Investing vs. Paying down the mortgage

[Bitey_Barkface]

Hello all! I'm new to MMM and this forum. In the past few days I've been powering through every single post, I'm up to "The American Dream is Slipping out of Reach! Waaaah, Waaah!". Mostly great stuff so far!

So, I have a question, I'm sure there's a post about this somewhere, but it will take me a thousand and a half years to get to it. If there is, please point me in that direction.

Here's my question (I'm sure you guessed it long ago by the subject). Also a bit of BG.

My husband and I made a tidy little sum selling some property recently. It's sitting in the kids bank accounts (where is earns the highest interest while remaining liquid). We're now planning on buying more property (to live in) and putting about 50% down on it (lowering our monthly cost of living significantly). We also have a RRSP (the Canadian version of the 401k) - with no employer matching, and a RESP (for the kids). We have no other investments at the moment. We have no debts and the (used) car was paid off 3 months after buying it.

So, where should we focus our money after buying the house?

Should we pay into the mortgage and get rid of it ASAP, pay into the RRSP, into the RESP, or invest in the much touted index funds? Or should we evenly split our money across the board?

Oh, and here's a little more info: The RESP gets $500 from the gov't every year we put $2000 into it. The catch is the kids HAVE to use the $ for university or they pay taxes on it (at their income level for that time) and if we withdraw the $ ourselves the accumulated $500 a year goes back to the gov't's coffers. Also, we currently don't max out our RRSP ($5,000max/yr) or the RESP ($2,000max/yr). We also need to set up a second RESP for the baby.

What say you friends? And thank you for your advice!

[jms493]

I would say none of these decisions will be "Bad" decisions.  YOU need to put your priorities on the table and then figure out where to allocate your finances.

This is a very personal decision and hard for a stranger on the internet to advise accurately.  I mean we have no idea what your balances are in your retirement accounts...and also how much you want.

Have a family meeting.  Good luck.

[Bitey_Barkface]

Glad to hear none are a bad decision. I guess that's what I'm most worried about. Doing the dumb thing. Thanks! :)

[2buttons]

It all depends on the time horizon. More than likely you will come out ahead investing in the market as long as the market continues the way it has been (history suggests it will).  If you are on a thirty year plan on the mortgage, I would invest the difference.  If you are on a 15 year, and plan to pay off in less than that, the difference you will make in the market may not be as much as you think it will be.

I forgot which calculators I used, but there are plenty online.  I found that with my circumstances in trying to pay off the house quickly I would make approximately $10k in the market more than paying off the house, after taxes etc. 

As others have said, none of the paths you are thinking about taking are a bad idea.  I would do some modeling with calculators online if I were you to see where you net out, and then make the decision based on facts. 

My plan is to build up a taxable account with a years worth of payments invested on top of my cash emergency fund to mitigate risk when I go to pay it off, and then begin chipping away at the principal on the house, and continuing to feed the investment account as well.  The reason I chose this route is I am a bit more conservative than most, and I like the idea of having cash in the market as well as the goal of becoming mortgage free in the nearer term.

Best of luck!

[nereo]

So, I have a question, ...If there is, please point me in that direction.
...
Should we pay into the mortgage and get rid of it ASAP, pay into the RRSP, into the RESP, or invest in the much touted index funds? Or should we evenly split our money across the board?

Check out this thread for 11 pages worth of back-and-forth on accelerated mortgage payments:
http://forum.mrmoneymustache.com/investor-alley/paying-off-mortgage-early-how-bad-is-it-for-your-fi-date/

Personally: I would contribute to your RRSP before anything else. At today's stupidly-low mortgage rates I would go pay the minimum on the mortgage and fund taxable accounts. However, since you are in Canada and 5yr terms on 25 yr notes are pretty standard I would shift my strategy if mortgage rates start to rise a year or two before your term is up (possibly using some of the money you've been piling into your investment accounts).
YMMV

[slugline]

Either choice is defensible. And yes, if you keep reading through the blog, you will eventually find MMM's opinion. If you don't mind "spoilers" to your reading in sequence, then see these posts:

http://www.mrmoneymustache.com/2012/02/24/pay-down-the-mortgage-or-invest-more-a-winwin-question/
http://www.mrmoneymustache.com/2015/01/21/mortgage-freedom/

[CodAlmighty]

Hi, first of all I'm new to MMM so by no means consider this sound advice, but I have just started to do both: invest AND pay extra on the mortgage. Could this be an option for you?

That way you'll be able to invest now and hopefully see the long term gains, and you'll save yourself a considerable amount in mortgage interest if you overpay in the early years as well. Both paying the mortgage and buying funds are types of investment as in the long run - you then have the advantage of not putting all of your eggs in one basket, so to speak.

[Bettis]

I do both.  I do $5,500 in my Roth IRA (I'm in the 15% bracket).  I could do another $5,500 since I am married but I currently do not.  I just updated my 401K to 12% of a low $60K salary.  My wife does not have access to one and only works part time so my salary is 85-90% of the total.  It would take about 29% for me to max 401K.

I basically do enough so that I have a small excess each month(a few hundred bucks).  That excess goes to sinking funds(car, house repairs, etc).  I have had way too large of an E-Fund over the years rotting in savings accounts since my wife is risk averse and does not want me to invest it.  I use that money with her blessing and throw a few thousand most months at my mortgage principal.  It's a 4.625% rate and I am beyond the point where itemizing helps me.  Aggressively paying off the mortgage has not been the optimal move but I think it's a pretty damn good one when comparing to the vast majority of people.  I think of it as diversifying (tax deferred 401K, a Roth where gains are not taxed, and home equity).

[nereo]

I basically do enough so that I have a small excess each month(a few hundred bucks).  ...  I use that money with her blessing and throw a few thousand most months at my mortgage principal.  It's a 4.625% rate and I am beyond the point where itemizing helps me.  Aggressively paying off the mortgage has not been the optimal move but I think it's a pretty damn good one when comparing to the vast majority of people.  I think of it as diversifying (tax deferred 401K, a Roth where gains are not taxed, and home equity).

[/b]

Ah, but this is one of the key reasons why i don't want to pay down my mortgage - it actually makes my holdings far less diverse, because it drives up the % of NW that is held in a single asset (my home).
I view accounts like the 401(k), ROTH and taxable accounts as 'buckets'.  They don't make me more or less diversified.  It's what I hold in each bucket that determines diversification.  My mortgage is one large bucket with a single asset (my home). 

[Bitey_Barkface]

Thanks everyone for the links and such great input.

I think it may be best to diversify, like most of you. I don't like the idea of all our eggs in one basket. Perhaps its best to leave the mortgage alone, seeing as our payments will be so low (not including the sky high property taxes here!). Also, since we plan on selling the property in 3-5 years (after some renos), I don't know if it'll be worth it to pay off the principle quickly instead of investing more in the RRSP/RESP or doing an index fund. 

[2buttons]

If you are selling in 3-5 years I wouldn't pay it down, nor would it I put it in the market. I would save it in a high interest savings account for the next place, if you are going to use the funds. Investing for less than 5 years is pretty risky IMHO. 

[Bitey_Barkface]

2buttons, you would keep your $ liquid if you were selling the house quickly? I agree, short term investments are too risky. I'm no gambler. Any investment (RRSP, index funds etc...) would be for the long haul on my side. Wouldn't it be better to invest extra $ than to keep it in a high interest savings? Especially since (at least in Canada) interest rates are so piddly right now, even for "high interest". Also, we wouldn't be needing the funds any time soon, unless the shit hit the fan, then who the eff knows. :D

[steviesterno]

I'm doing the math on my house now. It's going up and up in value with the Dallas market, so part of me wants it paid off so I can sell it and walk away. my concern is if that bubble pops, we have crazy expenses, or we want to move on a down year, any money paid early is "gone" or at least not liquid.

I could take a penalty and pull from my 403 if someone gets sick or I get laid off or whatever, but if I've been putting money into the mortgage company's pockets, all I could do is try and get a HELOC (usually expensive and not fast) or sell the house.

My plan is to invest in tax deferred stuff through work, and put more in taxable and build that account up with anything I would have put into the house. that way as the account grows and the house pay off shrinks, eventually those lines will cross. depending on where I am I can then just write a check and pay off the house, or keep growing the account, or a little of both.

seems like a safe/reasonable thing to do. No matter what, I need a place to live. and we bought a house that we could afford with only one of us working but both of us do.

[nereo]

I'm doing the math on my house now. It's going up and up in value with the Dallas market, so part of me wants it paid off so I can sell it and walk away. my concern is if that bubble pops, we have crazy expenses, or we want to move on a down year, any money paid early is "gone" or at least not liquid.

If you are tempted to sell it and walk away with the appreciation, why bother to pay it off/down at all?  You don't need to pay off your mortgage in order to sell your house.

[2buttons]

2buttons, you would keep your $ liquid if you were selling the house quickly? I agree, short term investments are too risky. I'm no gambler. Any investment (RRSP, index funds etc...) would be for the long haul on my side. Wouldn't it be better to invest extra $ than to keep it in a high interest savings? Especially since (at least in Canada) interest rates are so piddly right now, even for "high interest". Also, we wouldn't be needing the funds any time soon, unless the shit hit the fan, then who the eff knows. :D

I still cant tell if you want to put more down on the next house or not.  If you are buying a new house in 3-5 years and want the money to either pay down quicker or have a smaller payment, I would keep it liquid. If you are just wanting to invest and don't want to use the cash, I would just invest and then you are on the right track. If it were me, I would keep it liquid. You might be able to score a deal on the next place if you have a big war chest of cash. 

[Bitey_Barkface]

As of right now the plan is to use the $ in the house we're buying toward the next place in 3-5yrs. If we don't sell, (depending on what we can save in the meantime) we'd rent the place out, then we have someone else paying our mortgage on it, but depending on circumstances we foresee needing the $ for the next down-payment, so selling is most likely.

Better not to pay down the mortgage super fast I think, and invest the $ we want to sock away for the long term (more than 5 yrs). Anything we need in the short term best to keep liquid.

When you say we might be able to get a good deal with a lot of $ in the war chest, how do you mean? We have upwards of a 50% down-payment right now, cash, but I don't see how having more $ gets us a better deal. Unless you mean we can afford more house for lower payments due to the sizeable DP.

[Bitey_Barkface]

I could take a penalty and pull from my 403 if someone gets sick or I get laid off or whatever, but if I've been putting money into the mortgage company's pockets, all I could do is try and get a HELOC (usually expensive and not fast) or sell the house.

What's HELOC?

[Fishindude]

This is one that gets debated frequently.
I'm a huge fan of getting your home paid off and living free and clear as soon as possible, with only upkeep expenses, utilities and taxes to worry about.   Then, when all of your peers are slaving away at their mortgage payments for the next 20 years you can be investing, and / or having fun with your money.  There is a real feeling of security knowing that this huge "life purchase" is out of the way and behind you.

[Bitey_Barkface]

This is one that gets debated frequently.
I'm a huge fan of getting your home paid off and living free and clear as soon as possible, with only upkeep expenses, utilities and taxes to worry about.   Then, when all of your peers are slaving away at their mortgage payments for the next 20 years you can be investing, and / or having fun your money.  There is a real feeling of security knowing that this huge "life purchase" is out of the way and behind you.

I understand doing that if you've purchased the home of your dreams and don't have any foreseeable plans to sell, but if planning on selling in say 5yrs. does the $ you put into it make a difference? Wouldn't it be better for that $ be saved in a "high" a interest account, or invested somewhere else, since the cash out is looming?

[2buttons]

When you say we might be able to get a good deal with a lot of $ in the war chest, how do you mean? We have upwards of a 50% down-payment right now, cash, but I don't see how having more $ gets us a better deal. Unless you mean we can afford more house for lower payments due to the sizeable DP.

Cash is king. Folks who pay cash for real estate have more leverage since the seller knows they will close super quickly and there is less risk that the buyer will fall through.

Also, if you put the cash into your mortgage you will get it back when you sell, but I still think cash is king and its best to be as liquid as possible when you go to buy. 

[FireLane]

My understanding is that unless your mortgage has a very high interest rate, paying the minimum and investing the difference in the market is almost always the right thing to do, mathematically. On average, that money will grow faster than you can expect your property values to increase.

But at least for me, paying down the mortgage early feels better emotionally. I'm planning to be mortgage-free within the next two years, which I think would give me a sense of security and accomplishment that no amount of money invested in the market would be able to match. I know it's slightly irrational, but that's okay, no one is perfect.

[Dominator]

Personally I only pay the bare minimum on my mortgage and put all my excess cash into RRSP and TFSA investments. Mortgages are dirt cheap right now, it's the cheapest money you'll ever borrow. Sure if I pay my mortgage it is a guaranteed 2.89% savings, but looking at my RRSP / TFSA, it has averaged 9% annual returns since I got my mortgage in 2013.

If mortgage rates are significantly higher when it comes time to renew, I can just pull a bunch of money from my TFSA and pay down the mortgage principal in a lump sum. In the meantime I believe the odds are I'll make more than 2.89% in my RRSP / TFSA so that's where all my extra money goes.

[SyZ]

I like the whole concept of 'don't pay down a 1.9% loan if you can make 7% in the stock market' logic, but I feel like a house is the only exception I might make in my life. If your house is paid off, you eliminate all living expenses outside property taxes, which just seems more appealing to me than 'make an extra 3% for a few years in the stock market'

But, I don't own a house yet and I don't know which method I would take. Either is better than paying the minimum and using the extra money to buy a beamer

[Prairie Stash]

If your plan includes paying for kids University then:

1) RESP $2500/year/child (not $2000) - personally I think a lifetime maximum should be determined (in my case $50K/child is all it will cost for a complete 4 year education in Canada). In most provinces its 20% match up to $2500 to get the $500 match, some provinces have additional top ups.
2) TFSA minimum $20K each but hopefully these get maxed - TFSA is also the Emergency Fund, make sure there's money here for financial security/long term retirement
3) RRSP - ETF such as Vanguard Canada (avoid currency fluctuations)
4) Mortgage
5) Private investments - taxable accounts will  still likely beat mortgage returns but its higher risk, if you have to ask then you should go for lower risk

Depending on the kids age it might be better to bump up RRSP over TFSA. In my case I'll have 2 kids under 6 for 2016. Household earnings over $65K will claw back child benefits at 5.7%, if I invest in RRSP while the kids are young I get the tax refund and extra child benefits. Later on when the kids are older the benefits won't be an issue and the equation becomes simpler. The claw back on benefits matters in this case.

Do not have money in a savings account. At the very least this should be in a product such as Tangerines TFSA, or find a suitable alternative. You will be paying tax on the interest in your savings account whereas the TFSA at tangerine gives higher tax free returns. Any account that earns more than $50 gets a T3, it will be reported to the CRA, check your CRA myaccount for proof (no point hiding it, they already know). Putting it in kids accounts is dodgy when you could do a legitimate tax shelter.

[powersuitrecall]

OP you have some homework to do!  I recommend getting a spreadsheet going and work out a couple of scenarios.

Some considerations as a Canadian regarding mortgages ...

- It's common practice here to renew mortgages every 2-5 years.  As a result, there is some interest rate risk involved when deciding to hold a mortgage for a long period of time.  On the positive, you get a chance to pay off as much as you like every time you renew.

- The Interest portion of mortgage payments are not tax deductible.  Mortgages are paid for with after-tax dollars.

- Most mortgages (depending on province) are full recourse, meaning that they are difficult to get out of if one were to stop being able to make the payments.  Jingle mail is not an option. 

Our approach was to schedule mortgage payoff to be about the time we could conceivably retire early. 

Other thoughts.
- Max those RRSPs!
- Max those TFSAs!
- Set up a family RESP so you can have one account for both of your children, then contribute $5000/y to it to receive the full $1000 grant.  We contribute the full amount in Late January and have the grant money in March.

[Trimatty471]

It all depends on the time horizon. More than likely you will come out ahead investing in the market as long as the market continues the way it has been (history suggests it will).  If you are on a thirty year plan on the mortgage, I would invest the difference.  If you are on a 15 year, and plan to pay off in less than that, the difference you will make in the market may not be as much as you think it will be.

I forgot which calculators I used, but there are plenty online.  I found that with my circumstances in trying to pay off the house quickly I would make approximately $10k in the market more than paying off the house, after taxes etc. 

As others have said, none of the paths you are thinking about taking are a bad idea.  I would do some modeling with calculators online if I were you to see where you net out, and then make the decision based on facts. 

My plan is to build up a taxable account with a years worth of payments invested on top of my cash emergency fund to mitigate risk when I go to pay it off, and then begin chipping away at the principal on the house, and continuing to feed the investment account as well.  The reason I chose this route is I am a bit more conservative than most, and I like the idea of having cash in the market as well as the goal of becoming mortgage free in the nearer term.

Best of luck!

This is my plan.  I have a goal to meet in my investment account.  Once I meet that goal, I will begin paying off my mortgage.  I hope to meet that goal within the next 6 years.