Let's settle this with a vote: Invest or payoff debts

[Cheddar Stacker]

Since no one else has mentioned it yet, I'll bring up the obligatory "inflation hedge" argument.

The inflation hedge argument is just smoke and mirrors math to justify a decision.  It is working the angles.  I lost. a lot of money a few years ago due to a perfectly logical inflation hedge argument....

Can you elaborate? I'm unsure how you can lose money on this. Maybe it's different in Canada? I know our mortgages tend to be fixed and I've heard here before that Canada's renew every 5 years or so with a new rate and new payments. Is that what you're talking about/how you lost money?

This article is another great resource on this subject for anyone with a little spare reading time. IMO, there are a lot of great points on both sides of this argument. Very well thought out.

[Goldielocks]

Since no one else has mentioned it yet, I'll bring up the obligatory "inflation hedge" argument.

The inflation hedge argument is just smoke and mirrors math to justify a decision.  It is working the angles.  I lost. a lot of money a few years ago due to a perfectly logical inflation hedge argument....

Can you elaborate? I'm unsure how you can lose money on this. Maybe it's different in Canada? I know our mortgages tend to be fixed and I've heard here before that Canada's renew every 5 years or so with a new rate and new payments. Is that what you're talking about/how you lost money?

This article is another great resource on this subject for anyone with a little spare reading time. IMO, there are a lot of great points on both sides of this argument. Very well thought out.

OK. In the spirit of too much information.

We sold our home and moved to California and started to rent while looking to buy.  Our company relocation package had a heavy money incentives to "step into" a mortgage, but it was insane.  This was 2006 and 2007.  We did not bite even after looking at over 100 homes.

My husband was well versed in financial trading and investments, and gave very logical and sound rationale about investing our house money in the stock market as we would likely be renting for several years, and the value in cash or bonds was totally eroding vs increasing home prices.  We needed our house money to increase with home prices, or at least at half the rates.  Invest as a hedge against inflation

Well, I was prepared to lose 10%, or even 15% of the money as a risk choice for better returns and we had time to replace that.  He was actively researching the investments for this and other income generating funds on a daily basis. Highly up to date and financially educated.

I was not prepared to lose well over 30%. 

How did it happen?  When we decided to move back to Canada, we had two weeks to get it done.  We talked just before moving in late Aug 2008, about capturing our 10% losses in case we could use it in future- unlikely as that was- and selling all - remember, the market dropped a bit in the couple of months leading up the the crash?-  but decided to hold on as the money was likely to recover or at least not lose more in two weeks and we did not really have much time to think about it now.  All solid blue chip players too.. Hand selected, etc.

Guess what?  In the 1 week we were out of internet access due to the move, 2008 crash hit.
We managed to keep $ in until 2009, when we needed a down payment, and in 2010 we needed money for the renovations.

Although the markets have recovered now, we had to get out early and lost over $100 k, a big percentage of our net worth at the time.

It is a lesson learned that we as humans are very good at justifying our decisions. 
The more complex the justification, the more likely we are not based on our true principals and it is just smoke and mirrors.    ( see the thread on buying a handbag for a great example)

[Cheddar Stacker]

Since no one else has mentioned it yet, I'll bring up the obligatory "inflation hedge" argument.

The inflation hedge argument is just smoke and mirrors math to justify a decision.  It is working the angles.  I lost. a lot of money a few years ago due to a perfectly logical inflation hedge argument....

Can you elaborate? I'm unsure how you can lose money on this. Maybe it's different in Canada? I know our mortgages tend to be fixed and I've heard here before that Canada's renew every 5 years or so with a new rate and new payments. Is that what you're talking about/how you lost money?

This article is another great resource on this subject for anyone with a little spare reading time. IMO, there are a lot of great points on both sides of this argument. Very well thought out.

...Long story...

That sucks, but thanks for sharing. I appreciate it, and hope to learn from it.

I guess with any strategy you need to be aware of the short-term and long-term implications. In your scenario, it is likely only an issue if you are forced to make it a short-term decision. Whether you are forced by life circumstances or your own fears/emotions, a short-term need forced your hand.

Your story involves stock investing as an inflation hedge. While that is a smart decision and had a great, logical purpose, I do think it differs slightly from using a leveraged loan on real estate as an inflation hedge. The stock market is volatile, and while real estate can be volatile (and certainly would've been if you purchased in 2007) the beta is much lower.

Here's a quote from the article I linked above that explains it better than I can:

Lost Diversification: This one is “the biggie” so pay close attention… Most investor portfolios are denominated in their domestic currency and thus carry the risk that inflationary government policies will depreciate their investment purchasing power over time. A residential real estate mortgage is the only practical way for most people to short their domestic currency and hedge against inflationary economic policy. In other words, the way mortgage financing works is you borrow (short) your currency and use the proceeds to buy an inflation adjusting asset (real estate). Few people understand how conventionally financed real estate is little more than a leveraged play on inflation. That is why it’s such a powerful wealth building tool more than 90% of the time, and it blows up horribly when the rare deflationary event strikes (i.e. 2008).

So even this author, who is promoting this as the most important reason to consider investing while holding a mortgage, is stating that when deflation hits this strategy backfires. As long as that deflation is temporary though and can be leveraged by utilizing this as a long-term strategy, you should come out ahead.

Too bad you didn't pull out after the 10% loss, but I guess we can all look back with 20/20 hindsight.

[Middlesbrough]

The market will then decide how quickly I have a down payment to a house. Or if interest rates go through the roof, pay for a house in straight cash homie!

I LOVE this! Let the tail wag the dog every now and then. Most people set a deadline then align their cash/investments/debt according to the deadline. You're doing it backwards, which is brilliant. I applaud you.

I realize more and more that as a single guy without roommates anymore my aggression and abscessation go unchecked for long periods of time. No one relies on me and "risk" is simply a number.

We shall see what time and possible companionship end up providing.

[och4]

I picked pay off debts, but oddly, I have no debts. However I want to actually start investing, but I do not know where to start and a lot of the terminologies in this thread escape me. Currently, I have way too much money saved up and it needs to go somewhere. I am interested in long term and short term investments. Although, after reading this thread, I would change my answer to investing or half/half if that was an option. If your return on your investments out weights your debts, then it only makes sense to go the investing route. Although, knowledge can help protect you from bad decision making in investing, but it is not absolute...

No debts
Active in 401k [just started though]
No Roth IRA [want & don't know where to start]
No Portfolio [same as the above]
And a bank account bursting at the seams

[genselecus]

I don't know if it is possible, but I would change the poll to more directly ask the question that is at the root of the debt payoff vs. investment decision: How risk averse are you? To answer that question, what about this polling question?

At what difference between current interest rate of debt and expected ROI (whatever you base your investment decisions on) in the market would you decide to payoff debt?

a.) debt rate is greater than ROI
b.) debt rate is 0 to 1% lower than ROI
c.) debt rate is 1 to 2% lower than ROI
d.) debt rate is 2 to 4% lower than ROI
e.) debt rate is 4 to 6% lower than ROI
f.) always pay down debt! always!

For example, if you expect an investment to have a ROI of 7%, and you would only start to pay off debt before investing if your interest rate on debt is greater than 4%, then you would fill out "d."

Hopefully that makes sense to folks.

[scrnplyr]

Debt reduction is a passive, very easy fix - write a check - pay a bill - plus the gain is not variable, it's locked in and permanent assuming you aren't a compulsive crediholic.

Investing on the other hand is almost the exact opposite - it can sometimes be cumbersome, scary, frustrating and even expensive if you don't know what you're doing.
 I would suggest every iota of credit except for the mortgage take precedent over investing.  Bad investing is probably WORSE than bad credit, if you do it badly for a period of time you tend to give up and shuck the whole concept.  While you are paying down your debt you can start to read every GD book you can find on investing, ask questions, open a Vanguard account w a minimum balance or figure out which trading company you want to use (Ameritrade, etc). Between life and debt reduction it should take you at least a year to accomplish all this and by then you're ready to start investing.

The mortgage issue is more complicated - more variables to account for, but generally if my rate was above 5% I would put 50% of my discretionary savings towards the mortgage. If my rate was between 3 and 5% I would pay down anytime I got a chunk of extra cash and if I'm at 2-3% I'm letting it ride using the extra cash to max out all my investments. 

[davef]

I would vote both, if I could.  I'm a hedger by nature.  In the absence of an all-of-the-above option, I vote to invest.

Ditto.
I used to be firmly in the pay down debts camp. In 2008, 2009, and 2010 I put 50K (extra) toward my mortgages (my primary house and my rental house at 4.875 & 5.25) (both tax deductable) now that I have lerned more about investing and refied down to 3.125 on my primary I am doing more investing.  (I added 8% to 401k and invested 24k in the past 2 years, but I also put about 6k toward my mortgage to hedge my bets. I have plenty in savings and investments that liquidity is not an issue. Besides, I'm pretty close to paying off the rental, and that will be a great feeling.

[Cheddar Stacker]

I picked pay off debts, but oddly, I have no debts. However I want to actually start investing, but I do not know where to start and a lot of the terminologies in this thread escape me. Currently, I have way too much money saved up and it needs to go somewhere. I am interested in long term and short term investments. Although, after reading this thread, I would change my answer to investing or half/half if that was an option. If your return on your investments out weights your debts, then it only makes sense to go the investing route. Although, knowledge can help protect you from bad decision making in investing, but it is not absolute...

No debts
Active in 401k [just started though]
No Roth IRA [want & don't know where to start]
No Portfolio [same as the above]
And a bank account bursting at the seams

The short answer is vanguard and index funds like vtsax. Set it and forget it. The long answer is to go read the jlcollins stock series. Then come back and ask questions in the investor alley here.

[G-dog]

I picked pay off debts, but oddly, I have no debts. However I want to actually start investing, but I do not know where to start and a lot of the terminologies in this thread escape me. Currently, I have way too much money saved up and it needs to go somewhere. I am interested in long term and short term investments. Although, after reading this thread, I would change my answer to investing or half/half if that was an option. If your return on your investments out weights your debts, then it only makes sense to go the investing route. Although, knowledge can help protect you from bad decision making in investing, but it is not absolute...

No debts
Active in 401k [just started though]
No Roth IRA [want & don't know where to start]
No Portfolio [same as the above]
And a bank account bursting at the seams

The short answer is vanguard and index funds like vtsax. Set it and forget it. The long answer is to go read the jlcollins stock series. Then come back and ask questions in the investor alley here.

Exactly this.  The jlcollins stock series is simple and straightforward - they are a non-intimidating easy read.  Check the expense ratios on the funds you are interested in, try to invest at the Admiral fund level if you can to get even lower expense ratio (ER).

You really cannot screw this up. The mistake is waiting/or not acting. And yes- it is intimidating.

[Workinghard]

I don't think it's about the math, but about how debt averse you are (or not).  I was on my own at 17 and grew up with parents barely making it paycheck to paycheck. I vowed never to have debt.  I've always paid cash for everything, cars, home, etc other than short term credit card debt paid in full each month.

I could not invest knowing I owed money even if mathematically I would come out ahead. Besides there's always the risk my investments could lose money.

[EngineerMum]

Note to DSiee - You are missing out here! Pay your fees upfront to get 10% discount, paying lump sum later you only get a 5% discount / bonus. (according to Hecs/Help website I just checked, but I think there has always been a bigger discount for up front compared with later lump sum payments - just that back in the day it was something like 25% compared with 20%.)
My strategy in your position would be, use what you have saved to pay next semester's fees, next semester save for the one after, etc. Yes you miss out on interest / investment returns but you are unlikely to get more than 10% + CPI + tax rate level returns on any investment (not reliably). You should then end up with just the semesters already incurred to pay off when you start work.
(Also FTR, 5% on $1000 would be $50 not the $100 you have noted)

[jpdcpajd]

I know the % game leans to investing.  I have recently thought about it this way if I put inflows toward debt then when and if a correction happens I will have more money to invest and then benefit form the recovery.

[dsiee]

Note to DSiee - You are missing out here! Pay your fees upfront to get 10% discount, paying lump sum later you only get a 5% discount / bonus. (according to Hecs/Help website I just checked, but I think there has always been a bigger discount for up front compared with later lump sum payments - just that back in the day it was something like 25% compared with 20%.)
My strategy in your position would be, use what you have saved to pay next semester's fees, next semester save for the one after, etc. Yes you miss out on interest / investment returns but you are unlikely to get more than 10% + CPI + tax rate level returns on any investment (not reliably). You should then end up with just the semesters already incurred to pay off when you start work.
(Also FTR, 5% on $1000 would be $50 not the $100 you have noted)

Thanks! I didn't realize the discount was 10%, I thought they cut it but you are correct! Well I will defiantly be paying my fees as I go now. Thanks heaps.

(Yeah, I don't know how I stuffed that up. Lucky I'm not studying math, just physics :P)

Thanks again for pointing that out!

[clifp]

I don't vote because I think it does a dis service to a pretty important question that can't be answered with a yes or no question.

I think there is a three step process involved.

• Figure out the after tax interest rate.  For most people this means getting out a Turbo Tax and figuring out your taxes with and without paying of the debt
• Assess your expected investment returns based on your risk tolerance.  The pay off answer is much different for the person who finds investing in Vanguard Wellesley nerve wracking vs the person who is 100% equities with a strong weighting of small cap funds and emerging markest.
• Factor in the intangibles.  For some the Dave Ramsey shout out of "I'm debt free" provides great joy, for others having hundreds of thousand trapped in home equity making nothing creates great stress

The benefit of having the discussion on the forum is getting a wide perspective of opinion and figuring out which ones make the most sense to you. 

[aj_yooper]

I voted for Invest even though I strongly dislike most debt.  Chunk some money to a rainy day fund and the future no matter what budget disaster you might have going.  Naturally, that means cutting out stuff that might really matter now.

[Threshkin]

For me the answer was obvious.  Pay off debt.

As another poster put it, your investment funds don't start charging you late fees or sending collection agencies after you if your income drops unexpectedly.

[JGB]

What I did was set up a MTG saving investment for future MTG pay off or temp MTG payments until I find employment, or even in case interest rates went up.

I wanted to emphasize this idea. I think it could be the best of both worlds in cases where the interest on debt is low enough to make the question worth considering: by making a post-tax investment that is accessible when you need it, with the intention of it being used to cover the debt if income changed, I think you cover a lot of bases! You take advantage of the higher returns from the investment side, and you have no fear of running into problems with the debt should situations change. It becomes a purely mathematical question about the debt interest rate vs the expected earn on the investment, and removes a lot of the other emotional components that push for debt pay down. Nice!

[Cheddar Stacker]

Small sample size so far with 36 votes in, but I'm very surprised to see 2:1 debt to invest.

For those of you who would elect to pay down debt I have some genuine questions for you:
-What is your stock/bond ratio if you are holding investments?
-Do you see a major difference between paying down a fixed interest debt or investing in a bond?
-If you are an aggressive investor with a mix of at least 75% stocks, why would you take a conservative approach with your debts?

The only answer I can come up with is one I was faced with myself a few years ago: When your current cash flow can't service your debt load, it's clearly time to get rid of some of the monthly payments somehow. Does anyone else have another solid, logical reason for paying off debts other than the standard "it's a psychological win"? When I hear that, I think of a car warranty. It makes you feel warm and fuzzy, but it doesn't really do much for you.

Obviously there is no wrong answer here and it's a personal choice, I just thought this forum would be closer to 50/50 based on previous answers I've read.

I have no debt but did vote to pay it down first, and that is exactly what I did to get to this point.

60/40 equity/fixed income.

"Your creditors can call in your debt at any time for any reason" is what separates it from a bond.

When the SHTF, everything is likely to go at the same time.

Imagine this scenario:

MAJOR environmental/industrial/other disaster.
Your house is destroyed, fortunately no major injuries to you or your family.
This disaster puts economic stress on not only you but your employer, and your creditors.

Your employer goes under, putting you out of work.
Your creditors need cash flow and they call in your debt.

You just got a triple whammy.

It's NOT just a psychological win to pay off debt. You are removing a liability that could tip you over the brink. Being appropriately insured and having an emergency fund only go so far.

I understand the scenario and the justification, but imagine this scenario:

You are aggressively paying down debts. You've gotten them down from $100,000 to $30,000, and your minimum monthly payments have dropped from $1,000 to $600. Now the same facts as yours cjottawa. You still owe $600 next month, what do you do?

Now imagine instead of aggressively paying down debts you've invested your surplus and paid according to standard debt amortization. Your debts have dropped from $100,000/$1,000 to $75,000/$1,000, but you've invested about $40,000 principal and earned $10K int/div/cap gains in a taxable brokerage account. Now the same facts as yours cjottawa. You still owe $1000 next month, what do you do? Well you have 40+ months of debt service payments saved in investments, so you begin liquidating them monthly.

How is this not safer? I guess your investments could lose money right, so let's assume you lost 25% of your portfolio. That still leaves you with the ability to service that debt for over 2 years until you're back on your feet.

[rocketpj]

Not sure how it works in the US, but here in Canada the RRSP deduction complicates the issue.

I'll describe the situation I was faced with this Spring to illuminate.

We had a credit card debt carried over from a lot of bad financial thinking combined with an unexpected period of much higher costs and lower income.  $10K @ 10% interest, yes I know.  Mortgage $250K locked into a <3.5%, with accelerated biweekly payments.  No other debts.

I have a mandatory pension contribution, and we both have set up automated RSP contributions every paycheck.  My reasoning will follow shortly.

I had been hurling cash at the credit card constantly to bring it down to $10K.  In the early part of this year my side business had a great month and I had an extra $7K all of a sudden.  I was faced with eliminating a hefty chunk of the credit card debt, or putting some or all of the cash into an RSP.

Putting the cash into an RSP shelters it from being taxed, which matters (~25% of it stays mine, at least for now).  It also provided a nice (~25%) refund on this year's taxes, which I then put onto the debt. 

So, a 25% 'return' on the investment, plus whatever the investments return over the next 20 years.  But that leaves me with the remainder of the debt at 10%. 

Ultimately I have been able to hack and claw the CC debt down to almost zero, and will likely have it paid off for good by October, this while continuing to increase our RSP savings as well.

Not sure how clear the example is, but the tax benefits of an RSP need to be considered in choosing whether to invest or pay down debt.  Having an almost immediate cash benefit to investing helped reduce the debt significantly.

[JGB]

Not sure how it works in the US, but here in Canada the RRSP deduction complicates the issue.

Putting the cash into an RSP shelters it from being taxed, which matters (~25% of it stays mine, at least for now).  It also provided a nice (~25%) refund on this year's taxes, which I then put onto the debt. 

This is similar to how a 401k functions in the US. The (potential) difference is that the money in a 401k will still be taxed when you take it out in retirement - people save by contributing to the 401k when they are earning a high income (and thus the money would be taxed more heavily) and then withdrawing it when they are earning little to no other income (and thus, potentially, taxed much less).

[och4]

The short answer is vanguard and index funds like vtsax. Set it and forget it. The long answer is to go read the jlcollins stock series. Then come back and ask questions in the investor alley here.

Thanks Mr. Cheddar for the reply. I keep hearing about this Total Stock Market Index Fund Admiral Shares and how good it is. I would like to start a Roth IRA as soon as possible. I was thinking of decreasing my 401k and dropping extra money into a Roth IRA, because I do not get that high of a match from my company nor do they match it that high either or keep contributing to my 401k and start a Roth IRA to hit that 5.5k amount.
I have read a little from JL Collins. I did start the Four Pillars of Investment, but I lost interest in it. Thanks for the suggestions.

Exactly this.  The jlcollins stock series is simple and straightforward - they are a non-intimidating easy read.  Check the expense ratios on the funds you are interested in, try to invest at the Admiral fund level if you can to get even lower expense ratio (ER).

You really cannot screw this up. The mistake is waiting/or not acting. And yes- it is intimidating.

G-dog, Thanks for the advise as well. This really means a lot. I am going through stock series right now and looking up terminologies as we speak. Sadly, I have waited on Roth IRAs and investing for almost a year now. :/ But it is time to start now!

[Cassie]

When a house is bank owned sometimes they will only sell to cash buyers.  If you have the $ to pay cash you can get a great deal which is what we did 2 years ago.  Of course we could have turned around & gotten a mortgage to free up our $ if we wanted but not on your life.  Paid for home-priceless!!!

[Cheddar Stacker]

When a house is bank owned sometimes they will only sell to cash buyers.

How ironic, right? I mean, they are in the business of lending money. What a strange policy.

[Cassie]

You are so right!  The house sale kept falling through for 6 months because once people got the inspection they withdrew their offer. The realtor knew we wanted the house if the price came down. One day she calls & said they lowered the price by $22,000K and they were taking the cleanest offer & all bids had to be submitted within 24 hours-cash only.  Since hubby is a civil engineer we did not need an inspection-he did it himself & he is very handy so would do the work himself too.  WE also offered about 8k more then they asked to beat out the other bidders of which there were many.    Long story short we got the house for 60k & put 40 into it.  Now 2 years later it is worth 200,000k. It is in a great neighborhood, etc.  Overall, prices have risen slowly in our area but between the house originally being priced under market & the price reduction we really made out. 

[Lis]

I chose to pay off debts, but that's just me and my limited knowledge coming through. I have a little over $11k left in my student loan (originally $20k) at a whopping 6.75% (was 7% but lowered with autodebit) with a minimum payment of $325, though I typically put between $500-$600 a month towards it. I am saving through my company's 401k (measly 5%, but getting the full match), and "paying myself" about 10% of my income a month. Right now I'm building up my emergency fund, but once that's complete I'll be saving towards opening a Roth IRA. Still, anytime I get more money than normal (overtime, hoping I'll be getting some extra back when I switch auto insurance providers), I never know if I should throw that at my loans or not.

[Shor]

I put invest in to the poll, but I can understand where paying down debts will ease the burden on the shoulders, and whatever is an acceptable risk that will let you sleep at night is the choice that's good enough.

What I am sure of is that people will take on the risk today,
but when it comes down to a pinch in the future,
gut feelings will usually override the initial bravado as everything starts to slide downhill.

If you're caught in the situation where your primary income is gone,
And you have a huge mortgage hanging over your head,
AND your investments are in the downturn
then all of the justified percentages,
all the math
and all of the advice feels worthless in that moment.

[eccdogg]

Small sample size so far with 36 votes in, but I'm very surprised to see 2:1 debt to invest.

For those of you who would elect to pay down debt I have some genuine questions for you:
-What is your stock/bond ratio if you are holding investments?
-Do you see a major difference between paying down a fixed interest debt or investing in a bond?
-If you are an aggressive investor with a mix of at least 75% stocks, why would you take a conservative approach with your debts?

The only answer I can come up with is one I was faced with myself a few years ago: When your current cash flow can't service your debt load, it's clearly time to get rid of some of the monthly payments somehow. Does anyone else have another solid, logical reason for paying off debts other than the standard "it's a psychological win"? When I hear that, I think of a car warranty. It makes you feel warm and fuzzy, but it doesn't really do much for you.

Obviously there is no wrong answer here and it's a personal choice, I just thought this forum would be closer to 50/50 based on previous answers I've read.

I have no debt but did vote to pay it down first, and that is exactly what I did to get to this point.

60/40 equity/fixed income.

"Your creditors can call in your debt at any time for any reason" is what separates it from a bond.

When the SHTF, everything is likely to go at the same time.

Imagine this scenario:

MAJOR environmental/industrial/other disaster.
Your house is destroyed, fortunately no major injuries to you or your family.
This disaster puts economic stress on not only you but your employer, and your creditors.

Your employer goes under, putting you out of work.
Your creditors need cash flow and they call in your debt.

You just got a triple whammy.

It's NOT just a psychological win to pay off debt. You are removing a liability that could tip you over the brink. Being appropriately insured and having an emergency fund only go so far.

I personally think you are in a better situation with debt in that scenario because you can always stick it to your creditors.  Hand them the keys to your now worthless assets that secure the loan and move on.

Also I don't think most secured debt is callable, mortgages aren't.

[Freedom2016]

I voted pay off debts because I'm thinking about it from a cash flow perspective. I have variable income and breathe a lot easier having eliminated about $1000/mo in debt payments.

[clifp]

I put invest in to the poll, but I can understand where paying down debts will ease the burden on the shoulders, and whatever is an acceptable risk that will let you sleep at night is the choice that's good enough.

What I am sure of is that people will take on the risk today,
but when it comes down to a pinch in the future,
gut feelings will usually override the initial bravado as everything starts to slide downhill.

If you're caught in the situation where your primary income is gone,
And you have a huge mortgage hanging over your head,
AND your investments are in the downturn
then all of the justified percentages,
all the math
and all of the advice feels worthless in that moment.

As I said in my earlier post, every situation is unique.   But it isn't clear which situation mortgage or no mortgage will create more sleepless nights.

Imagine two couple in their mid 50s, one person has already quit work and the other was planning on quitting in the next 5 years.  Great Recession II hits and lose their job.
One started the recession with $1 million and 300K house and no debt
The other has 1.25 million in investments and 250K mortgage at 3.5% interest and 300K house. Payments are 1122/month.

Now if everything house and investment both drop 30% while the debt free couple has more assets 700K +210K house, the couple with a mortgage has a lot more flexibility.  They have $875K in investments a 210K house -250K mortgage.  The additional $175K in investment makes a lot of $1122 payments.  If say the market stabilize at -30% but housing prices continue to drop in their area to say 50% like happened (and worse) in many parts of the country. The couple with mortgage actually has the option to walk away from their mortgage and sufficient cash to buy a $300K house for $150K and would come out slightly ahead.

Now plenty of people would prefer being in the situation with no debt, but there is a fair number would rather have more liquidity.  Both are valid viewpoints. Financially in certain circumstance either could be  superior.

[GregO]

This article is another great resource on this subject for anyone with a little spare reading time. IMO, there are a lot of great points on both sides of this argument. Very well thought out.

That was an excellent article to read, just for my own education.  I have a mortgage that I'm not prepaying on, and it was great to read the article and understand the pros and cons.  Very detailed and well-explained.

Anyway, I would agree with you that I'd invest before prepaying a mortgage.  But I'm not nearly as convinced that investing is superior if its another form of debt, especially if the debt is smaller.  I think a major point that I've heard made many times is very applicable to this discussion: the benefit from paying off debt (typically) isn't realized until the debt is completely paid off and you have an increase in cash flow each month.  So if it will take many years to pay off a loan, like a mortgage, than you are likely in a worse financial position until the debt is paid and the monthly payment is freed up.  But if it's a smaller debt, it may make more sense to pay it off and remove the monthly obligation.

I guess the logical solution to a larger debt would then be to invest money until you have enough to pay off the debt.  Then you are in the position to either a) pay it off immediately and lower your exposure to risk or b) let it ride until you have a need to pay off the debt, with the understanding that you could lose some of your profits if you are forced to sell at a low point in the market.  But most people would likely let their money ride if they were in that situation with a mortgage, at least in today's rate environment.  If rates start to climb, the scale might tip the other way.

On the flip side though, I think the best point made in the article against investing was at the end:

For every 10 people who claim to be making the minimum mortgage payment and investing the difference I would hazard a conservative guess that more than half fail to follow through on the investment part of the equation. The road to financial mediocrity is paved with the best intentions. In other words, an optional savings program that requires self-discipline is frequently no savings program at all. Contrast this with someone who places a 15 year, biweekly mortgage on their home thus creating enforced discipline. One happens with certainty regardless of life’s wrinkles… the other is optional.

Sticking to an investment plan is very hard, and riding investments through a down market is also hard.  Just because I think I'd be able to stick with a plan like this doesn't mean everyone would or that it's the best choice for everyone.

[G-dog]

The short answer is vanguard and index funds like vtsax. Set it and forget it. The long answer is to go read the jlcollins stock series. Then come back and ask questions in the investor alley here.

Thanks Mr. Cheddar for the reply. I keep hearing about this Total Stock Market Index Fund Admiral Shares and how good it is. I would like to start a Roth IRA as soon as possible. I was thinking of decreasing my 401k and dropping extra money into a Roth IRA, because I do not get that high of a match from my company nor do they match it that high either or keep contributing to my 401k and start a Roth IRA to hit that 5.5k amount.
I have read a little from JL Collins. I did start the Four Pillars of Investment, but I lost interest in it. Thanks for the suggestions.

Exactly this.  The jlcollins stock series is simple and straightforward - they are a non-intimidating easy read.  Check the expense ratios on the funds you are interested in, try to invest at the Admiral fund level if you can to get even lower expense ratio (ER).

You really cannot screw this up. The mistake is waiting/or not acting. And yes- it is intimidating.

G-dog, Thanks for the advise as well. This really means a lot. I am going through stock series right now and looking up terminologies as we speak. Sadly, I have waited on Roth IRAs and investing for almost a year now. :/ But it is time to start now!

It takes 5 years for the Roth to vest, which is another reason why earlier is better.  But, the urgency in my note is because I was (am) in the exact same situation as you, cash heavy. I had to force myself to take the plunge, it is easy to procrastinate and hours become days, which become weeks, then months... You are paying yourself (future you), no need to wait. And, the market fluctuates, but you are in for the long term. Try not to get nervous and trust that time is on your side.

[och4]

It takes 5 years for the Roth to vest, which is another reason why earlier is better.  But, the urgency in my note is because I was (am) in the exact same situation as you, cash heavy. I had to force myself to take the plunge, it is easy to procrastinate and hours become days, which become weeks, then months... You are paying yourself (future you), no need to wait. And, the market fluctuates, but you are in for the long term. Try not to get nervous and trust that time is on your side.

G-dog, what do you mean by 5 years for the Roth to vest. To invest? To increase its amount or 5 years for you to withdraw. However, I can only assume you are younger than 59 1/2, I am 28. I can't withdraw that money without penalty without a home purchase or serious disability or something else terrible happening. Could you please explain this?

When should I invest in a Roth IRA? As in tonight? Tomorrow? Next Week? Next Month? How long is too long? But what do I need to know before investing in Total Stock Market fund, VTSAX? I like Vanguard at this moment, but I think they are best because they are cheaper. I don't really know why they are better than other options. I think I understand why VTSAX is good to start out with, but I don't know why others funds isn't as good as VTSAX. I haven't created an account with Vanguard or done anything else other than researching Vanguard and VTSAX again.

What should I know first? And where should I start before diving into Roth IRA & VTSAX?

[Cheddar Stacker]

It takes 5 years for the Roth to vest, which is another reason why earlier is better.  But, the urgency in my note is because I was (am) in the exact same situation as you, cash heavy. I had to force myself to take the plunge, it is easy to procrastinate and hours become days, which become weeks, then months... You are paying yourself (future you), no need to wait. And, the market fluctuates, but you are in for the long term. Try not to get nervous and trust that time is on your side.

G-dog, what do you mean by 5 years for the Roth to vest. To invest? To increase its amount or 5 years for you to withdraw. However, I can only assume you are younger than 59 1/2, I am 28. I can't withdraw that money without penalty without a home purchase or serious disability or something else terrible happening. Could you please explain this?

When should I invest in a Roth IRA? As in tonight? Tomorrow? Next Week? Next Month? How long is too long? But what do I need to know before investing in Total Stock Market fund, VTSAX? I like Vanguard at this moment, but I think they are best because they are cheaper. I don't really know why they are better than other options. I think I understand why VTSAX is good to start out with, but I don't know why others funds isn't as good as VTSAX. I haven't created an account with Vanguard or done anything else other than researching Vanguard and VTSAX again.

What should I know first? And where should I start before diving into Roth IRA & VTSAX?

If you invest directly into a Roth IRA you can withdraw the principal at any time and any age without penalty or tax. If you withdraw earnings before 59.5 you will pay a penalty.

If you convert 401k/IRA funds into a Roth IRA you have to wait 5 years before you take the funds out (maybe not if you're over 59.5 - not sure on that).

You should invest in a ROTH IRA/401K/Traditional IRA/Taxable account as soon as you can so you don't miss out on potential gains. You might also lose money, but overall it should go up long-term.

VTSAX is great. It's invested in many companies, and it has a low cost. There are plenty of other funds out there, and this one will get you a diverse group of companies but not a proper diversification among all the asset classes so you should look at others as well.

None of us will be able to tell you if you should do a 401k, a roth ira, a traditional ira, or a taxable account unless you provide details about your situation like age, income, goals, etc.

[SummerLovin]

Both! One for me, one for you, one for me, one for you...
If I can pay my debt off in 1yr or less, I'd focus on the debt, but if it's going to be a while, I need to invest in me, and the longer I put it off, the longer I have to wait until I'm FI.
There are so many considerations that I see why people get into "analysis paralysis".  High interest CC debt should definitely be a priority, as well as tax advantage investments that can't be raided by creditors.

[Dezrah]

To dsiee, tyd450, and anyone else who wants to pay down debt but is worried about leaving too small a cushion for emergencies in the short term:

Consider using a sinking fund strategy.  The idea is you set aside the amount you want to pay toward the mortgage/other debt into a low risk taxable investment account (probably bonds or income funds) and do not touch it.  When you’ve accumulated an amount equal to the remaining principal of the debt, you cash out the investments and pay off the debt in a lump sum.  If a super serious emergency comes up – and it has to be serious enough that you would basically be willing to take out a home equity loan for it – you’re covered without incurring further debt or falling behind.

The added risk for this strategy, besides the obvious risk of depreciation of investments, is this account is relatively unprotected if you are ever found liable in a lawsuit.  Retirement accounts and primary housing are very hard to take away from an individual but taxable investments are pretty much fair game.  If protecting this account is vital to your long-term financial viability, you might consider additional umbrella insurance.

[boarder42]

retirement accounts are protected... how sweet is that... all my monies are tied up in houses or retirement accounts... good information to have ... incase i get sued for some reason... i look like a broke ass dude.  networth 250k... monies you can take 3k.  saweeet!!!

[MooseOutFront]

Just assume it's not a hair on fire credit card type situation, and everything else is within the range where a reasonable person would ask themselves this question.

I like this simple way to look at it.  If a reasonable person is asking this question then the interest rate on the debt is relatively low, the person can afford to carry it, and their investment time horizon is decently long.  Invest!  In my opinion.

[Dicey]

Just assume it's not a hair on fire credit card type situation, and everything else is within the range where a reasonable person would ask themselves this question.

Funny, I was going to answer but decided there were so many variables that I'd skip voting and just read the comments until I saw this.

As a fifty something who's happily FIRE, I have to shout (based on the above clarification), "INVEST, dammit!".

The more you invest early in life, the less you need to save to fund your retirement. Let compound interest work its effortless magic while you work your butt off to pay off your "stupid" debt.  Please note I said INVEST, not save. Saving in a virtually zero interest bank account won't get you there. It will help you buy a house, if that's a goal, but it must be invested for the long term in order to flee the rat race early.

If I had understood this earlier in life (and I've never had anything but mortgage debt and two small, cheap car loans on used vehicles), I could have retired at least a decade earlier.

I'm kind of a financial blog junkie and this point is not covered enough, IMHO. For example, my 22yo stepson just inherited about 80k. I am trying to convince him to that if he invests this money well, he will never have to save another penny for retirement. He just can't think that far ahead and I can't find much in the blogosphere that addresses this issue.

[BlueHouse]

Consider using a sinking fund strategy.  The idea is you set aside the amount you want to pay toward the mortgage/other debt into a low risk taxable investment account (probably bonds or income funds) and do not touch it.  When you’ve accumulated an amount equal to the remaining principal of the debt, you cash out the investments and pay off the debt in a lump sum.  If a super serious emergency comes up – and it has to be serious enough that you would basically be willing to take out a home equity loan for it – you’re covered without incurring further debt or falling behind.

Thanks Dezrah. I didn't know here was a name for my strategy. My spreadsheets tell me that if everything stays the same in my life (very unlikely) to include same job at same pay, that I could pay off my primary home in 8 years. However, as I see the balance on the sinking fun grow, I realize how much money it's earning each month, I think I may rethink the strategy as time goes on. I'm okay with that too. I like having the option.   
I'm a bit older than most on this forum. How many people plan to carry mortgages beyond retirement? 

[Cassie]

I just read that most people carry mortgages in retirement but actually that is a big mistake because paying it off leaves you with a much lower amount of money you need in retirement for your other expenses. I think it was in US Today I read that. 

[MooseOutFront]

I don't view a paid off mortgage a necessity for pulling the trigger on retirement.  If I still have one then that just requires me to be able to sustain the higher level of expenses.  My specific plans allow for the mortgage to stay and I use this as a bit of margin of safety.  It's an expense that could always be reduced in a downsize or it could be paid off if market returns allow it at some point after retirement. 

[JGB]

I just read that most people carry mortgages in retirement but actually that is a big mistake because paying it off leaves you with a much lower amount of money you need in retirement for your other expenses. I think it was in US Today I read that.

Paying it off also leaves you with a much lower amount of money available to cover your expenses. If we assume the mortgage rate is low (reasonable to assume in the current housing market; eventually this will likely become untrue), then the difference in what you don't have in $$$ is greater than the difference in what you are not forced to pay out.

So, from a sheer $$$ vs $$$ view, keeping the mortgage seems to be the best option. This does raise an interesting followup question, however, on how paying off a mortgage would affect your SWR...

[apfroggy0408]

I'm bumping this.

I'm 23 years old and in May had $21k or so in student debt that prior to finding MMM I tried to push off as much as possible, saving for a house down payment instead.

Then I found MMM and since then I only have my last student loan of $5,400 at 3.4% left. I'm an engineer so I over analyze the shit out of everything. I'm at 21% contribution to my 401k, not the max but well above employer match, and haven't done any work on IRA yet.

Paying down these loans has brought me down WAY below my comfortable "emergency fund" and as I plan on paying off my last loan next month it's going to drop me significantly below that number.

But who cares, I'm going to FEEL better about being debt free. Sure that $5,400 can make some decent coin over 10 years, and I expect that it would rather than wouldn't, but I want to be debt free so that's what I'm going to do.

My decision is not one based on risk, my 401k is in a 100% stock vanguard fund, when I get my IRA set up through Vanguard I'm going for stocks not bonds, and it's big risk to go under that emergency fund.

But who cares I'll be debt free and if a true emergency happens, well it's time to get creative. ;)

[solon]

I'm bumping this.

I'm 23 years old and in May had $21k or so in student debt that prior to finding MMM I tried to push off as much as possible, saving for a house down payment instead.

Then I found MMM and since then I only have my last student loan of $5,400 at 3.4% left. I'm an engineer so I over analyze the shit out of everything. I'm at 21% contribution to my 401k, not the max but well above employer match, and haven't done any work on IRA yet.

Paying down these loans has brought me down WAY below my comfortable "emergency fund" and as I plan on paying off my last loan next month it's going to drop me significantly below that number.

But who cares, I'm going to FEEL better about being debt free. Sure that $5,400 can make some decent coin over 10 years, and I expect that it would rather than wouldn't, but I want to be debt free so that's what I'm going to do.

My decision is not one based on risk, my 401k is in a 100% stock vanguard fund, when I get my IRA set up through Vanguard I'm going for stocks not bonds, and it's big risk to go under that emergency fund.

But who cares I'll be debt free and if a true emergency happens, well it's time to get creative. ;)

I love everything about this. You're going to do well!

[Captain and Mrs Slow]

Let me give a different perspective.

As mentioned elsewhere we had a ton of debt to get rid of and now being debt free and getting (too) fast to retirement (55 this year!!!!!) I realize that I focused too much on paying debt off. I should have applied the rule of paying myself first. In this case sending off a quarterly cheque for my DRIP stocks. It was so much that I could have made great money but that I never developed the habit of saving. Now I'm struggling to save and it's not easy if you've never ever saved money.

So while I vote of paying debt off I'd say get in the habit of paying yourself first even if it's not much

Edit: reminded myself and just sent off a cheque for a 100 dollars to Emera!

[teen persuasion]

As I was reading all the replies, I kept waffling back and forth.  Like other posters, my choice would depend on the details, and in the past I have definitely leaned towards eliminating debt.  BUT, our student loans were at 8%, and our mortgage  was at 9.75%, so those were no-brainers to payoff.  As soon as they disappeared, I shifted to investing all the freed up money, and more, to make up for lost time.  I was also learning more subtle financial ideas thruout the period, and so it has been a stepwise refinement as we went along.

Now we are debt free, so for us there is no choice to be made, it is all "invest".  If I had the ability to go back 10 or 12 years and decide again, with my current financial knowledge set, and yet ignorant of the market gyrations to come, I am not sure what I would choose.  I wasn't aware of the concept of FIRE then, so wasn't really aimed that way at the time, but if I'd known about it I THINK that I would have leaned more to the invest side.  It definitely would have been a balancing act, though.  No maxing out 401k or Roths prior to mortgage free.

[Scandium]

Interesting reading the reasoning for both sides.

But there's something I'm a bit confused about, I believe Mr. Cheddar (or Mr. Stacker) pointed out too; I don't totally see paying of mortgage as the "safe" or risk-averse option. In my opinion I view that as pretty risky. You're dumping your liquid assets into a non-liquid (or at least less liquid) asset. People mention wanting to pay off mortgage in case they loose their job etc. But what if you pay off a 30 year loan aggressively for 5-10 years. You monthly bill is still the same! You have gained no safety net at all. I guess you could sell your house and pocket the equity if you need, but that does not sound optimal. Or you could refinance and extract equity, but good luck doing that right after loosing your job. (I realize HELOC is an option). The pay-down-mortgage strategy only gain you safety the moment you finish it, up until that point  it is way riskier (IMO).

Personally I like seeing the cash in my taxable investment account, because it is liquid and I could get it at any time. I considered paying extra on my mortgage for a while, but in the end found that I don't like the risk of tying up my money that way. I'd rather invest it, have it accessible in an emergency, and then pay of the mortgage in one lump sum at some point if I feel like it. Even splitting the difference I decided wasn't worth it for these reasons.

[cpa cat]

Personally I like seeing the cash in my taxable investment account, because it is liquid and I could get it at any time. I considered paying extra on my mortgage for a while, but in the end found that I don't like the risk of tying up my money that way. I'd rather invest it, have it accessible in an emergency, and then pay of the mortgage in one lump sum at some point if I feel like it. Even splitting the difference I decided wasn't worth it for these reasons.

It's totally emotional. My husband and I decided to fast-track our mortgage because we decided it would have made us feel better if our house had been paid off during the recession - when we were staring down our 30% portfolio losses. I'm a tax accountant. I can write you a detailed argument as to why we should not pay down our house - with math and stuff.

But feeeeeelings.

That said, I agree with you on the "What if I lose my job" angle. Emotionally, the savings are going to make you more secure than your half-paid-off mortgage.

We have plenty enough in investments to pay off our home. The math still doesn't support withdrawing it and paying the mortgage. The smart money is locking in a low interest rate now, for as long as possible. A ten year mortgage was a compromise between keeping a mortgage payment and paying it with a lump sum - but it's still a compromise between feelings and math.

[MooseOutFront]

I have about $90k in equity in my home and this idle amount of capital makes me uncomfortable.  This thread motivated me to get on the ball and open a $40k HELOC.  Still in underwriting and will close in a couple weeks, but I look forward to having this available as an optional life buffer.