Author Topic: Mini case study - why not pay off the mortgage in this environment?  (Read 3209 times)

AZDuke06

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Hello,

My wife and I came across a bit of money over the past six months and we're sitting on about 180k in liquid cash right now.  Our outstanding mortgage balance is 80k (15 yr loan at 3.25%).  I'm very tempted to just write a check and pay the loan off, but I read so much about how you're better off carrying debt in an inflationary environment like this.  However, this seems to me to presuppose a couple of things.  1) you have sights set on another place to invest the money, and 2) that your household income/wages will rise accordingly with the rate of inflation.  Regarding #2, I don't expect a major change in income above the typical 3-5% annual raises that we would've received anyway, so I don't envision a larger influx of so-called cheaper dollars.  Regarding #1, I'm feeling the larger market is overinflated and while I know timing the market is not typically the way to go, I'm hesitant to dump a lot of cash into anything in particular.  We are already maxing out our 2 401k's and IRAs annually.

All that said, am I wise to just pay down the mortgage in full at this point?  Aren't I better off cutting the inflation exposure slightly with the 3.25% annual savings on that paid-down money?  Or, am I better off really searching harder for better investment opportunities to load into and just hold onto the cheap mortgage balance for now?  Seems like keeping a substantial balance in my online savings is the worst of both worlds with inflation eating away at the value of that 180k.  Maybe hold the cash for now and look for a certain level of market correction?

Appreciate the help in advance.

nereo

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #1 on: December 18, 2021, 11:45:33 PM »
Regarding your #2 - no, it doesn’t presuppose income/wages will rise with inflation. 

Simply put, a core reason not to pay down a fixed, low-rate mortgage is because you expect that you can earn a better return elsewhere.  In the case of broad-market index funds the often-cited ~7% annualized returns are inflation adjusted (non-inflation is just about 10%). Your mortgage rate is fixed (unless you have an ARM). The fact that you anticipate getting a 3-5% raise each year means the PI on your mortgage will decrease relative to your income every year. Compounded over 15 years this is actually a substantial amount on its own.

Another - and in my opinion extremely important - reason not to pay down your mortgage is when you have additional tax-advantaged space available. If you aren’t fully funding your HSA/401(k)/IRA etc then you are likely paying far more in taxes than you otherwise could be. This obviously varies from person to person, but the tax savings can easily cover the interest accrued on a 3.25% mortgage, particularly if its split among two or even three years.

Finally, a low fixed rate mortgage is a great thing to have in high inflation periods. The fed has a congressional mandate to keep inflation low, and one of its only tools for doing so is raising interest rates.  When those rates rise (and they will certainly rise if inflation stays high) then even government bonds will have a higher yield than your 3.25% mortgage, which means the “safest” asset class in existence will literally more than offset the interest on your home. For most of the 70s, 80s and 90s bond yields were above 6% (and occasionally went into double-digits).  Even in the early 00s yields frequently exceeded your mortgage rate.

six-car-habit

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #2 on: December 19, 2021, 02:30:02 AM »

  Regarding #1, I'm feeling the larger market is overinflated and while I know timing the market is not typically the way to go, I'm hesitant to dump a lot of cash into anything in particular.  We are already maxing out our 2 401k's and IRAs annually.

   The one thing it seems you definitely do value, and would consider 'dumping a lot of cash' into, is paying off the house.  It's a valid emotional win to do this, and considering it's akin to getting 3.25%+ return, in that you won't pay future interest on that mortgage, a positive gain for your net worth. 

   My house has gained about 8% a year in supposed value, averaged out over approx 10 years. Personally i'd be happy with an 8% average return on my 401k investments over time.  So for me, i would look at the issue like i was paying off a 3.75% mortgage, plus my investment [ the house] was going up in value.  I count my home equity {minus a reasonable amount of sales transaction costs} as part of my net worth. 
     Now of course this # assumes i have no maintenance costs on the house.  Real estate Taxes i'd leave out of the equation as they are owed to the state/county for local services, their cost is independent of how much i owe on the home, and a renter is still essentially paying towards the landlords real estate tax obligation.

 Why not pay off the $80K and end the mortgage?   Have a small mortgage burning party like previous generations did.  Then use the balance $100K toward after-tax investments.  You can then take the money you would have been putting toward the mortgage principal, and dollar cost average it back into the market monthly over the next several years.  You get an emotional win, you get a financial win, you'll only have to find a place for ~56% of the total starting amount.

nereo

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #3 on: December 19, 2021, 07:33:42 AM »

   
   My house has gained about 8% a year in supposed value, averaged out over approx 10 years. Personally i'd be happy with an 8% average return on my 401k investments over time.  So for me, i would look at the issue like i was paying off a 3.75% mortgage, plus my investment [ the house] was going up in value.  I count my home equity {minus a reasonable amount of sales transaction costs} as part of my net worth. 
     Now of course this # assumes i have no maintenance costs on the house.  Real estate Taxes i'd leave out of the equation as they are owed to the state/county for local services, their cost is independent of how much i owe on the home, and a renter is still essentially paying towards the landlords real estate tax obligation.


The issue I have with the above is that your homes value is completely independent of whether you hold a mortgage. You would still realize 8% annualized gains regardless of whether you had paid down the mortgage or not.

As for the whole “net worth” part of the equation, if you invest $80k or use it to pay off the home, on say 0 your net worth is the same regardless. The expectation is that your net worth will increase much faster by holding more investments and at the expense of maintaining your existing note.

To be clear I’m not saying paying off the mortgage is a terrible idea - it’s one of the better uses of a large windfall. But it will likely result in having tens-of-thousands less over a decade than investing that money.

frugal_c

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #4 on: December 19, 2021, 07:57:16 AM »
It depends on how much that $80k is relative to your investments.  The smaller it is, relatively speaking, the more inclined I would be to pay it off.  You can then just think about it as a hedge.

Personally I was in an identical situation in the past and I paid it off.  I would have been better off investing the money but I like not having to worry as much about market selloffs.  During the COVID crash I was really not concerned as I had a paid house to fall back on.  We don't know what the future will hold and assuming investments will just go up is foolish, sometimes the market screws you.

Pay it off and if the market crashes that's the time to remortgage and invest.

PhilB

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #5 on: December 19, 2021, 08:08:46 AM »
Looking at it rationally, would you invest $80k in a 15 year bond paying 3.25%?  (Less if the mortgage gives a tax advantage).  If your fears about an overvalued market mean you would see that as a more appropriate asset allocation then go ahead and pay the mortgage off.  If that isn't an asset allocation you would go for then don't.

Looking at it emotionally though, if knowing the mortgage is paid off will give a big enough boost to your overall happiness to offset any considerations of investment efficiency, and the potential downsides aren't material to your long term plans, then do what makes you happy.

sonofsven

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #6 on: December 19, 2021, 08:11:25 AM »
Just chiming in to say that 3.25 is not a very good rate in this environment, especially for a 15 YR. You can most likely get at least that,  if not better, in a no cost 30 YR re-fi.

Askel

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #7 on: December 19, 2021, 09:35:54 AM »


Appreciate the help in advance.

How many years left do you have on the 15 year?  I'm in a very similar boat numbers wise.  Generally, the don't pay off your mortgage folks have some pretty solid math on their side for not paying down a mortgage. However, for those of us with sub $100k mortgages, the gains either way aren't really all that big or life changing so the emotional arguments for having a paid off house tend to win in my book. 

That said though, I'm currently dumping money that would go towards my mortgage into I bonds. I consider it a safe enough investment that's currently doing better than my mortgage rate. When that gravy train ends, I'll probably cash them all and pay off the mortgage.   

Roland of Gilead

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #8 on: December 19, 2021, 09:48:42 AM »
With an Ibond paying over 7% and your mortgage at 3.25%, you could put 40k into I-bonds over the next two weeks instead of paying off your mortgage and be essentially making money off of it (vs paying it off) with essentially zero risk.

Assuming inflation is sticky (it is going to be) the I-bond rate should stay above your mortgage rate.   Right now you would be getting 3.75% of 40k a year in extra money ($1500 a year) with the current i-bond rate.

cool7hand

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #9 on: December 20, 2021, 07:45:41 AM »
However the numbers work out, don't forget to consider your own personal psychology. Some people are energized by paying off debt!

JGS1980

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #10 on: December 20, 2021, 11:08:45 AM »
I would do 40K in Ibonds in the next 2 weeks, followed by paying the mortgage off, followed by putting the rest in VTSAX.

Actually, that's EXACTLY what I have done myself.

FWIW,

JGS

Duke03

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #11 on: December 20, 2021, 11:21:18 AM »
I'm kind of in the same boat as you.  I currently have 46k left on my mortgage that is 2.6% and will be paid off in 3.5 years if I just pay the payment each month. I plan on writing a check in Feb and just getting rid of the mortgage.  I feel that I will be able to invest more and even take on a slightly riskier investment strategy if I know in the back of my head that I'm mortgage free. This will really help me 10 years down the road. Being a single income household, I've had to error on the side of caution when it comes to my investment strategy just so I can sleep easier at night....

waltworks

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #12 on: December 20, 2021, 04:46:39 PM »
At 2.6% why on earth wouldn't you just buy I-bonds rather than pay down? You're making a completely risk free (ok, barring zombie apocalypse) 5%! It's not like you have to invest your extra money in meme stonks or bitcoin or something else volatile.

I sure as heck don't sleep better at night knowing I'm throwing money away, but to each their own.

-W

Dee18

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #13 on: December 20, 2021, 04:53:22 PM »
I did pay off my mortgage rather than invest that money, some years ago. Nereo makes a great point that first you want to take advantage of any matching, other tax advantaged investments, etc.  Assuming you've done that, then you are right to think about what your personal goals are.  I was more risk averse than many on MMM and I would not have been comfortable with 80+ % in equities.  Even knowing that I might end up with more money by holding a mortgage and investing the money I gained greater happiness by paying off the mortgage (a certain gain of 3.5%) than investing at the time.  It's great to know what is statistically most likely to make you the most money, but you can always balance that against a no-risk 3.25% gain. 

waltworks

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #14 on: December 20, 2021, 05:24:47 PM »
I did pay off my mortgage rather than invest that money, some years ago. Nereo makes a great point that first you want to take advantage of any matching, other tax advantaged investments, etc.  Assuming you've done that, then you are right to think about what your personal goals are.  I was more risk averse than many on MMM and I would not have been comfortable with 80+ % in equities.  Even knowing that I might end up with more money by holding a mortgage and investing the money I gained greater happiness by paying off the mortgage (a certain gain of 3.5%) than investing at the time.  It's great to know what is statistically most likely to make you the most money, but you can always balance that against a no-risk 3.25% gain.

Sure, but currently there's a no-risk option available that are 4-5% better than the OP's mortgage.

-W

Dee18

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #15 on: December 20, 2021, 06:31:20 PM »
Walt, I thought I bonds were limited to 10,000 a year. Am I completely wrong about that?  I bought them in Nov and plan to buy again in Jan, but thought they had a low limit....nowhere near OP's amount.

Jack0Life

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #16 on: December 20, 2021, 07:11:16 PM »
I went from always paying down my mortgages to refinancing to make my mortgages bigger.
I had paid off 2 houses before and what a terrible idea that was. I would made so much more money just buying index funds.
Our current house, I refinance at 1.99% and took a $100k out.
There's always opportunity to make money if you have money in any market condition.
I went the safe route and used all the money buying Abbvie stocks. Very stable stocks that return ~5% in dividends.
Bought a bunch of them before the Ex-dividend date and collected $1200 in dividends and sold them all off with the highest price being $122(it's over $130 now so I could have made more). Made $8K in like 2 months. That's an 8% return in only 2 months.
Sure I'm not always going to make easy money like that but my point being if you have money, you can always find ways to make money.
I did have $200k doing nothing after I sold off all Abbvie stocks but I just let it sit until you find other buying opportunities. I did purchase $20k of I Bonds and $20k more in Jan.
Market dropped big time today and I bought 100 shares of VTI  and 200 shares of Disney, fairly safe bets that I know will profit in the long run.


waltworks

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #17 on: December 20, 2021, 07:21:37 PM »
Walt, I thought I bonds were limited to 10,000 a year. Am I completely wrong about that?  I bought them in Nov and plan to buy again in Jan, but thought they had a low limit....nowhere near OP's amount.

Yes, but it's quite easy to increase that. Spouse can buy, you can buy more if you have an EIN for a business (which you can get easily). So between you and spouse, you can do $40k. Can do for any US citizen child as well (money reverts to their control at 18, but until then you can do whatever you want with it). So with some minimal effort OP could do their entire mortgage amount in the next 2 weeks, probably.

-W

AZDuke06

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #18 on: December 20, 2021, 11:14:13 PM »
I'm really blown away by all the perspectives and thoughtful inputs here, thank you so much.  A lot to chew over, but I'm really intrigued at the I-bond option.  Seems to be a good potential fit for me given that I could feel comfortable putting a nice amount into them without likelihood of needing early redemption.  I suppose i could easily pick up 40k worth if my wife and I both purchase some before year's end and then early in '22.  I'll still have a lot of liquid cash, and maybe I put another moderate amount down on the loan.  I feel I'll get a similar level of satisfaction by putting some of this cash to work for me in different ways even if I don't get that full amount paid off.

For a few that asked, there are about 7 years left on the mortgage in question.  And regarding the size of the 80k balance compared to other holdings, we have around 600k in combined investments within various brokerage and retirement accounts and we're 37 years old.

AZDuke06

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #19 on: December 20, 2021, 11:35:05 PM »
I'm really blown away by all the perspectives and thoughtful inputs here, thank you so much.  A lot to chew over, but I'm really intrigued at the I-bond option.  Seems to be a good potential fit for me given that I could feel comfortable putting a nice amount into them without likelihood of needing early redemption.  I suppose i could easily pick up 40k worth if my wife and I both purchase some before year's end and then early in '22.  I'll still have a lot of liquid cash, and maybe I put another moderate amount down on the loan.  I feel I'll get a similar level of satisfaction by putting some of this cash to work for me in different ways even if I don't get that full amount paid off.

For a few that asked, there are about 7 years left on the mortgage in question.  And regarding the size of the 80k balance compared to other holdings, we have around 600k in combined investments within various brokerage and retirement accounts and we're 37 years old.

Quick follow up after reading about these bonds.  It appears that the fixed portion of the rate for these is only 0.10% and the rest is adjusted for inflation.  Thereby, the composite rate of 7.12% adjusts every 6 months depending on inflation.  So, the currently stated yield is only for interest accrued through May 2022.  Is this correct?

MoseyingAlong

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #20 on: December 20, 2021, 11:49:16 PM »

...  So, the currently stated yield is only for interest accrued through May 2022.  Is this correct?

Not quite. You get that interest for the first 6 months you hold the I bond. Then it adjusts every six months. So if you bought them in April, you would get that rate until September.

However, the general rate will reset in May to whatever the Treasury says then. So in the example about, you would start earning the new rate in October, not May.

Hope that makes sense.


SteadyStache

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #22 on: December 21, 2021, 09:18:00 AM »

Yes, but it's quite easy to increase that. Spouse can buy, you can buy more if you have an EIN for a business (which you can get easily). So between you and spouse, you can do $40k. Can do for any US citizen child as well (money reverts to their control at 18, but until then you can do whatever you want with it). So with some minimal effort OP could do their entire mortgage amount in the next 2 weeks, probably.

-W

So just buy 10K and gift to child?

Jack0Life

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #23 on: December 21, 2021, 09:24:31 AM »

Yes, but it's quite easy to increase that. Spouse can buy, you can buy more if you have an EIN for a business (which you can get easily). So between you and spouse, you can do $40k. Can do for any US citizen child as well (money reverts to their control at 18, but until then you can do whatever you want with it). So with some minimal effort OP could do their entire mortgage amount in the next 2 weeks, probably.

-W

So just buy 10K and gift to child?

This is interesting. Could I just buy a few more $10k as gifts to my nieces/nephews and then pull them out a few years later ?? Would you need their SS to buy the bonds.

Dee18

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #24 on: December 21, 2021, 10:21:32 AM »
According to this article you can also set up a trust to buy bonds:
https://thefinancebuff.com/how-to-buy-i-bonds.html

As I already have a revocable trust I can buy another $10,000 now and in January. 

« Last Edit: December 21, 2021, 10:50:42 AM by Dee18 »

getmoneyeatpizza

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #25 on: December 22, 2021, 10:07:01 AM »
Absolutely do not pay off your mortgage. All the reasons Nereo mentioned are good ones not to pay off your mortgage. If you are going to stay there a while and can get a lower interest rate I think you should consider refinancing to a 20 year or another 15 and invest the difference in lower payment into the market.

Your stache is 600k and you are only 37. It is too early to pay it off bc you need to maximize accumulation of wealth for FIRE.

I agree 100% with the 'don't pay off your mortgage crowd with one exception. When you are ready to FIRE. When you hit your FIRE number and it is well thought through, you've "Won" the game. You have everything you need. So that at point more you don't need to optimize accumulation of more. At that point stability is most important and is sleeping at night if the market crashes etc.

Also paying off in conjunction with FIRE lowers your spending which lowers your taxes, roth conversions, helps with ACA subsidies etc.





Jack0Life

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #26 on: December 23, 2021, 09:42:08 AM »
I went from always paying down my mortgages to refinancing to make my mortgages bigger.
I had paid off 2 houses before and what a terrible idea that was. I would made so much more money just buying index funds.
Our current house, I refinance at 1.99% and took a $100k out.
There's always opportunity to make money if you have money in any market condition.
I went the safe route and used all the money buying Abbvie stocks. Very stable stocks that return ~5% in dividends.
Bought a bunch of them before the Ex-dividend date and collected $1200 in dividends and sold them all off with the highest price being $122(it's over $130 now so I could have made more). Made $8K in like 2 months. That's an 8% return in only 2 months.
Sure I'm not always going to make easy money like that but my point being if you have money, you can always find ways to make money.
I did have $200k doing nothing after I sold off all Abbvie stocks but I just let it sit until you find other buying opportunities. I did purchase $20k of I Bonds and $20k more in Jan.
Market dropped big time today and I bought 100 shares of VTI  and 200 shares of Disney, fairly safe bets that I know will profit in the long run.

Pretty good buy 3 days ago. Disney >$1500 and VTI >$1000.
I did put in a stop loss sell order so I'll profit at least $1300 and $800 although I should let Disney run it's course. Tempted to buy more because Disney can only go up from here.
Not bad for a $52000 investment for 3 days.

AZDuke06

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #27 on: December 25, 2021, 10:17:03 PM »
Thanks everyone.  I'm gonna hold off on any extra payment on the mortgage principal and start with 20k into Series I bonds before the year is over.  Have others found treasurydirect.gov easy and reliable to use for this?

Askel

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #28 on: December 26, 2021, 06:24:44 AM »
treasury.gov is a bit cantankerous, but pretty straightforward in the end.  That stupid virtual keyboard for entering the password is annoying as hell though. 

Roland of Gilead

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Re: Mini case study - why not pay off the mortgage in this environment?
« Reply #29 on: December 26, 2021, 04:20:45 PM »
treasury.gov is a bit cantankerous, but pretty straightforward in the end.  That stupid virtual keyboard for entering the password is annoying as hell though.

It is pretty clever though...I can't see how a keyboard sniffer could detect that.