), your comment makes little sense. You took money that you would have used eventually for your mortgage and simply paid it off early, eliminating the interest expense that would have accumulated over 25 additional years. yes, that is a huge amount of interest. however, if your rate was lower than 7-8% fixed, you likely could have made more than 180,000 by investing that money elsewhere AND offsetting the mortgage interest with a tax deduction.
everybody argues the same two sides over and over again. its all preference. ask yourself: are you risk adverse or not? do you want to have no debt or do you want to have a lot of other investments besides your home? how old are you and what are your intentions? there is no right answer, but in my opinion, if you are paying down anything under a 6% fixed rate mortgage at present time, you are not maximizing potential return on your money. disregarding any physcological argument you have with that statement, it is the cold hard accurate truth…
October 28th, 2007 at 1:18 pm
Assume you own a house and want to buy a larger home. So you sell your old house and net $300,000. Now you?re ready to purchase a new $500,000 home. How much should you put down? Should you make a 10% down payment of $50,000? Or should you put down the entire $300,000 in proceeds from the sale of the old house?
I have this running theory that bad questions will only serve to give you useless answers. These are 3 bad questions. None of the questions provide enough information to make any type of informed “non-knee jerk” reaction.
We need way more information: stage in life, aversion to risk, current income, job stability, potential for job growth, space needs, target “retirement” date, life goals… Clearly this guy’s questions are just useless rhetoric that simply don’t answer enough questions.
Again, you ask bad questions and you get bad answers.
As to specific points: #3 is just wrong. A mortgage seems like cheap money, but it’s not. Homes carry a heavy overhead percentage as well. You can’t just say Hey, my mortgage only costs 6%, so I’ll invest at 8%” b/c your house doesn’t just cost 6% that’s just your mortgage.
Reason #9 is also pretty obvious: more leverage == more possibility for wealth. Duh! clearly there are tons of options for this though.
Reason #10: mortgages may seem liquid, but they’re not liquid when you need them to be. You could be locked into a shitty housing market and unable to move b/c your house has depreciated and you can’t cover the difference. You could spend oodles of money in the first few years of a mortgage and end up with basically no equity paid down when the job market forces you to move 2 years later.
The rest of the stuff basically seems like taking additional risk and using the mortgage as leverage. So “get a mortgage b/c it can be easily used to accept even more risk”, seems to be the message here.
Sounds kind of dangerous.
October 28th, 2007 at 4:02 pm
The easiest way to do this correctly is to treat your mortgage like a bond. Then pick an asset allocation but instead of buying bonds pay off your mortgage.
October 28th, 2007 at 4:13 pm
I read Mr. Edelman’s books and I remember I found them amusing and helpful. Thanks for reminding us about him. I went and got myself in-line for his new book ‘The Lies About Money’ in my local library. LOL.. I was number 12th in-line for this book and the library has about 20 of this books checked out. It looks like people in Miami really want to read his book.
Personally, I got a 30-year mortgage last year and I am not paying it off… any time soon. It looks like I’ll be in this condo for a long, long, long time.. and I might never finish paying it.. LOL
October 28th, 2007 at 4:16 pm
I think Mr. Edelman simplifies too much. And like the blog author said, it comes down to arbitrage between the mortgage interest rate and the after-tax returns you feel confident in obtaining. I also have a problem with a #7, where he suggests to cash in on the value by taking out the equity loan, maybe I’m missing out on something here since I’m not a mortgage expert, but they way I see it is that you don’t really “gain” anything, you simply enlarge your mortgage when you do that.
October 28th, 2007 at 4:27 pm
This guy is 100% WRONG on reason number 7.
He suggests that you should take out a mortgage to capture the value if “you begin to worry that you might lose that equity if there?s a decline in real estate values”.
I’ve got news for you, if the value of your house goes down, your equity in the house is going to decline whether you owe $100 on your house or $100,000,000.
Further more, if you pull out more equity than your house is worth, you end up paying to sell your house, it’s that simple. Car sales men call this being upside down in your house.
The only good thing this article mentions is that a mortgage will be the cheapest money you’ll ever borrow.
-Grant
October 28th, 2007 at 5:23 pm
I just recently read Mr. Edleman’s book. Then donated it to my public library. Mr. Edleman’s advice comes from the experiences of his clients who have greater than half a million in net worth. And their home values are not a significant component of their net worth. After all we all gotta live somewhere, right? Mr. Edleman’s reasoning comes down to one thing, opportunity cost. What opportunities do you give up by having your money tied up in your house. Do you give up savings? Do you give up the opportunity to invest for greater returns? Houses are illiquid. The argument made by many financial planners that you can always just borrow out the equity should you need it just ain’t so.
October 28th, 2007 at 5:25 pm
Grant - student loans are pretty cheap too. Some folks who borrowed while interest rates were low have them locked in at 2-3%… some of that money is just outpacin inflation, some is actually dropping in value…
October 28th, 2007 at 5:30 pm
I bought a house a few years ago that I would be able to pay off early easily with my job at the time, or make the scheduled payments if I hit hard times. At 5.25 apr on the mortgage, I’ve been putting the extra ‘payments’ into high yield savings (FNBO), and recently moved that money to a 5.65 Countrywide CD.
If the feds keep cutting the rates to the point that I can’t guarantee a better return than my mortgage, I probably will put that money on the mortgage. On the other hand, I’ll also try to wait it out for a short time, just in case Greenspan is right about double-digit rates in the near future.
October 28th, 2007 at 5:57 pm
I think he makes a few interesting statements, but none that would sway me to his beliefs. He makes a lot of assumptions that are just that - assumptions.
He assumes people have the discipline to invest, he assumes they will earn 8% after taxes, he assumes mortgage interest deductions are applicable to everyone’s tax situation, etc.
In my opinion, paying off the mortgage early is ore beneficial because it gives you options you wouldn’t otherwise have. A coworker just paid his mortgage off; now his wife is a stay at home mom because they do not need 2 incomes. That is worth much more that a potential tax deduction and a debt hanging on your shoulders for life.
Nice debate in the comments.
October 28th, 2007 at 7:27 pm
Imagine my surprise upon seeing the headline to this story…two days after I made the final house payment! You might say I should not have paid it off what with a 4.875% 15 year loan, but I when I first bought 10 years ago…I had two roomates, and doubled up the payments every month (plus some)…then after I got married, we were DINKs for 5 years. Combo that with a bit of inheritance, and I’m all paid off! Now…what will i do with that extra $1500 per month…tough decision.
October 28th, 2007 at 8:55 pm
Cash is king… If I can get a great rate, sign me up for as big a mortgage as I can get.
Mortgages are for about 30 years. Interest rates are near 30 year lows. I like that math.
Heck, I dug up an old interest rate sliding chart (that computed amortization payments) from the 80’s and the lowest rate it had was 7.5%!
While the “arbitrage” may be low now, there are guaranteed rates of returns that are pretty darn close in things like Short Term Government bonds… In the future, the arbitrage rate may be much greater, even for investments at the future risk free rate. Rates can’t go down much, but there is a lot of potential for them to go up!
October 28th, 2007 at 9:15 pm
Diane, I’m glad to hear you did so well, but don’t confuse price appreciation with what is being discussed. As you stated:
“I paid my house off in 5 years instead of 30, I saved over 180K?My house, now, has tripled in value?had I kept my mortgage, my house would have cost me so much more and the profit wouldn?t be so great if I were to sell it.”
The income you made was because the house tripled in value, not because you paid off the loan early. If housing prices go up, leverage actually helps you, it doesn’t hurt you.
As a simple example, putting 10% down on a $100K house that then triples in value gives you a real return of 20x ($200K profit on an investment of $10K)
If you had bought that house outright, (paying off the $100K in the first year as an extreme example) you would have made 2x your money. ($200K profit on an investment of $100K).
I will take a 20x return over a 2x return any day and twice on Sundays!
The decision to pay off your loan early has EVERYTHING to do with the rate you are paying. Without mentioning what that was in your example, it is difficult to say if paying off your loan was a good financial move or a foolish one.
And to the person who said Rid Edelman makes money off mortgages so he is giving false info, I would counter that he probably makes a lot more money from his books by giving relatively good advice.
If you pick the five most relevant bullet points above, it is a much stronger argument… He is reaching on a few of them.
October 28th, 2007 at 10:06 pm
In my opinion, paying off the mortgage early is ore beneficial because it gives you options you wouldn?t otherwise have. A coworker just paid his mortgage off; now his wife is a stay at home mom because they do not need 2 incomes. That is worth much more that a potential tax deduction and a debt hanging on your shoulders for life.
Hey Patrick, talk about assumptions. I mean, unless their mortgage was really prohibitive, couldn’t they have just invested instead of paid down? They could have used interest from the investments to help supplement the second income.
But you are right about his incorrect assumptions.
I made a long post on this here, when we talked about paying down the mortgage early. Here’s a key point: the “effective interest” of the mortgage is not what you’re paying.
Take out 100k at 10% for 10 years and here’s what your actual interest looks like:
So in one direction, you’re actually paying less on your loan, however, in the other direction, you still need to maintain your home. That means repairs and property taxes and utility bills, which are not insignificant.
So Edelman’s model is simple: put money where it will be the most effective. But his math is poor, which doesn’t instill confidence.
October 29th, 2007 at 2:27 am
Gates VP: You have to pay utilities and property taxes and repairs and upkeep whether or not you pay down your mortgage or not. So that has nothing to do with discussions of effective interest rate / arbitrage issues.
October 29th, 2007 at 4:36 am
I believe it is the mortgage broker who recommended Edelman’s book to Jonathan who stands rightfully accused of making money off of mortgages. Although it would be surprising if Edelman does not also profit in some way, aside from sales of this book.
October 29th, 2007 at 5:33 am
It seems that it’s really more about opportunity cost. If the homeowner was very disciplined and could keep to his goal of investing the difference at a better rate, then on paper it all works out for the better.
The cold reality, and to validate what I’m saying, all you need to do is read all the latest articles about the average debt ridden American, is that people are pulling the money out of their houses and spending it on crap. Many, MANY of the people taking out large home equity loans are just giving in to their desires to consume, consume, consume.
So, it’s almost like you could write that article in two ways. One for the rare disciplined homeowner that would use the arbritrage to their advantage, and the other for the rest of the people in the country that spend more than they earn and are sucking the equity out of their houses to maintain a std of living. In the latter case, they absolutely should leave their home equity alone and just pay it down.
October 29th, 2007 at 7:29 am
Mortgage interest deduction is highly overrated, IMO. Did he say 35% or something? My experience (in roughly a 28% tax bracket) is that we make back about 15% of the interest, all things considered, because the standard deduction would have brought in a decent amount if we hadn’t iteminzed.
But, taking all the emotion out of this discussion, I’d still keep the mortgage. I’m sure paying off your house feels nice, but having an equal amount of money earning interest in an account is the same thing more or less. You can compare your precise situation, but generally, if you have a low mortgage rate (a good rate) it should compare pretty evenly with a good savings rate minus the interest deduction.
Having a mortgage isn’t wonderful, but it’s just another number to keep track of — the meaning is all in the way you you feel about it. When you think of the taxes and utilities and every other thing you pay for a house, you never “own” it free and clear. It’s always going to cost you something monthly.
But in the interest of simplicity, if I were to come into an amount equal to my mortgage, I would probably pay it off just so I wouldn’t have to remember to pay it every month. Convenience is King!
October 29th, 2007 at 7:40 am
You can’t put a price on the peace of mind of paying off your mortgage and living debt free.
October 29th, 2007 at 8:06 am
Oh boy, nothing gets the blood pumping like another pay/don’t pay debate on mortgages…
I’m definitely in the ‘don’t pay’ camp; I think that that the ‘pay now’ camp misunderstands us on a few points:
1. Those of us on the non-payment side aren’t talking about using the mortgage debt to buy a new hummer; we’re talking about using it for investment capital. Obviously, it depends on your interest rates, but a 10% annual return in a total market index fund off of what amounts to a 6% loan is a 4% net yield.
2. The main thing here is risk tolerance and discipline; obviously, the 10% return is not guaranteed. However, if we’re talking about a 30-year mortgage, we’re also talking about a 30-year investment time horizon, where the 10% return holds up pretty well. If you expecting to sell in 5 years, are not willing to risk your money on the market, or can’t trust yourself to invest the money instead of spending it, then the equation clearly changes in favor of less debt. If none of those things applies, though (and, for this blog’s self-selected readers, I suspect that they don’t), the mortgage essentially amounts to cheap investment capital.
3. Paying off the mortgage early actually makes you less secure, not more. Suppose you have $50k in savings, and $50k left in mortgage debt. If you pay off the mortgage early, you’ve now essentially tied up all your assets in the house, and have $0 in liquid assets. It’s true you no longer have to make payments, but if you lose your job, you still have to eat, and you can’t buy food with your house. If you don’t pay it off, your bills are higher, but you also have liquidity to pay them while you look for a new job. It essentially takes the same risk, and spreads it out over a longer time horizon.
October 29th, 2007 at 8:30 am
He sure makes a lot of assumptions in his article… never-ending home price appreciation, tax-deductible interest, “cashing out” the money and investing and earning higher returns (instead of possibly earning lower returns, or spending the money rather than investing it), and the fact that your income will always increase (what if you lose your job?)… he might as well just tell evertone to go interest only!
Never-ending appreciation is no guarantee… just ask Japan.
October 29th, 2007 at 9:12 am
paying off the mortgage means you don’t pay any more interest. So the interest is tax deductable, WOW!! If I can get to a place whare i DON’T pay interest, that’s less that I have to pay out in the first place.
Given the choice of paying $100,000 for a house or $300,000 for the same house (which is what I pay with my current mortgage), I’d choose $100,000 if possible.
October 29th, 2007 at 9:17 am
agree that low-interest mortgage is like bond.
my mortgage rate is 5.25%, and i dont take advantage of any mortgage interest deduction at all (house not in the hot cities)…
so, i’m using the $ to invest in stocks, so far i’m making an annualized return of 15% in the last few years for my retirement portfoios (diversified) and an annualized return of 100% for my taxable portfolio (emerging market).
October 29th, 2007 at 9:31 am
Maury,
I read Diane’s comments to mean that she saved $180K in interest charges by paying off early- not price appreciation.
Personally, I’m looking forward to being mortgage free.
October 29th, 2007 at 10:24 am
Reason no 8 is the dumbest one !!!
Yes, you can buy property with very little or no deposit, but of course you are going to have to pay more per month for the mortgage, and in the end you’ll end up paying more interest as well !!
October 29th, 2007 at 10:59 am
Wow!!
So your emerging market portfolio started w/ a zero balance & w/o any of your money has netted pure profit?? How many dollars???
(yes, sarcasm intended)
October 29th, 2007 at 11:14 am
I think these points are really valid. I probably draw the line at never paying off my mortgage. (Odds are we’ll pay it off in our 40s). BUT the thing I will never get is the whole paid off house/peace of mind thing. Granted living in a very pricey area my perspective is VERY different (for one: buying has always been much cheaper than renting here - all costs considered). But I don’t find anything warm and fuzzy about being rather illiquid and having a paid off $500k home. Eeks! Reason #10 rings much truer with me:
“Reason #10: Mortgages give you greater liquidity and greater flexibility.”
This is extra true in an area where both rents and housing costs are VERY high. I just feel much more warm and fuzzy having plenty of cash and investments for a rainy day, rather than no mortgage.
I’ve also always been very keenly aware of Reason #6: Mortgage payments get easier over time. This has been extra true for us as the same mortgage has gone down over time as we refied to lower and lower fixed interest rates. Our mortgage is already small beans compared to rents in the entire state and we have only been homeowners for 8 years. How will it feel in a decade? (This is something else that rings extra true in a high COL area. Rents rise much more rapidly than property taxes or housing maintenance here).
I see many of his points and find them to be a good reasons not prepay a dime on our mortgage today. But I think it really depends. It helps to be young, low interest rates, have significant equity, tax-sheltered investment opportunities galore, and so on. If we were older and the alternative was taxable investments, I am not sure I Would be so keen to hang on to a mortgage. Nor would I sleep well if I had less than 20% equity (to ride out market fluctuations). Which is why in our 40s with the only alternative being taxable investments, I expect we’ll pay off our mortgage. By that point in time it probably matters little much route we take. Our investment horizon will be singificant less, our mortgage loan significantly smaller, our tax benefits gone, etc. Could probably flip a coin at that point. & then might as well pay the sucker off…
I am not a risk taker at all and I find this to be the safest route. I think risk takers probably would fare much better to keep their mortgage. I am sure odds are they come out ahead. But they do take on risks as well.
October 29th, 2007 at 1:15 pm
plonkee, how about once you have enough to pay off your mortgage, then instead of paying it off in one lump sum, you just use that money to pay your mortgage payments. Then you have still freed up other money, but you also still have your other money earning higher returns (probably, over the long term, etc.) and it?s still available in case something else comes up that you want more than a paid-off house (without any more closing costs, etc.).
P. Lubinsky, your purchase price and renovation costs are sunk costs. And the future value of your house is irrelevant until you sell. You are right, if you sell now, you?re upside down.
What you should focus on now is how to earn the best returns, financial and/or psychological. If you think you can earn more with a brokerage account than you could save by paying off the mortgage, you might want to do that. If you think you will feel a lot better once the amount you owe gets lower than the value of the house, you might want to focus on pre-paying your mortgage. If you can?t decide, you can do some of each.
Three of these don?t really apply to me.
From #1: ?You?re buying your home because you think it will rise in value over time.? No, I?m buying it because I want to own it. One day it will be paid off. And already I have more freedom in making the space my own than I would with a rented unit.
#4: Mortgage interest is tax-deductable ? not really; I have a small mortgage. It only pays to itemize because I also have charitable contributions.
#7: Mortgages let you sell without selling. Maybe so, but you?re selling it to yourself, so then you have to pay yourself back, only all the interest goes to a bank. And every time you refinance, you have to pay closing costs, which makes the total cost of the loan higher than the rate.
October 29th, 2007 at 1:37 pm
Here’s the advice I took. The article is dated but the concept is still good! This is certainly thinking outside the box. And yes, I paid my mortgage off based on this 1999 article.Enjoy!
link
October 29th, 2007 at 2:20 pm
OK, here’s the thing: math doesn’t lie. Given that, IMO there is no debate beyond the following two facts: can you make more in equities with relative certainty given the time frame of your investment, and what are your psychological preferences.
1. Taking into account all tax deductions, calculate the effective rate of interest you pay on your mortgage. Then, depending on your time frame, choose an appropriate course of action:
a) If you’re in for the long term, compare your rate of interest with the average return on equities over the past 50 or so years. If you can earn a greater after tax return on equity investments (assuming investment in a taxable account), then you should invest in equities. Sure, you pay more in interest, but the difference between the return on investment of the equities and your home is positive meaning you acquire money more quickly than you pay down your home. This keeps you relatively liquid and flexible.
b) If you’re in it for, say, 10-15 years and your effective interest rate falls within 1.5 standard deviations of the average equity return or so, then maybe pursue a mixed strategy, ie put some in equities and some in “bonds” where your “bond” is your home mortgage. You will more than likely do better than strictly paying down your home due to superior returns on equities, but if the market has a protracted stagnation, then you have hedged by being a bit more conservative. This has the upside of maintaining some liquidity and flexibility while providing a hedge against a down market.
c) If you’re in for 5-10 years (or fewer) and your effective rate of interest is within 1 standard deviation of the average annual return of equities, then you are probably better off putting most of your excess cash into your home while still reserving a little, say 30-40%, for the sake of liquidity and flexibility. This way you have a mush safer and certain return in the short term to hedge against a down market.
In general, basic investment advice applies - if you’re in for the long term, go for a higher return with more risk, otherwise, take a somewhat lower return in exchange for greater certainty.
2. The psychological factor. If you are the type that loses sleep at night over having debt, or you are a compulsive spender that will burn all your excess money on junk rather than investing it, then certainly paying down the house is worth the increase in your psychological standard of living. I would NEVER question someone paying down the mortgage for this reason. However, it is important to realize that, while it may be the correct psychological decision, it is unlikely to be the correct mathematical decision.
October 29th, 2007 at 4:02 pm
I must say I agree with the notion of not prepaying the mortgage, although some of the reasons are silly.
I will never ever ever pay off my mortgage, nor will I ever put more than the minimal down payment on one.
The two main reasons are that the 5.75% rate I have pre-tax is SUPER and my $2,000 mortgage payment that I currently have will only really cost me 1,000 towards the end of my mortgage.
October 29th, 2007 at 5:31 pm
aditya above early on pointed this out perfectly
‘There is no tax benefit if you do not itemize’
Above is Mortgage Broker Shill #1
And here is a latter post
‘Can you make more in equities with relative certainty given the time frame of your investment, and what are your psychological preferences.’
…lot of what ifs there.
My point, there is no right or wrong. My vote is there is no wrong in payin down a mortgage. Keep it simple.
October 29th, 2007 at 5:37 pm
‘Mortgage interest deduction is highly overrated, IMO. ‘
Agreed.
Mortgage shill. Has been and always be.
October 29th, 2007 at 5:44 pm
Paul Says:
October 29th, 2007 at 7:40 am
You can?t put a price on the peace of mind of paying off your mortgage and living debt free.
I’ve seen this too. This Dave Ramsey approach too life is an excellent default financially. Stick with it. Get-R-Done. However, most with kids, house, moving jobs, etc. its as simple and worthless as the average potato.
…crap, I like Larry the Cable guy, my bad in context : (
October 29th, 2007 at 5:51 pm
‘aa Says:
October 29th, 2007 at 9:17 am
so, i?m using the $ to invest in stocks, so far i?m making an annualized return of 15% in the last few years for my retirement portfoios (diversified) and an annualized return of 100% for my taxable portfolio (emerging market).’
Wonderfull. ;/
Consider selling low versus high. Or better yet some less gloating AA strategy for long term sustainable cough* ‘retirement’ plan, as you put it. Keep buying EM, it will continue.
October 29th, 2007 at 6:46 pm
In the even of my death, I have instructed my wife to take part of my life insurance and pay off the house. Why? Because regardless of the economy, the stock market, world events…etc., she’ll always have a roof over her head.
I used to come down on the other side of this debate, but as a person who has a lot of his money tied up in the stock market, I think that the security that owning your own home brings is an important hedge against a potential world or national financial crisis.
October 29th, 2007 at 7:01 pm
Aw, c’mon. It’s a “devil’s advocate” piece, right?
Gimme a break!
The tax kickback is negligible unless you own a zillion-dollar house. For working poor and middle-class homeowners (interesting how those two categories seem to be converging, eh?), it’s almost irrelevant.
“Reason #1: Your mortgage doesn?t affect your home?s value.” Huh? What’s this guy sniffing?
I took out a $25,000 mortgage on my paid-off house to finance renovations on another house my son & I copurchased as an investment. If tomorrow I sell my house for, say, $325,000, the amount that goes into my pocket is $300,000. This doesn’t affect my home’s value? I can’t buy a comparable house for $300,000, not in this part of the country. If I move to a cheaper area, I might buy something more or less comparable for that amount, but lo! there’s 25 grand I don’t have to invest in mutual funds. How exactly does this NOT affect my home’s value?
Can this guy not spell “cash flow”?
Lordie! My breath having been taken away, I will refrain from yakking further.
October 29th, 2007 at 9:50 pm
Maury, u must have failed high school math.
if u put only $10,000 on a $100k house and the house becomes 200k, u dont make $200K (20X). you still owe money to the bank. Probably more than $100K (meaning ur profit is less than $100K)
If u paid of ur house at $100K and house becomes $200K, u make $100K (give or take)
October 29th, 2007 at 9:53 pm
maury, would u rather give a bank $1 and they u back $10 in 5 years (10x) OR u give $100K and get back $900K (9X)
I guess u might still go for the 10X.
October 30th, 2007 at 6:47 am
Al,
That’s a great link.
And after writing down my top 5 values in a recent excercise, I realized that FAMILY and SECURITY were numbers 1 and 2 on my list. This means getting rid of my mortgage is in line with my values, which means it’s the right choice for me. If becoming a millionaire is more important than your family’s security, then minimum mortgage payments are for you! Invest away!
October 30th, 2007 at 8:40 am
Obviously always a heated point of contention. I agree with Jon that it all really comes down to an arbitrage. To say one answer is always the best is just simply not true. A home is most peoples single largest investment they will ever make, and historically, it is a rather good one. You need a place to live, so you’re either going to pay rent one one hand or interest, taxes, insurance, and upkeep on the other. Looking back long term at real estate, you can see about a 3-5% return. This is somewhat misleading though, because the rules for home ownership as well as world events across the last 100 years have changed dramatically the potential for investment return. Therefore, its impossible to determine what rate of return to expect on the home itself. You must then concentrate on the mortgage rate vs. the value of the money being borrowed. IMO, the best mortgage to get for most people would be a 15 year fixed rate with 20% down. This will be pretty much the cheapest rate you can get on ANY loan EVER (besides federally subsidized student loans, mine being 2.5% fixed). The 20% down will mean that your not wasting money on PMI, and will also get you a low rate. I wouldn’t be putting any extra money towards this mortgage until you have the following:
1) At least a high deductible medical insurance.
2) Emergency fund with 6 months of expenses.
3) Long term disability insurance @ 60-80% of your salary.
4) Term life insurance on each spouse (if married) @ 10 X their salary.
2) 401K contribution up to the employers match.
3) Max out a ROTH IRA.
4) Max out your Traditional IRA.
Once these goals are fulfilled, then I would say its up to the individual to consider the risk/reward of paying off the mortgage vs. investing based on the expected arbitrage.
October 30th, 2007 at 8:53 am
As a follow up, home ownership is often viewed as a hedge against inflation. Your home’s value will not actually increase over the long term, the price will generally match the rate of inflation over a lifetime. Of course, in the short term your return will fluctuate depending on market forces at the time of buying/selling. Since you have such a large hedge against inflation in your home, most people would benefit from using a mortgage to divest your hedge into the stock market. I believe that 20-50% of your homes value could do much better if dropped into an indexed ETF or mutual fund over at least 5 years. Again, this all depends on your arbitrage taking into account tax advantages, as I would think it’s generally safe to assume a 7-12% return on such an investment over at least 5 years.
October 30th, 2007 at 9:47 am
Good discussion !
My take is .. when in doubt sell/buy half. There are obviuosly reasons for both arguments, pay or not-to-prepay; unlike an 401K where there is no doubt that one MUST contribute ; for this topic there are people on both sides of the fence and each side says “Their side is greener ! “
I am paying additional $500 for Mortgage; but at the same time puting $1800 into Mutual funds / month, I can pay more for the Mortgage (but also like to keep some liquid cash) ; that way I know after one yr my priciple will be down by 6k and if the stock market does good, I might make some there as well. So not sure what is best, no crystal ball here ; but trying to do a little of all.
October 30th, 2007 at 9:55 am
Anyway for the number crunching guys, check out the pre-pay vs investment calc:
http://www.mortgagecalc.com/pr.....invest.php
October 30th, 2007 at 9:26 pm
I remember this story. Before the subprime meltdown there were several “mortgage planning” companies that were citing it as a reason to refi to an interest only or option arm loan and invest the difference with them via annuities that they sold.
The article was interesting, but I thought the strategy was better suited for someone with a lot of liquid cash and a high income as opposed to someone of modest means like myself. Looks like I was right.
October 31st, 2007 at 8:20 am
Whether to devote all resources to paying down your mortgage vs. investment / HELOC equity pull-out seems to fall into the “what is your personal RISK/REWARD tolerance?” Balanced investing / debt / cash flow management / savings to handle unexpected expenses all need to be weighed rather than absolutes - Never pay off / Never invest in gold / never buy mutual funds / … don’t we each need to find the balance which suits our financial situation. I find Top Ten reasons for doing anything helpful but as can be seen in the comments above - no one approach is universal.
November 1st, 2007 at 3:14 am
Maury, u must have failed high school math.
if u put only $10,000 on a $100k house and the house becomes 200k, u dont make $200K (20X). you still owe money to the bank. Probably more than $100K (meaning ur profit is less than $100K)
If u paid of ur house at $100K and house becomes $200K, u make $100K (give or take)
nonymouse, u must have failed reading? Maury said a $100k house that “tripled” in value to $300k, not $200k.
November 1st, 2007 at 3:03 pm
“Indeed, many people who are debt-free are also dead broke.” Nice sweeping generalization, and totally daft.
November 2nd, 2007 at 9:01 am
#1 may be true unless you flip flop on your mortgage and get to the point where you have negative equity, a common occurrence now as home prices start to fall. Sure you may build equity in the future, but it may be too late.
Paying down your mortgage can actually lower your loan-to-value which will entitle you to a lower interest rate if you choose to refinance. It will also enable you to refinance assuming you didn’t have a enough equity to do so prior, and open the door to a wider array of loan programs.
November 3rd, 2007 at 9:00 am
Everybody I know who has bought a house in Phoenix in the last two years is now underwater with their mortgages. Edelman’s advice doesn’t work in a down market when you need to move!
Click my name for a nice graphical chart depicting what’s happening to recent followers of Edelman’s advice in Phoenix.
November 3rd, 2007 at 2:01 pm
One point that no one raised (at least from my skimming of the above posts) is that possibly banks will be less likely to foreclose on a house that is completely mortgaged (ie- all of the equity is cashed out). I have heard this suggested, and don’t know if it’s true, but it makes sense if you think about it. If I have a 300k house and have not payed down the principle, the bank will be more willing to work with me, because otherwise they have to foreclose and then try to sell my house in a flooded market. They lose money. But if I have diligently paid in extra every month, and now I only owe 150k on the house, I think they will be more than happy to keep that 150k that I’ve paid them and also take the house and try to sell it. Even if they sell at a bargain, they still made good money. Not at all suggesting anyone default on their loan, but if something happened and you were in hot water, I suppose it would be a decent bargaining chip.
One other point is that invested money can potentially be much more liquid than money paid into the house. If I pay double every month but then I lose my job and my emergency fund starts to dry up, I can’t call up the bank and say “Look guys, I’ve made double payments every month for years. Can’t you just cut me a break?” That won’t fly.
Of course, finding the risk free, liquid investment that provides arbitrage is tough. And the emotional factor is the ultimate deciding factor. One of my coworkers can’t bring herself to do 0% BT arbitrage because of the negative feeling of “being in debt”. In the end you have to be comfortable with your financial strategies.
November 6th, 2007 at 8:23 am
You mean to tell me that its better to give the bank an extra $100-$200k in interest over the life of a mortgage versus paying extra and reducing the life of the loan by 7 to 15years thus allowing you to give yourself an extra $1000+ per month back into your pocket? Wouldnt you be better off not having to worry about paying “rent” to a bank for money to the tune of up to 3 times the amount you borrowed over the life of the loan, and actually OWN the home and place the amount of the mortgage back into your account every month… just to get a few hundred dollars back every year from a tax return?? this is the same logic as someone who just gives up and states that you will always have a car payment… with cars lasting as long as they do, its better to buy a car 2-4 years old and driving it until the wheels fall off, for a toyota corola that cost me $2k 4 years ago and still runs strong after having 200k miles, while doing no more than spending $400 in tires, oil changes and a battery, having no car payment and a good reliable car and saving $300 per month over 4-5 years … $18k versus $2k is a difference of 16k that I didnt spend…. paying off a mortgage 10 years early with a payment of $1k per month would give a return of having $120k in your pocket!! (if you saved the $1000 per month for 10 years, not including any interest earned) Logic like what the author is stating is what keeps people under the banks with a gun in your mouth, just waiting for you to loose your job or have a medical emergency to disrupt your income and then take your house after 3 months?? trust me, the banks are not your friends, and believe me they will not be too concerned about helping you out much should this situation occur… owning is always better than renting money from a bank!! Im sure most people would rather spend 2 months of a mortgage payment on a vacation, home improvement, and have the other 10 months in a savings account or investment, rather than paying rent on a $150k mortgage…
November 14th, 2007 at 5:13 am
I too would like to pay off my mortgage regardless of what the tax incentives are. Nothing beats being debt free. I want the money off my bag.
November 15th, 2007 at 12:17 pm
If you were lucky and/or smart, what you could have done during the height of the easier mortgages is lock yourself into a low rate forever. I was able to find a mortgage of 5.4% locked for 25 years! At that rate, there’s no chance I’ll ever pay any mortgage off completely. Just looking at inflation, the difference is negligible. And that’s not even counting what I can do with the money in the meantime!
November 21st, 2007 at 8:23 am
The average person knows that the only way to even have a shot at retirement is to pay off your house.
My house is now paid off and yeah, I’d much rather go back to a time when I lived from paycheck to paycheck (insert eye roll). Now I never worry about money and can retire when I want.
It is always brokers and professionals who think you should never pay off a home loan. Of course, these people want your money whether to invest or have a mortagage so THEY can make money.
November 21st, 2007 at 2:50 pm
Tammy: The average person knows that the only way to even have a shot at retirement is to pay off your house.
This comment has so many things wrong with it, I don’t where to start.
Clearly, not owning a house in the first place seems like a good cost-saving measure to help fund a retirement (unless you live in one of those rare places where renting is significantly more expensive). You know that whole “rent and save the difference” deal.
Also, the “average person” has a family, so unless they sell the house before retirement, they’re going to retire in a home that’s far too big for them. If you’re already an empty-nester, then quickly paying down an over-sized house is definitely not the answer. Sell the house to pay off the mortgage and move in to a lower-cost rental suite and then invest the difference. You’re planning on living off of retirement money, might as well get that money.
I could attack your comment from 3 or 4 other angles, but that’s clearly pointless.
November 21st, 2007 at 3:21 pm
I understand the criticisms and the risks of not paying off a mortgage. But really, guys, it’s simple math. If you can safely invest/save the extra money instead of paying down the principle AND earn a overall return on investment greater than the interest you pay on the mortgage, then it makes financial sense to not pay. It’s arbitrage. Of course, if you don’t have the discipline, don’t do it (and steer clear of the 0% balance transfer game). I think Tammy is right that banks LOVE having people pay forever, whether the debtor is making money or not doesn’t matter to them…they ARE making money either way. And again, the emotional factor is very important. Overall, I think most people will have a pretty hard time finding an investment that (with all tax considerations accounted for) will SAFELY cause an overall INCREASE in net worth. But my APR is locked at 5%. When FNBO was paying 6%, it would have made sense to save extra rather than pay the mortgage down. When the numbers add up, vague statements about how it’s next to impossible to retire without paying off a house don’t make too much sense to me.
November 23rd, 2007 at 12:07 pm
Pretty simple in that when you retire your income is cut in half and you may have to pay your medical insurance. Getting rid of monthly mortgage debt makes the outlook much sweeter.
December 18th, 2007 at 1:49 pm
I’d rather pay myself than pay interest to the bank for 30 years! That’s why I paid-off my mortgage early, and used the payment I would have been making to the bank for MY benefit…
Add your payments (principal and interest) over the life of the loan and see what your house really cost; then see if you have made any equity!
January 16th, 2008 at 4:14 pm
Let me see if I have this right…I can pay off my house and have no money but my house is paid free and clear..Great!..now I have a big pile of bricks and mortar that I can live in and say “look at me, I live in a house that I own”…or, I can get a mortgage, take a big pile of CASH and stick it in the bank (mutual funds, stocks, bonds, football bets, whatever) and STILL live in the house….hmmm…maybe I’m just GREEDY, but I think I’ll take the house AND the cash…besides, I’ve always been told that you never buy a house because you need a place to live..that’s what they have apartments for..C’mon, guys, this is a simple one…you ALWAYS keep back a mortgage, as long as the capital is put to work earning more money and not blown on Hummers and hookers…(redundant).
January 21st, 2008 at 11:47 am
Steve 1/16/08…you are on the right path!
While I don’t agree with all of Edelman’s advice, in general I agree with him that many people are WAY too uptight about “paying off the mortgage.”
I know people, just as some who’ve posted here, who love to brag about all the EXTRA money they pay towards principal on the mortgage. My question: WHY, WHY, WHY!?? You GAIN NOTHING, except an OPPORTUNITY COST.
I love asking them, “so what will you do if you get in a bind from an injury, job loss, etc. that keeps you from paying your monthly payment?” Now, some of you are going to yell, “Tap my emergency fund.” Okay, now let’s be realistic, okay? Anyone who lives in the real world knows that in CA, it’s not all that easy to build up a fund more than 2-3 months worth…IF THAT. I love when you yokels from the South or Midwest where a home costs $95K yell about your damn emergency fund. Good, great for you…now come do it in CA.
Anyway, some people answer they’ll tap their equity from the HELOC they opened. Yeah, okay, plausible…but then you still have to repay that, with interest. Then the people who never even thought about a HELOC, say “then now I’d open one (HELOC).” Well, did you forget you’re injured? Almost any secured loan is not REALLY secured by the underlying asset…it’s secured by YOUR ABILITY TO REPAY. No job or ability to repay, NO HELOC!! So you paid all this extra principal, and now you’re in a position where you are willing to PAY INTEREST TO GET BACK THE MONEY YOU VOLUNTARILY GAVE UP!!
And want things to get really nasty? What if you’re like some people I know right now, who bought within the past few years, and due to DEPRECIATION they have NO EQUITY. Oh great, you made extra payments, so now your negative equity is slightly less.
So now, wouldn’t it have been better to put that money to work ELSEWHERE? Hell, I don’t care if you considered the stock market too risky and put the money in a simple savings account. If you did that with a bank like Emigrant Direct or ING, you would’ve at least been making 4%-5%, even higher when rates were up the past couple yrs.
So while you “pay more” people like to crow about the “guaranteed return = to rate on mortgage” on the extra payments, that doesn’t do you a damn bit of good when things go south. Thanks, I’ll settle for a slightly less return on a safe and LIQUID “investment.” Oh, and when I NEED that money, I don’t have to QUALIFY and PAY INTEREST to get back MY MONEY.
Sheesh.
February 12th, 2008 at 12:43 pm
Steve… I like your “big pile of cash” concept. “I can get a mortgage, take a big pile of CASH and stick it in the bank (mutual funds, stocks, bonds, football bets, whatever) and STILL live in the house… I think I’ll take the house AND the cash”.
And you will get this big pile of cash by paying a big, fat mortgage each month? Where does the big pile of cash come from to invest? Maybe the bank loans you investment money. I like it.
February 12th, 2008 at 3:08 pm
As a matter of fact, yes, the bank DOES loan me investment money…that is exactly what I’m taking about…If I have a choice of owning a house free and clear or having a mortgage and a pile of cash to invest, I will choose the latter option everytime…now, if I need money to borrow just to buy the house in the first place, that’s a whole different story…I’m taking about people who are trying to make the decision of paying off or not…let me put it another way…let’s just say I have a house that I owe $250,000 on and I have that amount on hand and can pay off the house…I would NOT pay off the house, rather I would continue making the monthly payments, whatever that is (a couple of grand or so per month) and invest my $250,000 in other smart, well advised investment vehicles…my $250,000 should earn enough to pay the mortgage and put some profit back into the mix…does that make sense to you now?? Of course if you can’t afford to do that, maybe you should consider just renting..I don’t mean that as a put down–I mean that is a very viable option for some people..alot of folks buy houses for the wrong reasons when renting makes more sense…like older retirees..renting is smart for them..or young people starting careers…but think of someone who has been in their home for 20 years and they are getting ready to make the last monthly payment…it might be better for them to refinance, get a “big pile of cash” and INVEST IT!
February 17th, 2008 at 8:18 pm
hey look here….In response too this article and the idea of not owning my home without the bank holding the deed hostage, In words of a great woman named Flo….. KISS MY GRITS! I have til April 2009 my home mortage will be paid off. I am not going to let bankers and investors get rich off of me anymore than I have too. That is my way of getting in control of what I work hard for and I am getting too old to continue playing their game of monopoly.
February 18th, 2008 at 9:05 am
Wow, in less than one hundred words you managed to totally expose yourself as the financial moron that you are. Just being able to formulate a sentence that says “I am not going to let bankers and investors get rich off of me anymore than I have too (sic)” shows me just what kind of individual you are. Let me give it a try and you tell me how close I am:
1. You work at “the mill”, “the plant”, or “the shop” for an hourly wage and you really aren’t doing all that well.
2. You don’t have very much formal education.
3. You live within a fifty mile radius or so of where you were born, and you haven’t traveled very much at all, unless you count military service or you are an over-the-road trucker, in which case you are NEVER home so why bother.
3. You actually believe that by making an unsound financial decision and being less successful than you could be will somehow “spite” those lousy “investors” and put you in control..hmmm..good thinking!
4. You really think life is a zero sum game like Monopoly where there are winners and losers instead of realizing that everyone can be a winner. You think like a democrat. You believe that equality is everyone being at a low level instead of thinking like a Republican and a capitalist and going out and being an active participant in your own success.
5. You are old and you have lost, as you state yourself in your closing sentence, yet you think that people that get it and know how to use the system to become financially independent are somehow “evil”.
So, how close am I? I’m sure I’ve pissed off a few of you out there. But thats okay..you just continue working until your dead, and hope for a little social security someday when you are about 90 or you can get going financially and get smart. Heck, I haven’t even turned fifty yet and I’m already retired. You use phrases like “work hard” and “getting too old”…and I’m planning my next cruise…you tell me now who is doing it right!
February 18th, 2008 at 9:06 pm
i think everyone has made some interesting points but we all need to keep in mind that this is very case-specific.
case 1 - i live in California and my wife and i bought a condo in the mid-400s last year. a condo, not a single family home. we will more than likely not live here for more than 8 years. while paying extra would build up some more equity (as long as the market doesn’t implode), but we will not realistically live here long enough to pay it off.
case 2 - my sister and her husband just built a house on their land in Texas for 140k. they are in it for the long haul and believe that they will live there for the rest of their lives. if that were me, i’d split my excess money between building my savings and paying that place down ASAP to avoid the interest since they believe they will be there beyond the end of the mortgage.
February 22nd, 2008 at 8:36 am
I have been contemplating paying off my mortgage-which is 120k on a house worth about 185K. I would have to liquidate all my mutual funds to accomplish this–something that gives me pause.
But on the upside, I would have about 750 extra dollars a month that now goes to the bank. Seems like there are pros and cons to doing this. The biggest pro is extra money at the end of the month and saving over 100 thousand dollars in interest payments. The down is that I won’t make any money in the stockmarket since all that money will go towards the house.
February 26th, 2008 at 8:29 pm
“bubble” people welcome back to earth. The “normal” people are waiting for houseing prices to drop 30%
March 8th, 2008 at 7:08 pm
If you are interested in the ‘never-pay-off’ approach, look into Equity Index Universal Life. Actually, either way you approach your mortgage, it’s a tax shelter that you might want to consider. And no, I am not an insurance salesman, nor a mortgage broker!
March 18th, 2008 at 4:07 am
[…] Conclusions So Far Before even considering these programs, you have to ask yourself if you really do want to pay off your home early. That is a separate argument, and there are several arguments against it. […]
March 22nd, 2008 at 9:19 pm
I’m just a regular guy who started a company 5 years ago in my basement, and sold it 2 weeks ago for $30M. I controlled only 25% of the total and after taxes I’ll net about $4M. I just turned 30 last week, my wife is pregnant with my first born child (a girl) and we live in a $550,000 house.
Should I pay off the mortgage or not?