Author Topic: Pay off mortgage or invest in index funds?  (Read 5358 times)

Co-Movement

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Pay off mortgage or invest in index funds?
« on: January 13, 2018, 05:28:22 PM »
Hi! Question for the community....

I owe 80k on my 10 yr mortgage (new construction that I rolled other money into to bring down loan to 80k, appraised at 225k.- I have 10 yrs to go on the payment as I just moved in...)
Interest rate is 4.75%, I'm paying around $300/m in interest on this loan the other $555/m is principal.
This property is also my business as a personal trainer. I have an 1800 sq foot gym on my property so yes its residential but also a nicely generating income property with employees and an online following.

I am 35 years old, debt free other than house. Full-time entrepreneur.

Question if I have ability to pay house off within 3-5 yrs with extra $$ should I do that or pay the standard payment each month for 10 years and invest the extra $$ into index funds? 

thank you! Questions welcomed...



Retire-Canada

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Re: Pay off mortgage or invest in index funds?
« Reply #1 on: January 13, 2018, 06:25:44 PM »
Question if I have ability to pay house off within 3-5 yrs with extra $$ should I do that or pay the standard payment each month for 10 years and invest the extra $$ into index funds?

Index funds.

Can you deduct a % of mortgage interest as a business expense? I'm in Canada and I deduct ~30% of my mortgage interest for my home office plus other expenses.

Eucalyptus

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Re: Pay off mortgage or invest in index funds?
« Reply #2 on: January 13, 2018, 07:24:05 PM »
If you can claim interest and business expenses on tax then its likely that your effective interest rate would be well below 4 %.


Thus, I would absolutely invest in index funds first. Let the mortgage ride out those ten years. Remember, you have locked in the cost of your home buy buying at today's market price, which is an added benefit (eg if you were to rent, this would continue to go up, usually, with the market).


Sounds like a great scenario for you and a great lifestyle! :-)

boarder42

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Re: Pay off mortgage or invest in index funds?
« Reply #3 on: January 14, 2018, 04:44:42 AM »
I'd refi that. 4.75 is high and you could likely pull out some more equity to invest.

Frugancial Advisor

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Re: Pay off mortgage or invest in index funds?
« Reply #4 on: January 14, 2018, 12:20:34 PM »
Question if I have ability to pay house off within 3-5 yrs with extra $$ should I do that or pay the standard payment each month for 10 years and invest the extra $$ into index funds?

Index funds.

Can you deduct a % of mortgage interest as a business expense? I'm in Canada and I deduct ~30% of my mortgage interest for my home office plus other expenses.

^^^ This. You should be able to include your mortgage interest as a tax-deductible business expense seeing as you use the property to earn an income. If that is the case, it is worth keeping the low-rate mortgage as long as possible and investing your money in index funds :)

grettman

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Re: Pay off mortgage or invest in index funds?
« Reply #5 on: January 14, 2018, 04:24:19 PM »
People here will tell you to invest.  I say no.  I say pay off the mortgage.

Comparing paying off the mortgage to investing in index funds isn't an apples to apples comparison.

You should compare paying of the mortgage to bonds.  You can't find a GUARANTEED return of 4.75% anywhere in the world.

Reduce your risks.  Pay off your house and live debt free.

By the way, it easy to lean towards investing when the bulls have been running for almost a decade..... Just look at some charts and see what the market can do when things are bad...

haggard

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Re: Pay off mortgage or invest in index funds?
« Reply #6 on: January 14, 2018, 05:16:35 PM »
What about some shorter term investments that aren't locking the money up without penalty?  That way if you ever just absolutely had to get the money to pay off the home you could get it, but it is however making you money while sitting there. 

I did this the last three years and really regret it.  I had been pushing way to much towards the mortgage and not as much as I should to investments.  I lost a killing.

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Re: Pay off mortgage or invest in index funds?
« Reply #7 on: January 14, 2018, 05:25:18 PM »
Index funds, in 3-5 years when you can lump sum pay it off you can decide if you want too.  I'm betting you don't want too.

boarder42

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Re: Pay off mortgage or invest in index funds?
« Reply #8 on: January 14, 2018, 06:22:36 PM »
People here will tell you to invest.  I say no.  I say pay off the mortgage.

Comparing paying off the mortgage to investing in index funds isn't an apples to apples comparison.

You should compare paying of the mortgage to bonds.  You can't find a GUARANTEED return of 4.75% anywhere in the world.

Reduce your risks.  Pay off your house and live debt free.

By the way, it easy to lean towards investing when the bulls have been running for almost a decade..... Just look at some charts and see what the market can do when things are bad...

This is a poor emotion driven response to the op's question. And increases risk of financial failure.

By your logic we shouldn't invest in index funds at all bc look at what they could do. As well as including some market timing in your answer. Which is also a bad idea

Livewell

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Re: Pay off mortgage or invest in index funds?
« Reply #9 on: January 14, 2018, 08:11:02 PM »
First time I had this choice I paid down the mortgage and bought more index funds.  Second time I did both too, and paid off the house.

Both times my focus was on my W2 income.  Both times I justified paying down the house because I would have otherwise bought bond funds. 

Both times the math favored stocks.  Both times I slept like a baby, and things worked out just fine.

OP - have you done any risk profiling?  When you do, consider using the fixed income side of that equation towards paying down/off your mortgage.

boarder42

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Re: Pay off mortgage or invest in index funds?
« Reply #10 on: January 15, 2018, 04:28:33 AM »
Using a mortgage as a fixed income portion of your portfolio is fools gold. Mortgages are not easily rebalanced like bonds.  Bonds historically outperform current mortgage rates.

SeattleCPA

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Re: Pay off mortgage or invest in index funds?
« Reply #11 on: January 15, 2018, 06:51:42 AM »
People here will tell you to invest.  I say no.  I say pay off the mortgage.

Comparing paying off the mortgage to investing in index funds isn't an apples to apples comparison.

You should compare paying of the mortgage to bonds.  You can't find a GUARANTEED return of 4.75% anywhere in the world.

Reduce your risks.  Pay off your house and live debt free.

By the way, it easy to lean towards investing when the bulls have been running for almost a decade..... Just look at some charts and see what the market can do when things are bad...

+1

BTW under the new tax law, you may very well not use your existing mortgage interest as a deduction which means that interest rate is an "after-tax" return on investment.

Also, I know some here won't want to hear this but we really could be looking at a crummy upcoming decade of returns. Having a guaranteed (possibly after-tax?) 4.75% ROI on an intermediate-term investments? Wow, that's to die for.


boarder42

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Re: Pay off mortgage or invest in index funds?
« Reply #12 on: January 15, 2018, 06:54:45 AM »
People here will tell you to invest.  I say no.  I say pay off the mortgage.

Comparing paying off the mortgage to investing in index funds isn't an apples to apples comparison.

You should compare paying of the mortgage to bonds.  You can't find a GUARANTEED return of 4.75% anywhere in the world.

Reduce your risks.  Pay off your house and live debt free.

By the way, it easy to lean towards investing when the bulls have been running for almost a decade..... Just look at some charts and see what the market can do when things are bad...

+1

BTW under the new tax law, you may very well not use your existing mortgage interest as a deduction which means that interest rate is an "after-tax" return on investment.

Also, I know some here won't want to hear this but we really could be looking at a crummy upcoming decade of returns. Having a guaranteed (possibly after-tax?) 4.75% ROI on an intermediate-term investments? Wow, that's to die for.

bolded for emphasis

we COULD BE - but history has told us we dont know what will happen - but more often than not you're could be is wrong - i prefer to play the house odds not the player odds.

on the 4.75% note - its a high rate and should be refinanced to a much lower rate around 4% on a 30 year.

On the interest deduction note - it was noted its a place of business so there is a very real chance its still deductible. 


powskier

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Re: Pay off mortgage or invest in index funds?
« Reply #13 on: January 16, 2018, 12:06:29 AM »
Whenever this topic comes up, it seems the pro "pay off your mortgage" folks forget to realize there is also  a huge risk there.
-If your local economy tanks, and you need to move and homes sit unsold/unrented all that money melts away and you are stuck.
-Your house gets destroyed by an uninsured act of nature.
At least in a worse case scenario you could walk away from your equity and let the bank eat the loan. Yes you'd destroy your credit and for some there will be ethical concerns, but remember terrible unthinkable things happen and keeping your mortgage can serve as a hedge against these things.

I realize this is not the main element of the debate, but it is always overlooked. Now that I have had some experience with one of these and seen friends go through the other one, I think it is important to add to the mix.

Invest for sure.

grettman

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Re: Pay off mortgage or invest in index funds?
« Reply #14 on: January 16, 2018, 03:25:34 AM »
Whenever this topic comes up, it seems the pro "pay off your mortgage" folks forget to realize there is also  a huge risk there.
-If your local economy tanks, and you need to move and homes sit unsold/unrented all that money melts away and you are stuck.
-Your house gets destroyed by an uninsured act of nature.
At least in a worse case scenario you could walk away from your equity and let the bank eat the loan. Yes you'd destroy your credit and for some there will be ethical concerns, but remember terrible unthinkable things happen and keeping your mortgage can serve as a hedge against these things.

I realize this is not the main element of the debate, but it is always overlooked. Now that I have had some experience with one of these and seen friends go through the other one, I think it is important to add to the mix.

Invest for sure.

Perhaps it should be stated clearly, that when one is PRO paying off mortgage the following assumptions are being made:  1.  You have maximized your investments/contributions to all tax advantaged accounts and 2. you have sufficient levels of emergency funds/liquidity.  Both should also be true if you ARE NOT paying off your mortgage.   

SeattleCPA

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Re: Pay off mortgage or invest in index funds?
« Reply #15 on: January 16, 2018, 06:11:57 AM »
Two deeper issues may explain why people disagree about this I bet...

First, some of us try to employ modern portfolio theory in our investing. And if one does that, you're going to include multiple asset classes including bonds (probably ideally riskless bonds)... For folks like me who think this way, early mortgage repayment can in effect become part of the bonds component of one's portfolio. (Especially true when talking about a mortgage being amortized over 10 years.)

Second, regional differences probably exist. E.g., in some areas defaulting on the mortgage may ultimately mean a deficiency judgement so someone can't simply "walk away" and let the bank eat the equity. Also, I think in some locales including mine, refinancing an $80K mortgage would be expensive in terms of fees, etc. (In my area, e.g., I think the mortgage company would push borrower to borrow more given fixed loan fees.)

A postscript: I didn't first time I read, but when I re-read the original post, I now think co-movement's portfolio probably principally includes his business (which is a great investment hopefully and should, fingers crossed, beat what he or she can do in an index fund or real estate)... and then also the real estate (which recent studies have suggested can do just as well as equities but with half the risk as discussed in link below). But if someone isn't pretty diversified and well-capitalized, I would think first balance sheet thing to do is build up some cash for safety and as opportunity fund... and then stash savings into a pension... and then, sure, pay down that mortgage.

Oh, here's the link to the referenced federal reserve research paper:

https://www.frbsf.org/economic-research/files/wp2017-25.pdf


Co-Movement

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Re: Pay off mortgage or invest in index funds?
« Reply #16 on: January 18, 2018, 02:27:01 PM »
Great responses thank you. Some more info...
I have 6 months living expenses in bank account. I have no interest in refinancing to a lower rate to a 30 yr mortgage. It would cost 3k in refinance fees and why would I want to extend to a 30 yr to save $300 a month on my mortgage payment but be paying 95% interest. And yes the business outperforms the general market returns. My thoughts....
Pay off mortgage in 3-5 yrs, sooner if i can. Then I only require maybe 25k per yr to live on. I built the fitness facility to easily be converted to a duplex (once I want to wrap up working in the fitness industry) which would bring in $900/side/month. That alone would almost fund my retirement not to mention what I have invested in conservative funds and other entrepreneurial ventures.

Addition thoughts always welcomed.
« Last Edit: January 18, 2018, 02:29:00 PM by Co-Movement »

neo von retorch

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Re: Pay off mortgage or invest in index funds?
« Reply #17 on: January 18, 2018, 02:37:54 PM »
Assuming an $80,000 mortgage @4.0% for 30 years, the first monthly payment would be:

Principal: $115
Interest: $267

That's 70% interest. But... that 70% number doesn't really matter. Over 30 years, any sensible diversified investment is likely to return better than 4%.

My point is simply - how much of your payment is interest is irrelevant to the decision.

Of course, if your refi does actually cost you $3k, I could see why you'd be hesitant. I'd make a spreadsheet and estimate out investment returns vs. interest spent - with the refi fees included. I'd be conservative and estimate 7% average over the 30 year period. (I'd also shop around for good rates with low or no fee refinances.)

frozen

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Re: Pay off mortgage or invest in index funds?
« Reply #18 on: January 18, 2018, 02:40:58 PM »
I don't feel qualified to offer advice, but I will share what I decided to do with my mortgage.

I am investing extra money in index funds for a mortgage payoff in ~10 years plus adding some extra principal to my mortgage payment each month.

I had been paying $600/month extra towards my principal each month to get the mortgage paid off in 10 years. But wanted to see if I could get there faster by investing. Since I already have index funds with Betterment, I decided to set up an account called "Mortgage Payoff" to see what it recommended. The Betterment account recommended ~$400/month in an index fund, so I started doing that. Then I took the "left over" $200/month and started adding it to my mortgage principal.

So now I am using that same $600/month to hedge on both sides and I should be able to pay off my mortgage within 10 years if I want to or just keep investing.

I'd be interested in feedback on this approach if anyone has any to offer.
« Last Edit: January 18, 2018, 03:13:06 PM by frozen »

MrMoneySaver

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Re: Pay off mortgage or invest in index funds?
« Reply #19 on: January 18, 2018, 03:02:21 PM »
Quote
Using a mortgage as a fixed income portion of your portfolio is fools gold. Mortgages are not easily rebalanced like bonds.  Bonds historically outperform current mortgage rates.

Do you work in the mortgage industry, by any chance?

Telecaster

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Re: Pay off mortgage or invest in index funds?
« Reply #20 on: January 18, 2018, 03:36:58 PM »
Great responses thank you. Some more info...
I have 6 months living expenses in bank account. I have no interest in refinancing to a lower rate to a 30 yr mortgage. It would cost 3k in refinance fees and why would I want to extend to a 30 yr to save $300 a month on my mortgage payment but be paying 95% interest. And yes the business outperforms the general market returns. My thoughts....
Pay off mortgage in 3-5 yrs, sooner if i can. Then I only require maybe 25k per yr to live on. I built the fitness facility to easily be converted to a duplex (once I want to wrap up working in the fitness industry) which would bring in $900/side/month. That alone would almost fund my retirement not to mention what I have invested in conservative funds and other entrepreneurial ventures.

Addition thoughts always welcomed.

Don't look at the monthly payment just by itself.  Look at the interest portion of the payment.   You should refi if you can lower the number of interest dollars you are paying.   A rule of thumb is if you can save $100/month in interest it is worth it to refi.  At least, that's the rule I use.

At 4.75% I'm firmly in the camp of do not pay down the mortgage.  This is both your home and your business.  Far to risky to lock away your money like that.  Like walking a tightrope above a pool of crocodiles. 


MJseast

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Re: Pay off mortgage or invest in index funds?
« Reply #21 on: January 18, 2018, 07:48:51 PM »
Great responses thank you. Some more info...
I have 6 months living expenses in bank account. I have no interest in refinancing to a lower rate to a 30 yr mortgage. It would cost 3k in refinance fees and why would I want to extend to a 30 yr to save $300 a month on my mortgage payment but be paying 95% interest. And yes the business outperforms the general market returns. My thoughts....
Pay off mortgage in 3-5 yrs, sooner if i can. Then I only require maybe 25k per yr to live on. I built the fitness facility to easily be converted to a duplex (once I want to wrap up working in the fitness industry) which would bring in $900/side/month. That alone would almost fund my retirement not to mention what I have invested in conservative funds and other entrepreneurial ventures.

Addition thoughts always welcomed.

Don't look at the monthly payment just by itself.  Look at the interest portion of the payment.   You should refi if you can lower the number of interest dollars you are paying.   A rule of thumb is if you can save $100/month in interest it is worth it to refi.  At least, that's the rule I use.

At 4.75% I'm firmly in the camp of do not pay down the mortgage.  This is both your home and your business.  Far to risky to lock away your money like that.  Like walking a tightrope above a pool of crocodiles. 


+1
Just because it's a 30-year mortgage, doesn't mean you actually need to take 30 years to pay it off (unless maybe there is a pre-payment penalty, which I haven't seen in years). With a lower rate, you could keep a similar payment schedule to the one you currently have and pay less overall because you have a lower interest rate.
As others have stated, you can get a lower cost refi and it could be well worth it. Just play with the many mortgage calculators out there and pay attention to total interest paid.

Eucalyptus

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Re: Pay off mortgage or invest in index funds?
« Reply #22 on: January 18, 2018, 08:54:54 PM »
Great responses thank you. Some more info...
I have 6 months living expenses in bank account. I have no interest in refinancing to a lower rate to a 30 yr mortgage. It would cost 3k in refinance fees and why would I want to extend to a 30 yr to save $300 a month on my mortgage payment but be paying 95% interest. And yes the business outperforms the general market returns. My thoughts....
Pay off mortgage in 3-5 yrs, sooner if i can. Then I only require maybe 25k per yr to live on. I built the fitness facility to easily be converted to a duplex (once I want to wrap up working in the fitness industry) which would bring in $900/side/month. That alone would almost fund my retirement not to mention what I have invested in conservative funds and other entrepreneurial ventures.

Addition thoughts always welcomed.


I think your thinking is pretty good here. I would personally balance out the mortgage repayments to go longer than 3-5 years, pushing towards the ten year mark. As its above 4%, I would make extra repayments. This is what most in Australia would do, though as long as your accountant can handle it, we'd also be able to write off the business portion of the loan (they'd work out a %, sounds like it would be roughly 50% of the building in your case). Which would affectively, depending on your income tax rate, take it below 4%. I think I'd personally still pay it off by the ten year mark, probably aiming for something like 8 years. This is because of your potential duplexing idea and how that would cover most of your expenses in FIRE.


Also, how long do you expect to take, sans Duplex, to get to FIRE? What is your savings rate? I would think about balancing the length of paying down your mortgage to coincide closely with your FIRE date. Honestly, if you are single with no kids, you can't really make a bad decision here, and with a mortgage so low and such an easy business to go part time/extend/keep a few clients/etc, your risk of FIRE failure is super low. So you can't really make a terrible decision here.


Mighty-Dollar

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Re: Pay off mortgage or invest in index funds?
« Reply #23 on: January 18, 2018, 11:36:18 PM »
I owe 80k on my 10 yr mortgage. I have 10 yrs to go on the payment.
Interest rate is 4.75%
Hopefully you are considering stock AND bond index funds (ex- ITOT and BND), otherwise you're basically gambling with the equity in your home. The bottom line is can you beat 4.75% over the next 10 years? Study the historical returns of the market. Here's how 50% S&P 500 index and 50% ten year treasury bonds did. Note that these number do not account for compounding returns.
http://investingadvicewatchdog.com/images-new/50-50-history.jpg
From 1970 to 2010 the lowest risk allocation was 28% stocks / 72% bonds. Here's how that did...
http://investingadvicewatchdog.com/images/28-72-year.jpg
From 2000 to 2010 this 28 / 72 mix returned 5% when compounding, so even during the WORST of times you about broke even versus that 4.75%. A 50 / 50 mix returned 3.62%. Again this is during a worst case scenario time period.
Nobody can predict the future direction of the stock and bond markets. How much higher can PE ratios go? I don't know. That's why you own bonds too. When stocks fall, money runs to the safety of bonds. http://www.multpl.com/
« Last Edit: January 18, 2018, 11:41:19 PM by Mighty-Dollar »

boarder42

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Re: Pay off mortgage or invest in index funds?
« Reply #24 on: January 19, 2018, 06:26:26 AM »
Quote
Using a mortgage as a fixed income portion of your portfolio is fools gold. Mortgages are not easily rebalanced like bonds.  Bonds historically outperform current mortgage rates.

Do you work in the mortgage industry, by any chance?

no, i just firmly believe paying down a low cost fixed rate mortgage is a much dumber decision than most people think, and the statement of using it as bonds is even dumber b/c its not close to the same thing

SeattleCPA

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Re: Pay off mortgage or invest in index funds?
« Reply #25 on: January 19, 2018, 04:15:27 PM »
no, i just firmly believe paying down a low cost fixed rate mortgage is a much dumber decision than most people think, and the statement of using it as bonds is even dumber b/c its not close to the same thing

We disagree then. Thanks for keeping the discourse civil.