Author Topic: Allocating Our Savings - How Much Towards the Mortgage?  (Read 3754 times)

Mississippi Mudstache

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Allocating Our Savings - How Much Towards the Mortgage?
« on: September 05, 2013, 11:27:57 PM »
My wife and I have just reached a major milestone Ė today we retire all of our debt with the exception of the mortgage on our home. At one point, just 2 Ĺ short years ago, we owed $38,000 in student loans, $25,000 in vehicle loans, plus we had $270,000 tied up in two houses Ė one that I lived in prior to marriage (~$40,000 underwater), and another house that we had just moved into (and due to the terms of the loan, I immediately became $10,000 underwater in this home the moment I closed on it). Iím still puzzled as to why the hell the bank actually gave us the loan for our current house, but even more puzzled why I thought it was a good idea to buy another house with 0% down instead of renting. FWIW, I earn ~65,000/year and my wife is a stay-at-home-mom.

Anyway, thatís water under the bridge. After much wringing of hands and gnashing of teeth and a couple years of fairly badass frugality (if I do say so myself), our only debt left is $131,000 on our current home. Unfortunately, I am pretty certain that we are still underwater by about $5,000 or so on this house, as the housing market here was never severely affected by the recession, and home prices have not changed much since we purchased.

So, that is where you all come in. We will now have about $2500/month in savings that I need to allocate, and Iím thinking of paying down pretty heavily on our house as well as funding some retirement accounts.

The nitty-gritty on our mortgage:
Outstanding balance: $131,000
Rate: 5.125%
Monthly payment: $956...

Breaks out as:
Escrow: $211
Interest: $563
Principal: $225

Other details:
-I currently kick in an extra $44/mo on the payment to make it an even $1000
-Escrow used to be about $50/mo cheaper, but our insurance rates skyrocketed after a $12,000 hail damage claim this spring
-Thereís no way for me to re-finance at a lower interest rate; my credit was damaged pretty badly before we were finally able to get our finances in order. I do itemize my taxes, so the effective interest rate is almost a point lower.

It makes me very nervous to think that I may still be underwater on my house after paying on it for 2 Ĺ years (especially considering that it has not depreciated). I would feel a lot better if I had at least 10-20% equity in the house, since there is a very real possibility that my company will ask me to relocate in the not-too-distant future. So to that effect, Iím thinking of bumping up my mortgage payment to $2000/month, which would give me 10% equity within a year, and 20% equity in less than two.

I would still be maxing out my 401(k) + 3% company match, and I would be maxing out my HSA as well. The only thing that makes me nervous, I guess, is the idea that I would be putting money in the home that I canít get out without selling it. Obviously a home equity line of credit is not in the cards for us any time soon. But I feel like I should have put down 20% to begin with, and itís hard to turn down a guaranteed ~4.25% return on my money, with no prospects of earning that kind of risk-free return anywhere else. We will probably rent for a couple of years if we move, but after that we would like to buy another house, so I don't want to tie up to much money that we will need in the next 5 years in retirement accounts or in volatile investments (like stocks). Bonds may not be much better, given the risk that the principal will shrink if interest rates rise.

Iím just putting my thoughts out there to see if thereís any aspect that Iím overlooking, I suppose. My reasoning feels pretty sound after putting it all our there, but I'm sure someone will think of something I haven't thought of. Thanks in advance.

gooki

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Re: Allocating Our Savings - How Much Towards the Mortgage?
« Reply #1 on: September 06, 2013, 01:06:32 AM »
At over 5% I'd pay the mortgage off.

tomsang

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Re: Allocating Our Savings - How Much Towards the Mortgage?
« Reply #2 on: September 06, 2013, 07:27:25 AM »
If you are worried about your job security I would make sure that I had a lot of money invested outside of my home that I have access to if you need to move, be out of a job, or anything else.

You are already in this situation of owning a home with no down payment. Paying the mortgage down faster does not fix the fact that you bought a house when you may not live in it long enough to improve your net worth.

I would stay flexible by maximizing my investments.

Another Reader

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Re: Allocating Our Savings - How Much Towards the Mortgage?
« Reply #3 on: September 06, 2013, 08:09:28 AM »
+1 to tomsang.  Your company may require you to move.  If so, short-sell the house and move on.  In the meantime, bulk up your retirement accounts and your savings.  Max out both IRA's for $11,000 (assuming you both are under 50).  Maybe by the time you move you will have accumulated enough cash in savings to avoid the short sale.  Rent for a couple of years in the new location and then buy if it appears to be a permanent move.  Put the savings away for the down payment while you rent.

Having money in savings allows you the flexibility to make decisions in your best interest.  Savings provide a safety net that your house can't.  If the housing market goes down, you will lose the equity you have been pouring in.  Money saved is yours no matter what happens to the house.

Mississippi Mudstache

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Re: Allocating Our Savings - How Much Towards the Mortgage?
« Reply #4 on: September 06, 2013, 08:57:23 AM »
Your company may require you to move.  If so, short-sell the house and move on.

Ah, if only it were that simple. I've just recently been through a short sale (actually a loan cancellation, but similar process: I gave the house to the bank, they canceled the mortgage) with the home that I was $40,000 underwater in. That's why my credit score will suck for the forseeable future. It was a stressful, excruciating, 1 1/2-year process. The only reason it was even an option was because we had so many other debts (student loans, cars, plus medical bills from having two children). Now that our financial house is in order, a short sale is simply not an option. If there is any deficit when we sell this house, we will have to pay it. Trust me on this one.

That is basically why I am approaching the savings dilemma in this way. From my perspective, putting money towards the mortgage amounts to a 4.25% return on every extra dime that I pay (after factoring in the mortgage interest write-off that is "lost"). The biggest risk that I face, as far as I can tell, is that we do have to move, and that the home takes a long time to sell, tying up our equity for that much longer. However, that seems no riskier than placing the money into an IRA, where the money is tied up for much longer. There is less risk of lost liquidity by placing the money in a taxable account, but then I have the burden of finding short- to moderate-term investments that will beat the return I get from the mortgage payoff after taxes are accounted for.

I do appreciate the thoughts, and basically the reason I am putting this out there is because I WANT my logic to be assailed from every possible angle. I have made plenty of financial decisions that I regret, and I don't want this to be another.

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Re: Allocating Our Savings - How Much Towards the Mortgage?
« Reply #5 on: September 06, 2013, 09:17:37 AM »
It's only a 4.25 percent return if values are stable or increasing.  What do you think will happen to the value of this property when mortgage interest rates are 6 percent?  In your shoes, there is no way I would put another dime in this property to build up equity that could disappear.  I would put the money in savings and look to avoid a short sale if I have to move as a way of protecting myself.  If values go up, great.  If values go down, I would look at ways of short selling or mailing the keys to the bank when it was time to move. 

Mississippi Mudstache

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Re: Allocating Our Savings - How Much Towards the Mortgage?
« Reply #6 on: September 06, 2013, 10:10:21 AM »
I know what you're saying, but suppose the market goes down, and I've been putting my money in (let's just say) a risk-free savings account earning 0.75% interest. I still have to cover the difference when I sell the house, so it's essentially a wash, minus the 3.5% interest I lost by having my money earning less.

Mississippi is a recourse state. A short sale or "mailing the keys to the bank" will not be an option for me when we move, given my financial circumstances. I will be liable for the difference. You have to trust me on this, I've just been through the whole process. Things are not the same as they were 5 years ago.

matchewed

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Re: Allocating Our Savings - How Much Towards the Mortgage?
« Reply #7 on: September 06, 2013, 10:22:05 AM »
So you're not really looking for advice then. You're convinced that having the money tied up in your mortgage pay off is better for you than having it liquid in an admittedly uncertain future.

Mississippi Mudstache

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Re: Allocating Our Savings - How Much Towards the Mortgage?
« Reply #8 on: September 06, 2013, 10:43:19 AM »
No, my apologies if I seem overly defensive. I'm just trying to eliminate the assumption that I can simply mail the keys back to the bank and get off scott-free if my mortgage is upside-down. That's not how it works. Unless I'm willing to assume a shitload more debt prior to moving, it is not an option (and I'm not willing).

That's all. If there are compelling reasons that I should keep my funds liquid based on the assumption that I will be liable for any deficiency, then I am interested to hear them. I just don't want to make decisions based on what I know to be faulty assumptions.

Mississippi Mudstache

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Re: Allocating Our Savings - How Much Towards the Mortgage?
« Reply #9 on: September 06, 2013, 11:25:38 AM »
Okay, I just ran some numbers that pretty much convince me that I was wrong. If I put $1000/mo into my savings account at 0.75% interest, after one year that account will hold $12041. If I take the same money and apply it to my mortgage, I will have increased my equity by $12237. I'm not sure if I can put a numerical value on loss of liquidity, but I'm certain it would be less than $200. Even if I extend my timeline to 2 years, I'm only looking at a difference of $830. A big difference, but not huge. I think I'm just going to play it safe and keep the money in a savings account for the first year. I can always re-evaluate at a later time, but I can't get the money back from the mortgage company once I send it to them.

I think my hang-up on this is that I'm so used to being in debt. I had student loans, a truck payment, and a mortgage within 15 days of graduating from college 5 years ago, so every windfall I've received for the last 5 years has gone straight to whatever debt has the highest interest payment. It is a bit of a bizarre feeling to have everything but the mortgage paid off - I'm essentially looking at receiving a "windfall" every single month from now on. My natural reaction is to put that money towards my debt, but it appears that my gut instinct was off. 3.5% interest makes a huge difference over 20 years, but not so much over one or two.

Thanks again, and if anyone has further thoughts, I'm still quite interested to hear them.

Carrie

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Re: Allocating Our Savings - How Much Towards the Mortgage?
« Reply #10 on: September 06, 2013, 12:04:02 PM »
I would split the difference and put some extra money towards principal and some towards savings.  Do you already have your cash emergency fund built up?   If not, I would do that before sending extra to the mortgage, but once that is funded to six months of expenses, I would go ahead and pay some towards the mortgage so that you'll have less of a deficit when you eventually move.

Also, hi from a fellow Mississippian! 

Mississippi Mudstache

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Re: Allocating Our Savings - How Much Towards the Mortgage?
« Reply #11 on: September 06, 2013, 12:30:47 PM »
Hi Carrie! Good to see I'm not alone in Mississippi.

We are pretty well covered with our emergency funds. In addition to about 4-5 months of expenses in cash between our checking and savings accounts, we have ~$5,000 that we can withdraw at any time from our HSA penalty-free if we need to. And if the proverbial shit really hits the fan, we have lines of credit available that could easily get us through the rest of the year.

I still like the idea of paying a little extra towards the mortgage, but what I will probably do is save as much as I can each month, then assess periodically what do to with the extra cash. I may just make some lump payments from time to time instead of monthly payments.