Author Topic: What is the magic pay down your mortgage rate?  (Read 27235 times)

diversify

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What is the magic pay down your mortgage rate?
« on: January 03, 2015, 05:49:18 PM »
Obviously there is lot's of back and forth on whether to pay down a mortgage or instead invest those assets at what will hopefully be a higher after tax return.  My question is, what do most people feel is the magic number (mortgage rate) that would justify paying down the mortgage vice investing the money elsewhere?

ruraljuror

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Re: What is the magic pay down your mortgage rate?
« Reply #1 on: January 03, 2015, 07:01:18 PM »
For me, I would be paying extra toward the mortgage, or any debt, if it were over 4.5. Maybe not all investable funds, but at least a sizeable portion.

YeahNo

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Re: What is the magic pay down your mortgage rate?
« Reply #2 on: January 03, 2015, 07:05:23 PM »
I'm at 4.25% and aggressively paying down principal each month.

arebelspy

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Re: What is the magic pay down your mortgage rate?
« Reply #3 on: January 03, 2015, 09:55:35 PM »
It depends on a number of factors, among them: if you itemize on your taxes, what your opportunity cost is, your thoughts on debt/leverage, etc.

For me, I've mentioned before I'd borrow money at 10% if it was fixed, long term (i.e. no balloon).  8% if it was short term.

For me without certain opportunities I have right now (say in a few years), maybe 7-8% if it was fixed long term.

I think anyone paying down something under 5% is a little silly, and under 4% is quite silly, and under 3.5% is giving away free money due to inflation, reducing the success chances of their FIRE, and misguided if their SWR is above their mortgage rate (i.e. they're depending on a 4% SWR).
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Re: What is the magic pay down your mortgage rate?
« Reply #4 on: January 03, 2015, 10:21:45 PM »
I'll pay down 4% and up because I'm neurotic and overly conservative. You could make an argument for a 5% limit or even a bit more. As Arebelspy notes, it's going to depend on the circumstances. It also will depend on your risk tolerance. There is not a right or wrong answer, really. Mathematically, and over a long period of time, anything below the expected return of your investments isn't worth paying off, but you can get yourself in a lot of trouble in the short term that way.

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sol

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Re: What is the magic pay down your mortgage rate?
« Reply #5 on: January 03, 2015, 10:36:16 PM »
Lately I've been thinking about this question in much the same way I think about Lending Club loans.  The whole point is to build a risk/return spread that you're comfortable with.  That means there isn't any one rate that is "inappropriate" for your asset mix as long as the risk is proportional to the reward, and the balance fits in with the rest of your investments as defined by your objectives.

So to translate to the mortgage question, I wouldn't normally commit ALL of my investment money to a single low-return investment like paying off my mortgage, but I can see the benefit in allocating a portion of my monthly investments to that purpose as long as there is a balancing portion going to something else with a higher return, and presumably a higher risk.

MDM

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Re: What is the magic pay down your mortgage rate?
« Reply #6 on: January 03, 2015, 10:39:27 PM »
5.5% +/- 3% would cover most cases. ;)

The correct number is best viewed using hindsight glasses.  My crystal ball currently displays a hazy 5ish% as the over/under for your question.


diversify

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Re: What is the magic pay down your mortgage rate?
« Reply #7 on: January 03, 2015, 11:49:21 PM »
Thanks for the responses, they pretty much confirm what I was thinking.  I have a number of mortgages and HELOCs ranging from 3.5% - 4.625% due to owning a few rental inexpensive properties as well as my residence.  They don't bother me too much because I am very cash flow positive on the rentals and the properties have already appreciated substantially. My wife, however, tends to be more conservative and thus worry more about them which in turn can cause me pain/aggravation. 

Hey It's Me

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Re: What is the magic pay down your mortgage rate?
« Reply #8 on: January 04, 2015, 12:06:35 AM »
Inflation averages around 3.8% (although it's been lower in the past few years,) so paying down a mortgage with an interest rate of under 3.8% is just plain silly in the long-term. That said, there is a certain degree of bliss, I'd imagine, from not having to pay that mortgage payment each month after you're free of that debt...

gooki

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Re: What is the magic pay down your mortgage rate?
« Reply #9 on: January 04, 2015, 01:25:00 AM »
5%

Spondulix

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Re: What is the magic pay down your mortgage rate?
« Reply #10 on: January 04, 2015, 02:26:07 AM »
I think it totally depends on how much is in your investment accounts, and what your mortgage balance is, too. I would look at the amortization table of the loan and calculate how much interest you are paying in a year, and compare that to your investments with a moderate gain.

For example, my mortgage is 3.85% with balance around $275k. My monthly payment is about $1400, and $900 of that is interest every month. This year, I'll pay about $11k in interest. My brokerage account would have to have $100k balance already and earn over 10% interest to even break even!

So even with a low interest mortgage, it might not be the right choice.

clifp

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Re: What is the magic pay down your mortgage rate?
« Reply #11 on: January 04, 2015, 03:22:50 AM »
It depends on a number of factors, among them: if you itemize on your taxes, what your opportunity cost is, your thoughts on debt/leverage, etc.

For me, I've mentioned before I'd borrow money at 10% if it was fixed, long term (i.e. no balloon).  8% if it was short term.

For me without certain opportunities I have right now (say in a few years), maybe 7-8% if it was fixed long term.

I think anyone paying down something under 5% is a little silly, and under 4% is quite silly, and under 3.5% is giving away free money due to inflation, reducing the success chances of their FIRE, and misguided if their SWR is above their mortgage rate (i.e. they're depending on a 4% SWR).

More than most decision taxes matter a lot in paying off mortgage or not. So it is real important not only to figure out what your likely tax savings are next year but what they might be in 3-5 years with raises etc. figured in.  After you have factored in taxes this will you give a true after tax cost of the money. I then compare to investment opportunities.

So for instance if you are firmly in the 25% bracket, with other deductions a 4% mortgage really only cost 3%.  If you invest the money in the stock market you'll earn on average 9% which after15% capital gain tax is equal 7.65%.  7.65% is a lot of higher than 3%. Of course paying off the mortgage is a guaranteed return and investing in the stock market in any one year is anything but. However, after 5 year period of time more than 75% they will be greater than 3%, and more 50% of the time they'll exceed 10% after tax.  I expect the number are similar for most real estate investment.

As rule of thumb goes I completely agree with Arebelspy.

chasesfish

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Re: What is the magic pay down your mortgage rate?
« Reply #12 on: January 04, 2015, 06:06:57 AM »
It depends on a number of factors, liquidity, taxes, alternate investments available, and your personal comfort.
If the rate is under 5%, you mathematically win by investing the difference over a 15 year time frame.  This is even better if you aren't maxing out your retirement accounts and you don't have to take into account the deterioration tax rates have on your annual return. 

That being said, there are other things to consider:  How much do you value a free and clear house? Are you in a situation where you need to manage your income and a free and clear house is worth more than investments generating cash?  Are you already on a 15 year or less mortgage (the spread in rate is significant between getting a 15 year or a 30 year).

Personally, I aggressively paid down our second house we spent almost 7 years in and got very close to paying it off.  The next house rates were so good I put 20% down and took out a 15 year and didn't prepay that one much, mainly because it was 3.25% and I could still pickup some nice dividend paying stocks that exceeded that number.

JLee

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Re: What is the magic pay down your mortgage rate?
« Reply #13 on: January 04, 2015, 09:46:40 AM »
I think it totally depends on how much is in your investment accounts, and what your mortgage balance is, too. I would look at the amortization table of the loan and calculate how much interest you are paying in a year, and compare that to your investments with a moderate gain.

For example, my mortgage is 3.85% with balance around $275k. My monthly payment is about $1400, and $900 of that is interest every month. This year, I'll pay about $11k in interest. My brokerage account would have to have $100k balance already and earn over 10% interest to even break even!

So even with a low interest mortgage, it might not be the right choice.
If you paid an extra $1000/mo on your mortgage, how much interest would you save?

If you invested an extra $1000/mo at 8% average return, how much interest would you earn?

C-note

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Re: What is the magic pay down your mortgage rate?
« Reply #14 on: January 04, 2015, 10:01:50 AM »
For us, there are lots of factors in the decision to pay down the mortgage.  The mortgage rate is just one factor.

Our rate is 3.25% so many may feel we should not be paying down our mortgage.  The other factors are our ages (early/mid 50's), our current nest egg ($1.25M), our mortgage ($200K), and our ability to continue to chuck money at our nest egg and pay down the mortgage.

We plan to have it paid off in 8 - 9 years.  Projections put our nest egg at about $2M (based upon our current contributions and our past performance (ROI).  Within a couple of years of paying off the house, we'll sell it and downsize.

We believe now is the time to knock off our last debt - the mortgage.

Lots of things to consider beyond the mortgage rate.

apennysaved

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Re: What is the magic pay down your mortgage rate?
« Reply #15 on: January 04, 2015, 10:44:13 AM »
My husband and I are paying down our mortgage and it is at 3%.  The primary reason is that we realized that it could be paid off in less than 2 years, so sometime between May - October of this year.  We have been living in the same house for a number of years. The house payment is our only debt, so having that monkey off our back will pretty much allow my husband to walk away from his job at anytime.  We do have other investments that should be able to cover the rest of our expenses, and I am a realtor and plan to take a few jobs here and there just in case. We are so close to FIRE, we can barely control ourselves.

If we weren't so close in paying off our house than I agree that it would make more sense to invest in something else.   Everyone's situation is different.

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Re: What is the magic pay down your mortgage rate?
« Reply #16 on: January 04, 2015, 11:19:26 AM »
Ours is 3.85% for 30 years and I'm in no hurry to pay it off.

If I had to pick a number... maybe keep anything under 5%?  Historically that's a pretty awesome rate, and over the course of 30 more years it's likely to look more awesome.

But only if you have the discipline to invest the difference long term.  That's the key.  Most normal folks fail that test and would be better served paying down their cheap mortgage :-)

BlueHouse

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Re: What is the magic pay down your mortgage rate?
« Reply #17 on: January 04, 2015, 05:37:26 PM »
The magic number for me is 60 (to get it paid off (early) by the time I retire).  I'm putting about 1/3 of my monthly savings toward extra principal payment and the rest in what I've learned is called a "sinking fund".  I like the thought of getting rid of the pressure of the debt, but also want the benefit of the market forces.  So when I get enough in the sinking fund, I may pay off the mortgage altogether.  If I decide not to use it to pay off the mortgage balance, then at least the 1/3 extra principal will get me to house paid off before normal retirement. 

powersuitrecall

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Re: What is the magic pay down your mortgage rate?
« Reply #18 on: January 05, 2015, 01:51:51 PM »
In case there are other Canadians reading this, I'd like to hear your perspective.  There are some notable differences which make paying down mortgages early a little more attractive than in the US:

1. There is no tax write-off on mortgage interest.  Mortgages are paid with after-tax dollars, and income tax is relatively high here compared to the US, so your investments have to beat your mortgage rate to make it worthwhile.

2. Terms are typically 5 years max.  It is possible to lock in for 10 years, but it comes with a cost and most people don't do it (The current 5 year rate is ~3% while the 10 year rate is ~5%).  Paying off the mortgage earlier protects you against future rate hikes.

Our story: We decided to do triple payments on our 3.69% mortgage.  We are about 4.5 years in and have knocked off 75% of the principle.  We always assumed that the rates would have shot sky high by now, but obviously they haven't!

We plan on keeping up this strategy until our renewal in half a year, when we'll refinance at a great rate and pay the rest out at the minimum.

ShoulderThingThatGoesUp

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Re: What is the magic pay down your mortgage rate?
« Reply #19 on: January 05, 2015, 01:59:57 PM »
My house is paid off because I don't like debt and paying it down has a guaranteed return. To those advocating keeping it - would you suggest I get a hypothetical HELOC at 4%? That sounds like craziness, but it's equivalent to not paying off your mortgage (depending where you are in the amortization table).

Goldielocks

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Re: What is the magic pay down your mortgage rate?
« Reply #20 on: January 05, 2015, 02:12:05 PM »
In case there are other Canadians reading this, I'd like to hear your perspective.  There are some notable differences which make paying down mortgages early a little more attractive than in the US:

1. There is no tax write-off on mortgage interest.  Mortgages are paid with after-tax dollars, and income tax is relatively high here compared to the US, so your investments have to beat your mortgage rate to make it worthwhile.

2. Terms are typically 5 years max.  It is possible to lock in for 10 years, but it comes with a cost and most people don't do it (The current 5 year rate is ~3% while the 10 year rate is ~5%).  Paying off the mortgage earlier protects you against future rate hikes.

Our story: We decided to do triple payments on our 3.69% mortgage.  We are about 4.5 years in and have knocked off 75% of the principle.  We always assumed that the rates would have shot sky high by now, but obviously they haven't!

We plan on keeping up this strategy until our renewal in half a year, when we'll refinance at a great rate and pay the rest out at the minimum.

In addition to the age / personal comfort factor  noted by others, (e.g., no mortgage when retired) a specific concern for me (a canadian) is imagining the risk to me of an increased mortgage rate at renewal (or if variable), and whether I can easily absorb an increase of 3% on the mortgage rate.

I don't want to be forced into selling my home or taking out equity to meet mortgage payments in future.   In a high COL area, with an excessive mortgage amount, this really matters.

This leaves two solutions -- a sinking fund / investment pool to draw upon for mortgage payments (if needed) in future, (my current choice) or faster pay-down of the mortgage directly,now, with refinancing to longer armortization in the event rates increase a lot.  I don't like the second option as it impacts my goal of retiring without a mortgage debt.   The first option has a benefit of being invested outside of RRSPs and can be used for anything, including long term savings, with minimal tax impacts, if everything works out well.
« Last Edit: January 05, 2015, 05:25:57 PM by goldielocks »

minimustache1985

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Re: What is the magic pay down your mortgage rate?
« Reply #21 on: January 05, 2015, 02:13:05 PM »
I'd say 5% UNLESS there is PMI, which effectively raises the rate way higher on a portion of the loan.

I will stop adding extra principal to the payments once our PMI is gone, but until then it's the best use of $ I have once retirement accounts are maxed.

Guses

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Re: What is the magic pay down your mortgage rate?
« Reply #22 on: January 05, 2015, 02:17:13 PM »
In case there are other Canadians reading this, I'd like to hear your perspective.  There are some notable differences which make paying down mortgages early a little more attractive than in the US:

1. There is no tax write-off on mortgage interest.  Mortgages are paid with after-tax dollars, and income tax is relatively high here compared to the US, so your investments have to beat your mortgage rate to make it worthwhile.

2. Terms are typically 5 years max.  It is possible to lock in for 10 years, but it comes with a cost and most people don't do it (The current 5 year rate is ~3% while the 10 year rate is ~5%).  Paying off the mortgage earlier protects you against future rate hikes.

Our story: We decided to do triple payments on our 3.69% mortgage.  We are about 4.5 years in and have knocked off 75% of the principle.  We always assumed that the rates would have shot sky high by now, but obviously they haven't!

We plan on keeping up this strategy until our renewal in half a year, when we'll refinance at a great rate and pay the rest out at the minimum.

We throw every extra "loonie" that we have at our mortgage after maxing* our registered retirement accounts and TFSA.

Although our mortgage is under 3%, we would need to earn a garanteed 5% to beat paying down the mortgage. I am not seeing this anywhere in the market right now. Also, my mortgage will be ballooning upon renewal next year.

From a cashflow perspective, having a mortgage 75% paid off is no better than having it 0% paid off. As long as you have a mortgage, you need to make your payments or you a screwed. Because of this, we are aiming to finish paying off our mortgage completely mid next year.

*Maxing our accounts represents investing 20-25K/year


SK Joyous

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Re: What is the magic pay down your mortgage rate?
« Reply #23 on: January 05, 2015, 02:45:08 PM »
In case there are other Canadians reading this, I'd like to hear your perspective.  There are some notable differences which make paying down mortgages early a little more attractive than in the US:

1. There is no tax write-off on mortgage interest.  Mortgages are paid with after-tax dollars, and income tax is relatively high here compared to the US, so your investments have to beat your mortgage rate to make it worthwhile.

2. Terms are typically 5 years max.  It is possible to lock in for 10 years, but it comes with a cost and most people don't do it (The current 5 year rate is ~3% while the 10 year rate is ~5%).  Paying off the mortgage earlier protects you against future rate hikes.

Our story: We decided to do triple payments on our 3.69% mortgage.  We are about 4.5 years in and have knocked off 75% of the principle.  We always assumed that the rates would have shot sky high by now, but obviously they haven't!

We plan on keeping up this strategy until our renewal in half a year, when we'll refinance at a great rate and pay the rest out at the minimum.

In response to this (and in general) we look at pre-paying our mortgage in two ways:

1. Something that MUST be paid off by the time we retire, and hopefully earlier to free up cash flow to throw at the nest egg for the last few working years; and

2. As a part of our portfolio, in the 'low-return' area at current interest rates.  Even though it has a 'low return' at our 3.25% interest rate, that is still better than what many bonds are getting, and so I put it in that category of our investments.  Just because something has a lower return (and low risk) doesn't make it pointless; it is about a balanced approach to risk management. 

Discussions like this are always so interesting for getting different perspectives!  Thanks everyone!

RFAAOATB

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Re: What is the magic pay down your mortgage rate?
« Reply #24 on: January 05, 2015, 03:02:06 PM »
I am two years in on a $130k 3.25% 30 year fixed and payed ahead to get it down $117.8k.  I pay about $1000 a month when the payment is at $720.  I am paying ahead on my mortgage for two reasons.  One is I'm worried about job loss so the faster I pay it off the safer I will be.  The second is Fuck Wells Fargo.  My retirement savings are about $250 a month pre tax and maxout $460 Roth IRA. so realistically I should be bumping up my pre tax savings at the expense of bigger mortgage payments.  Of course, I want to go absolutely nuts on the mortgage, paying 2k a month and burn it all off in six or seven years, then immediately bump up pretax contributions to max out level.  If I don't do that, I'll be tempted to upgrade the house and use the current condo as a rental.  Hell I'm tempted to do that now even if the mortgage/condo fees/ property manager fees would cause me to break even on the rent.

I would be suspect to more lifestyle inflation if I did not send money to pre tax retirement, roth IRA, or the mortgage, and it's a lot easier to scale back when we go from 2 income to 1 income when the extra money.  As I am expecting a more expensive 2015 with less income, obviously I have to be willing to cut the extra payments and possibly the Roth contributions, but it is still a mental hurdle.

2. As a part of our portfolio, in the 'low-return' area at current interest rates.  Even though it has a 'low return' at our 3.25% interest rate, that is still better than what many bonds are getting, and so I put it in that category of our investments.  Just because something has a lower return (and low risk) doesn't make it pointless; it is about a balanced approach to risk management. 

Indeed, all my retirements are in stock indexes.  Mortgage prepayment is the substitution for conservative investment holdings.

Astatine

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Re: What is the magic pay down your mortgage rate?
« Reply #25 on: January 05, 2015, 03:24:54 PM »
With the caveat that I'm new to mustachianism and investing and the like, this is what went into my thinking about prioritising paying off our mortgage fast (we still contribute the maximum to our superannuation accounts though):

1) We're in Australia, not the US.

2) We have a redraw mortgage with a reasonable (although not great) interest rate for Australia of just over 5%. No restrictions on number of transactions or size of transactions in or out of the redraw account. So paying off the mortgage fast does not lock our savings away - they're very liquid and takes at most 3 days to get money from our redraw account.

3) When the mortgage balance gets close to zero, I will keep it at very close to zero (so we pay very little interest) while I gradually siphon off the redraw account for an emergency fund, and then start investing in an index fund. And THEN I will close off the mortgage.

4) Interest from investments will be taxed at a high rate as DH and I are both in fairly high tax brackets at the moment. TBH, I haven't checked this out in detail but in the past I have earned enough interest from parking house deposit money in an online bank account to have to pay significant tax on the interest (and then talk ATO out of billing me quarterly for interest, but that's another story).

5) Primary residence does not earn any tax deductions in Australia.

6) I thought through 3 scenarios when I got the mortgage: pay off as fast as possible, pay off a bit extra (I have a 30 year mortgage) so it gets paid off after 15 years or pay no extra and do the full 30 years while investing. The first and third options make sense to me but the second seems to be the worst of both worlds. The first option gives me essentially 5.1% return tax free, minimises the total amount of interest paid by a lot, and most importantly (given I have several conditions that could kill or disable me anytime from 5 years from now or I could have decades - who knows, plus my job security is a lot lower these days than it used to be), peace of mind for owning a house that cannot be taken away from me. The third option takes advantage of inflation, which is relatively low at the moment, but risks 7) below, health issues, loss of job only partway through the 30 years etc and doesn't give me peace of mind.

7) Our mortgage rate is variable. In the 80's in Australia, interest rates went up to the high teens. There is always that possibility again in the future. Paying down fast while interest rates are at historically lows is good for my peace of mind. I do not want to be in worst case scenario.

8) Emotional reasons. I'm aware that this is not fully rational looking at it objectively but it is rational for my mental health and peace of mind. Having my own place is something I value extremely highly and I do not want to risk losing it. Paying off my mortgage fast is the best way to guarantee to keep my house, balancing the broader economy and my own personal situation.

jopiquant

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Re: What is the magic pay down your mortgage rate?
« Reply #26 on: January 05, 2015, 03:34:44 PM »
+ to what Astatine said.

I'm in Canada, and our situation is different here too. No tax benefit from the mortgage, and we can't lock in a rate for 30 years. Instead, everyone renews their mortgages at the new balance at the end of the mortgage term, 1-7 years. The longest fixed rate terms are around 7 years, and the rates are higher for the peace of mind of having such a long term.

We are maxing out our retirement savings and only carry mortgage debt, so even though our rate is low now, we are paying fairly aggressively, and hope to be done with our mortgage at 12-13 years after we bought our home (we'll be just over 40). From a pure investing and opportunity cost perspective, sure we could do better investing our extra principal but we'd have to learn a lot more than we know today about investing, and we're pretty financially conservative. It works for us.

powersuitrecall

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Re: What is the magic pay down your mortgage rate?
« Reply #27 on: January 06, 2015, 08:13:20 AM »
And here I thought I might be one of the few mustachian Canadians paying down early, despite the possibility of making more with investments.  We still contribute to the RESP and TFSA (RRSPs are always maxed too).  We currently have no taxable accounts, and I'd like to keep it that way for as long as possible (and when we do, oh what a great problem to have).

2. As a part of our portfolio, in the 'low-return' area at current interest rates.  Even though it has a 'low return' at our 3.25% interest rate, that is still better than what many bonds are getting, and so I put it in that category of our investments.  Just because something has a lower return (and low risk) doesn't make it pointless; it is about a balanced approach to risk management. 

This is a really good way to look at it.  I hadn't considered my mortgage as being part of my allocation of "safe stuff".  As a result, I'm probably underweight in equities ... time to look at that!  Thanks for the perspective.

boarder42

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Re: What is the magic pay down your mortgage rate?
« Reply #28 on: January 06, 2015, 08:33:57 AM »
I think it totally depends on how much is in your investment accounts, and what your mortgage balance is, too. I would look at the amortization table of the loan and calculate how much interest you are paying in a year, and compare that to your investments with a moderate gain.

For example, my mortgage is 3.85% with balance around $275k. My monthly payment is about $1400, and $900 of that is interest every month. This year, I'll pay about $11k in interest. My brokerage account would have to have $100k balance already and earn over 10% interest to even break even!

So even with a low interest mortgage, it might not be the right choice.

this is 100% the wrong way to think about the OPs question.  by this logic unless you already had sizeable investments prior to purchasing a house it would never make sense to invest over pay down a mortgage. 

Say you have 10k extra to invest each year
Option 1) Invest in mortgage save 3.85%
Option 2) Invest in VTSAX MAKE 10-11% on avg each year

Its a very simple equation. 

boarder42

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Re: What is the magic pay down your mortgage rate?
« Reply #29 on: January 06, 2015, 08:36:53 AM »
My husband and I are paying down our mortgage and it is at 3%.  The primary reason is that we realized that it could be paid off in less than 2 years, so sometime between May - October of this year.  We have been living in the same house for a number of years. The house payment is our only debt, so having that monkey off our back will pretty much allow my husband to walk away from his job at anytime.  We do have other investments that should be able to cover the rest of our expenses, and I am a realtor and plan to take a few jobs here and there just in case. We are so close to FIRE, we can barely control ourselves.

If we weren't so close in paying off our house than I agree that it would make more sense to invest in something else.   Everyone's situation is different.

This is one of the only reasons i see paying of a mortgage early as valuable.  To reduce your tax exposure in retirement.  I may do the same thing when i get close to retirement.  But all options will have to be weighed to see which is the most tax advantageous. 

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Re: What is the magic pay down your mortgage rate?
« Reply #30 on: January 06, 2015, 09:03:46 AM »
In the U.S. ....5% for me.

10% gained in the market vs 5%(or less) paid to the banks

I see it as leverage.  My house is going up in value (no matter how much I owe on it) so why not keep as much money as I can (avoiding PMI) in the markets and have that grow as well.  If the market takes a huge dip (greater than 25%) I will pull some money out of my house (HELOC) and buy the dip.  It is risky, I understand that, but the bank stops me from going over 80%, giving me 20% equity in case of a major housing crash, not likely in the DC area.     

Those of you living in The Great White North, I see it differently.  Without having the ability to lock in a rate it creates a lot "possible" risk down the line and not having the mortgage deduction tax break would raise my percentage as well.   


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Re: What is the magic pay down your mortgage rate?
« Reply #31 on: January 06, 2015, 09:54:19 AM »
Depends on the market, and the debt.

I keep a percentage of money on the side for when a stock/ stocks get cheap. If market is going up (everything all the time) I hold my positions and buy index funds, If market is going down I protect gains and increase cash accounts waiting for the market to cut a company too much. As market drops and cash account is ready, I push all money to pay off highest interest debt.

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Re: What is the magic pay down your mortgage rate?
« Reply #32 on: January 07, 2015, 01:25:07 AM »
I think it totally depends on how much is in your investment accounts, and what your mortgage balance is, too. I would look at the amortization table of the loan and calculate how much interest you are paying in a year, and compare that to your investments with a moderate gain.

For example, my mortgage is 3.85% with balance around $275k. My monthly payment is about $1400, and $900 of that is interest every month. This year, I'll pay about $11k in interest. My brokerage account would have to have $100k balance already and earn over 10% interest to even break even!

So even with a low interest mortgage, it might not be the right choice.

this is 100% the wrong way to think about the OPs question.  by this logic unless you already had sizeable investments prior to purchasing a house it would never make sense to invest over pay down a mortgage. 

Say you have 10k extra to invest each year
Option 1) Invest in mortgage save 3.85%
Option 2) Invest in VTSAX MAKE 10-11% on avg each year

Its a very simple equation.
Respectfully, it's the wrong math. You're comparing interest to interest (incorrectly, at that) when this is actually a matter of net worth (assets vs liabilities).

Putting $10k towards a mortgage is technically not "investing." It's paying down a debt. Even with mortgage interest deductions and the common saying that mortgages are "good debt", debt is still debt on the books. So, it's not a matter of which investment will return more, but what combination of investments/debt payments will increase net worth the most over time.

This is the equivalent of a Balance Sheet for a business. The assets column would include the investment value, and the value of the home. The loan would be on the loss side (it's a liability). Putting money towards a loan would be reducing liability (not increasing assets). Home loan interest is on the "Loss" side because it's lost gains. A $200k loan (4%/30 years) doesn't cost you $200k - it costs you $344k. That's $144k you're paying just for having the loan. But personal finance tends not to separate principal and interest when looking at a budget... but we're missing half of the equation to make a truly educated decision.

I'm not saying that one needs a sizable investment to start with in order to invest. In reality, in most cases, it will probably be more profitable to invest, even starting from zero (especially if the time frame is long term). But, in order to do the math, you need a time basis. Making any sort of comparison without a timeline is pretty much just a shot in the dark.



« Last Edit: January 07, 2015, 01:28:54 AM by Spondulix »

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Re: What is the magic pay down your mortgage rate?
« Reply #33 on: January 07, 2015, 06:14:46 AM »
I think it totally depends on how much is in your investment accounts, and what your mortgage balance is, too. I would look at the amortization table of the loan and calculate how much interest you are paying in a year, and compare that to your investments with a moderate gain.

For example, my mortgage is 3.85% with balance around $275k. My monthly payment is about $1400, and $900 of that is interest every month. This year, I'll pay about $11k in interest. My brokerage account would have to have $100k balance already and earn over 10% interest to even break even!

So even with a low interest mortgage, it might not be the right choice.

this is 100% the wrong way to think about the OPs question.  by this logic unless you already had sizeable investments prior to purchasing a house it would never make sense to invest over pay down a mortgage. 

Say you have 10k extra to invest each year
Option 1) Invest in mortgage save 3.85%
Option 2) Invest in VTSAX MAKE 10-11% on avg each year

Its a very simple equation.
Respectfully, it's the wrong math. You're comparing interest to interest (incorrectly, at that) when this is actually a matter of net worth (assets vs liabilities).

Putting $10k towards a mortgage is technically not "investing." It's paying down a debt. Even with mortgage interest deductions and the common saying that mortgages are "good debt", debt is still debt on the books. So, it's not a matter of which investment will return more, but what combination of investments/debt payments will increase net worth the most over time.

This is the equivalent of a Balance Sheet for a business. The assets column would include the investment value, and the value of the home. The loan would be on the loss side (it's a liability). Putting money towards a loan would be reducing liability (not increasing assets). Home loan interest is on the "Loss" side because it's lost gains. A $200k loan (4%/30 years) doesn't cost you $200k - it costs you $344k. That's $144k you're paying just for having the loan. But personal finance tends not to separate principal and interest when looking at a budget... but we're missing half of the equation to make a truly educated decision.

I'm not saying that one needs a sizable investment to start with in order to invest. In reality, in most cases, it will probably be more profitable to invest, even starting from zero (especially if the time frame is long term). But, in order to do the math, you need a time basis. Making any sort of comparison without a timeline is pretty much just a shot in the dark.

Incorrect the way i just posted it in looking at WHAT THE MONEY DOES FOR YOU on an ANNUAL basis removes "time basis" from the equationas .  Yes its not 100% as simple the interest being 3.85% vs a market return of 10-11%.  Its actually better due to the tax credits for Mortgage interest.  Over a long time even a loan at 9% a person would be better off investing in the market than investing it into their house (yes you are investing it in your house regardless of what you think, it is an asset you are throwing money at, it may not be a good or lucrative investment depending on market conditions but its an investment none the less).  Its very very short term thinking that would make a person put together a "what will my networth grow by in the next 12 months." 

DoNorth

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Re: What is the magic pay down your mortgage rate?
« Reply #34 on: January 07, 2015, 06:19:40 AM »
this has to be looked at in a few different ways.  Most people make the apples to apples comparison when deciding whether or not to pay down a mortgage or invest.  Consider a 30 year mortgage at 4.5% with 25 years left.  You begin making an extra $100/month in principal payments.  The total interest savings is $17,656 and the payment period is reduced by 6 years and 6 months so 18.5 years later you pay off the mortgage.  Total scheduled payments would have been $182,405 and you ended up with $164,749 in total payments.

Let's say instead that you take that $100/month and invest it in a basic S&P500 index fund; over 18.5 years, the fund conservatively returns 6% with dividends reinvested.  At the end, you have north of $40K.  Even at a 4% return, you still have $32K or at 2%, you have $26K.

Only at about 8% interest rate or more would on the mortgage you begin begin to save ~$40K over the course of the loan.  In other words, $100 put towards a 4.5% mortgage with a $100K balance is not the same as getting a 4.5% return on $100 initially invested in a indexed portfolio.  Very big difference.

Midwest

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Re: What is the magic pay down your mortgage rate?
« Reply #35 on: January 07, 2015, 07:12:30 AM »
this has to be looked at in a few different ways.  Most people make the apples to apples comparison when deciding whether or not to pay down a mortgage or invest.  Consider a 30 year mortgage at 4.5% with 25 years left.  You begin making an extra $100/month in principal payments.  The total interest savings is $17,656 and the payment period is reduced by 6 years and 6 months so 18.5 years later you pay off the mortgage.  Total scheduled payments would have been $182,405 and you ended up with $164,749 in total payments.

Let's say instead that you take that $100/month and invest it in a basic S&P500 index fund; over 18.5 years, the fund conservatively returns 6% with dividends reinvested.  At the end, you have north of $40K.  Even at a 4% return, you still have $32K or at 2%, you have $26K.

Only at about 8% interest rate or more would on the mortgage you begin begin to save ~$40K over the course of the loan.  In other words, $100 put towards a 4.5% mortgage with a $100K balance is not the same as getting a 4.5% return on $100 initially invested in a indexed portfolio.  Very big difference.

Under your mortgage scenario, aren't you looking only at the interest savings (while ignoring the principal reduction)?  Conversely, under the 4% return at $100 a month you are including the buildup of principal in the note. 

If you are receiving income on $100,000 of assets at 4.5% and paying debt at 4.5% on the same amount, your net income is zero.  Obviously the S&P returns higher than 4.5%, but you are indicating you come out ahead by investing at 4% and paying interest on debt at 4.5%.

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Re: What is the magic pay down your mortgage rate?
« Reply #36 on: January 07, 2015, 07:33:07 AM »
And here I thought I might be one of the few mustachian Canadians paying down early, despite the possibility of making more with investments.  We still contribute to the RESP and TFSA (RRSPs are always maxed too).  We currently have no taxable accounts, and I'd like to keep it that way for as long as possible (and when we do, oh what a great problem to have).

Interesting that so many of us Canadians are focusing on paying off our mortgages.  We expect to have our house fully paid off in another year or two.  Our mortgage rate is very low right now, but we're not sure what it will jump to in two or three years.

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Re: What is the magic pay down your mortgage rate?
« Reply #37 on: January 07, 2015, 07:46:23 AM »
this has to be looked at in a few different ways.  Most people make the apples to apples comparison when deciding whether or not to pay down a mortgage or invest.  Consider a 30 year mortgage at 4.5% with 25 years left.  You begin making an extra $100/month in principal payments.  The total interest savings is $17,656 and the payment period is reduced by 6 years and 6 months so 18.5 years later you pay off the mortgage.  Total scheduled payments would have been $182,405 and you ended up with $164,749 in total payments.

Let's say instead that you take that $100/month and invest it in a basic S&P500 index fund; over 18.5 years, the fund conservatively returns 6% with dividends reinvested.  At the end, you have north of $40K.  Even at a 4% return, you still have $32K or at 2%, you have $26K.

Only at about 8% interest rate or more would on the mortgage you begin begin to save ~$40K over the course of the loan.  In other words, $100 put towards a 4.5% mortgage with a $100K balance is not the same as getting a 4.5% return on $100 initially invested in a indexed portfolio.  Very big difference.

Under your mortgage scenario, aren't you looking only at the interest savings (while ignoring the principal reduction)?  Conversely, under the 4% return at $100 a month you are including the buildup of principal in the note. 

If you are receiving income on $100,000 of assets at 4.5% and paying debt at 4.5% on the same amount, your net income is zero.  Obviously the S&P returns higher than 4.5%, but you are indicating you come out ahead by investing at 4% and paying interest on debt at 4.5%.

Even if you add the $100/month to the interest saved (in the paydown mortgage scenario), you end up with a little less than $40,000 at the end of the 18.5 years. And over half of that is locked up in your house, growing at whatever rate your house is appreciating.
In comparison, the market investment scenario leaves you with over $40,000 in liquid investments. These stocks/bonds could be thrown at the mortgage if it makes sense, or just left in the market.

DoNorth

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Re: What is the magic pay down your mortgage rate?
« Reply #38 on: January 07, 2015, 08:01:53 AM »
From a strict net worth/wealth accumulation perspective, yes, you would want to include the principal accumulation in the comparison.  I didn't because if you're paying off the mortgage (on a primary residence) you're probably doing it with the intention that you want to live there for a bit so the funds are locked up.  If you were planning on selling, then it doesn't make sense to pay down a mortgage unless you're really underwater.  Therefore, in the mortgage pay down scenario, I would really only calculate what you're saving (i.e, the interest) + the less tax deduction you get from having less interest.  Alternatively, in the investing scenario, I would compute the principal + the return and the utility they give you to travel, buy things, cover basic living expenses etc.  In other words, if you choose to pay down the principal of your 8% mortgage over 18 years, you can save about $40K in interest that could have been used for other things (- the reduced tax deduction).  Your principal is locked up in the equity unless you're using it in a HELOC or something.  Conversely, if you invested that $100 over the same period at a 6-7%, you would have a similar amount at the end.  It's a bit of an oversimplification, but meant to debunk the notion that $100 put towards a 4.5% investment is  the same as $100 put towards a 4.5% mortgage.

this has to be looked at in a few different ways.  Most people make the apples to apples comparison when deciding whether or not to pay down a mortgage or invest.  Consider a 30 year mortgage at 4.5% with 25 years left.  You begin making an extra $100/month in principal payments.  The total interest savings is $17,656 and the payment period is reduced by 6 years and 6 months so 18.5 years later you pay off the mortgage.  Total scheduled payments would have been $182,405 and you ended up with $164,749 in total payments.

Let's say instead that you take that $100/month and invest it in a basic S&P500 index fund; over 18.5 years, the fund conservatively returns 6% with dividends reinvested.  At the end, you have north of $40K.  Even at a 4% return, you still have $32K or at 2%, you have $26K.

Only at about 8% interest rate or more would on the mortgage you begin begin to save ~$40K over the course of the loan.  In other words, $100 put towards a 4.5% mortgage with a $100K balance is not the same as getting a 4.5% return on $100 initially invested in a indexed portfolio.  Very big difference.

Under your mortgage scenario, aren't you looking only at the interest savings (while ignoring the principal reduction)?  Conversely, under the 4% return at $100 a month you are including the buildup of principal in the note. 

If you are receiving income on $100,000 of assets at 4.5% and paying debt at 4.5% on the same amount, your net income is zero.  Obviously the S&P returns higher than 4.5%, but you are indicating you come out ahead by investing at 4% and paying interest on debt at 4.5%.

DoNorth

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Re: What is the magic pay down your mortgage rate?
« Reply #39 on: January 07, 2015, 08:12:55 AM »
Interestingly enough, I ran into this scenario when I started seriously contemplating FIRE this year.  We have a few properties.  Rental House in Olympia (30 year mortgage @3.75%); primary residence in DC (30 year mortgage @3.375%); "vacation cabin" in Sault Saint Marie, Michigan (30 yr mortgage @5.75%) and 5 acres in newberry MI (3/1 ARM at 4.15%)

We opted to turn our DC house into a rental and FIRE to the Sault Saint Marie place this fall so we began making extra principal payments on this house ($10-15K per month); I just made the final payment using a 1% CC convenience check for the remaining balance, mainly so I could drop the insurance expensive vacation property insurance policy while I renovate the place and turn it into a homestead.  Even at 5.75%, I'm not sure the ~$75K in accelerated principal payments was a wise idea, but I know going into FIRE I'll never have a mortgage on my primary residence and the place will have a veteran's property tax exemption; so it's probably more peace of mind than anything.

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Re: What is the magic pay down your mortgage rate?
« Reply #40 on: January 07, 2015, 08:25:58 AM »
Canadian here. I'm not paying extra into the mortgage right now. I agree with around the 5% number. I'd rather invest now and then if rates are higher when our term is up I'll put more towards principle then. However for my husband I've recommended putting more towards the mortgage as his investments are making less than our mortgage rate- he only does "safe" investments -ie savings accounts and GICs.

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Re: What is the magic pay down your mortgage rate?
« Reply #41 on: January 07, 2015, 10:05:43 AM »
Thinking about this...

Our best strategy to retire early is not savings, it is to cut spending.  First and foremost. At some point this means paid off home.

The U.S. tax laws help to hide this fact. But I truly believe a savings fund specific for accommodation offset or added mortgage payment is the way to go.  More so as you reach 10 years to FIRE.

Maybe semantics but keeping focus on the true goal is important

arebelspy

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Re: What is the magic pay down your mortgage rate?
« Reply #42 on: January 07, 2015, 10:09:08 AM »
Our best strategy to retire early is not savings, it is to cut spending.  First and foremost. At some point this means paid off home.

I agree with the premise, but not the conclusion.
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Re: What is the magic pay down your mortgage rate?
« Reply #43 on: January 07, 2015, 10:43:04 AM »
it doesnt have to mean a paid off home SOL has an interesting post on here about his analysis and which makes the most sense in his case.  And in the case of GOCURRYCRACKER it meant anything but a paid off home as they travel the world.

Midwest

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Re: What is the magic pay down your mortgage rate?
« Reply #44 on: January 07, 2015, 01:03:43 PM »
It's a bit of an oversimplification, but meant to debunk the notion that $100 put towards a 4.5% investment is  the same as $100 put towards a 4.5% mortgage.

With the exception of liquidity and the tax deduction, I'd say that putting $100 towards a 4.5% mortgage is exactly the same as putting it in an investment yielding 4.5%.  Whether you think 4.5% is a good return is another matter. 
The Heloc takes care of the liquidity and allows for opportunistic investments.

Personally, I view my mortgage reduction as part of my bond portfolio.  The liquidity issue is taken care of via a heloc that can be tapped as needed.
« Last Edit: January 07, 2015, 01:15:38 PM by Midwest »

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Re: What is the magic pay down your mortgage rate?
« Reply #45 on: January 07, 2015, 01:15:28 PM »
For me, paying down the house is a much higher priority.  Here's why:  once the house is paid off, I plan on sinking that monthly payment into retirement savings.

I actually ran the numbers, and IIRC by paying down the house early, I came out slightly *ahead* financially after 15 years.  It's counter-intuitive, I know, but the numbers don't lie.  I think the difference is that once the house is paid off, my contributions to savings dramatically increase, and by accelerating the pay-off date of the mortgage, I start those larger contributions far earlier, so there are more of them, and it counteracts the loss of returns.

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Re: What is the magic pay down your mortgage rate?
« Reply #46 on: January 07, 2015, 01:21:28 PM »
With the exception of liquidity and the tax deduction, I'd say that putting $100 towards a 4.5% mortgage is exactly the same as putting it in an investment yielding 4.5%. 

+1

Math is math.  As Midwest and others have allowed, there can be reasons beyond the straightforward interest rate comparison to pre-pay the mortgage vs. invest.

But without those other reasons, the effects of "investing" vs. "pre-paying" are identical for the same interest rates.

Take a $100K mortgage at 4% for 30 years.  Monthly payment is $477.42.  In the first month an extra $100 is available when the payment is due. 
Option A: Put the $100 toward the mortgage principal.
Option B: Invest the $100 and earn 4%

After 30 years:
Under option A, the final payment will be $146.67, so the payer has an extra $477.42 - $146.67 = $330.75.
Under option B, the mortgage is also paid and the $100 has grown to $100*(1+4%/12)^359 = $330.25.
The difference of $0.50 is round-off error.



Midwest

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Re: What is the magic pay down your mortgage rate?
« Reply #47 on: January 07, 2015, 01:36:11 PM »
this has to be looked at in a few different ways.  Most people make the apples to apples comparison when deciding whether or not to pay down a mortgage or invest.  Consider a 30 year mortgage at 4.5% with 25 years left.  You begin making an extra $100/month in principal payments.  The total interest savings is $17,656 and the payment period is reduced by 6 years and 6 months so 18.5 years later you pay off the mortgage.  Total scheduled payments would have been $182,405 and you ended up with $164,749 in total payments.

Let's say instead that you take that $100/month and invest it in a basic S&P500 index fund; over 18.5 years, the fund conservatively returns 6% with dividends reinvested.  At the end, you have north of $40K.  Even at a 4% return, you still have $32K or at 2%, you have $26K.

Only at about 8% interest rate or more would on the mortgage you begin begin to save ~$40K over the course of the loan.  In other words, $100 put towards a 4.5% mortgage with a $100K balance is not the same as getting a 4.5% return on $100 initially invested in a indexed portfolio.  Very big difference.

Under your mortgage scenario, aren't you looking only at the interest savings (while ignoring the principal reduction)?  Conversely, under the 4% return at $100 a month you are including the buildup of principal in the note. 

If you are receiving income on $100,000 of assets at 4.5% and paying debt at 4.5% on the same amount, your net income is zero.  Obviously the S&P returns higher than 4.5%, but you are indicating you come out ahead by investing at 4% and paying interest on debt at 4.5%.

Even if you add the $100/month to the interest saved (in the paydown mortgage scenario), you end up with a little less than $40,000 at the end of the 18.5 years. And over half of that is locked up in your house, growing at whatever rate your house is appreciating.
In comparison, the market investment scenario leaves you with over $40,000 in liquid investments. These stocks/bonds could be thrown at the mortgage if it makes sense, or just left in the market.

 I don't have time or interest to run this through t-value, but if you are paying a 4.5% mortgage and investing at 4%, you are not coming out ahead on the transaction.  I'm not advocating taking every cent and paying off a 4.5% mortgage, but the math of coming out ahead on that transaction is false.

With regard to being locked up, an untapped HELOC provides access to 80% of home value even on a totally paid off home. 
« Last Edit: January 07, 2015, 01:59:48 PM by Midwest »

arebelspy

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Re: What is the magic pay down your mortgage rate?
« Reply #48 on: January 07, 2015, 01:40:43 PM »
It looks like a 4.5% to 4.5% comparison to me.  Where did you get 4.5% (mortgage) to 4% (market)?
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Midwest

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Re: What is the magic pay down your mortgage rate?
« Reply #49 on: January 07, 2015, 01:45:40 PM »
It looks like a 4.5% to 4.5% comparison to me.  Where did you get 4.5% (mortgage) to 4% (market)?

DoNorth's example includes a 4.5% mortgage (paragraph 1) and a 4% return (paragraph 2).