Author Topic: Replace Cash Reserves with HELOC? What do you think?  (Read 1631 times)

frugaliknowit

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Replace Cash Reserves with HELOC? What do you think?
« on: March 11, 2016, 10:08:30 AM »
Hi All!  I Have been pondering this for a long time:  Soon I will be in a position where my cash balances will equal my mortgage balance (approximately November 2016).  I have been pondering the risk/return of paying the mortgage off at that point and opening up a heloc to serve as cash reserves (at least until my cash levels are comfortable).

Age:  57, single man

401K:  Discontinued in 2010, rolled over to Vanguard.  I max a roth every year and throw some extra in a non-retirement Vanguard account.  There’s plenty of “basis” in the roth to use without any penalties, plus I will be 59.5 in a bit over 2 years anyway (though I would hate to touch any of this, especially in a down market).  I am planning to work to age 70 (as long as possible).  I am super fit and in excellent health (no meds!).

Debt, other than mortgage:  $0

Mortgage:  $64K, paying off about $1100 in principle per month (thus $57ish soon).

Cash maintained:  $57,500.  This is based on the following: 
One year’s expenses ($3,000 X12 (single income with difficult to replace job) = $36,000), the cost of buying a decent car if needed (I work and live in a dense urban area where I rely on a bike, transit, uber, and taxis).  This could easily happen if I had to replace my job quickly and needed to take a suburban gig (it happened to a guy I worked with…he had to work suburban for a while, then found work in the city…).  Roth contribution for 2017 ($6500).

Summary of $57,500 figure:  1 year’s expenses:  $36,000 (it would be $27,600 with no mortgage)
                            Car if needed in a pinch:  $15,000
                                           2017 Roth:  $6500 (I “save up” for Jan 1 Roth contributions).

$36K + $15K + 6.5K=$57.5K (this is my current comfort level).   

Yield on the $57.5:  About 2.5% pre-tax, 1.75% after tax (high yield checking accounts/jumping through hoops…).

Mortgage Rate:  4.0 (no longer deductible as it’s too small…)
Difference:  2.25% after tax

Scenario in question:
•Around November 2016, destroy the mortgage and simultaneously take out a heloc (cash $0/heloc for comfort).  I will be able to build cash at the rate of $15,340 (590 per paycheck times 26 or approximately 1278 per month) per year.

•Defer my usual process of Jan 1 roth contribution on Jan 1 2017 to April of 2018.

•Defer my usual process of Jan 1 roth contribulton for 2018 to April 2019.

Projected cash Balances:

Nov. 2016:  $0
Nov. 2017:  $15, 340 (6.7 months expenses)
April 2018:  $23010 - $6500 (IRA) = $16,510 (7.18 months expenses)
April 2019:  $31,850 - $7000 (IRA (I’m thinking contribution limits will go up))=  $24,850 (10.8 months expenses).

Ugly Scenario:
Lose my job somewhere between Nov. 2016 and April 2019 and need a car so I can take a suburban gig.  If it took a year to land a job, I could be in the hole $32,400 (on a variable rate) plus whatever I spend on a car.
I know what Dave Ramsey would say…



Telecaster

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Re: Replace Cash Reserves with HELOC? What do you think?
« Reply #1 on: March 11, 2016, 10:40:36 AM »
We had a thread or two about the e-fund.  My opinion and I think the general consensus was that you safely have a very small one, just a couple month's expenses is typically fine.

If I may I'd like to offer another option:  don't kill the mortgage.  Instead invest however much of your e-fund you feel comfortable with in a regular brokerage account.   If there is an emergency, you can still access the money.  There is a risk that the market could do down, and so you won't have access to the full amount of course.  But emergencies are rare (by definition), and there is a chance the market could go up too.   

Another thing that might stack with that option is to also open a HELOC.   Then in the event of an emergency you can make a judgement call which is the better source of funds to access.   

frugaliknowit

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Re: Replace Cash Reserves with HELOC? What do you think?
« Reply #2 on: March 11, 2016, 11:28:23 AM »
Thank you for your reply, Telecaster.

While the 4% savings in mortgage interest (before and after tax) is lower than the expected return on stocks, I would prefer to get rid of the mortgage as soon as practical in order to have lower living expenses and more flexibility in the employment market, especially as the years go by.

BMEPhDinCO

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Re: Replace Cash Reserves with HELOC? What do you think?
« Reply #3 on: March 11, 2016, 07:15:13 PM »
Get rid of the mortgage, but wait until Jan. 1st - that will give you a little bit extra in cash so you won't be drawing down to $0.

Also, if you needed a car really fast, you could get *something* for $5-6k, no need for the $15k.  Plus, that would assume you'd have different living expenses as well since you'd move somewhere new.  Plus, then you'd have a job and no need for a year reserve.  And $3k per month is high for a single person outside of the cities.  We spend around $2,200 comfortably for two - if you add insurance in, that's more like $2,800 but still lower than your monthly.