Author Topic: STOP SAYING IT IS NOT MATHEMATICALLY CORRECT TO PAY OFF YOUR MORTGAGE EARLY!  (Read 54853 times)

Telecaster

  • Handlebar Stache
  • *****
  • Posts: 1713
  • Location: Seattle, WA
I am of the belief that you should owe as much as possible or pay it off in a lump sum (or in a really short period) as the time between is where the risk is greatest. That is personally what I am shooting for at fire throw a large lump sum at the house and pay it off.

My response before was based on my assumption that telecaster was in the never pay it off and leverage it as much as you can.

I'm definitely in the never pay it off club, but not so much as "leverage as much you can" camp.  I view housing an expense, and like all expenses it should be minimized.  I think I misunderstood your post.  I took it as a are warning why it is a bad idea to have money in your house.  My apologies if I misunderstood.

That said, I don't know your friends' specific situations but it seems having money in the house was the worst possible place it could have been.  Let's say they put a hypothetical extra $100K on the mortgage.  Then housing market drops at the same time they become unemployed.   Now they are potentially risking that whole $100K if they can't make the house payments--which two of the three of them couldn't do.

Now let's say they put that hypothetical $100K in the stock market.  The market crashes, so now the $100K is only worth $50K.   But that amount of money still would have allowed them to continue to make the mortgage payment for years, if needs be.     

The reality is the money in your house is difficult and expensive to access if you need it, and might even be impossible to access.  The money in your brokerage account is only a mouse click away.   As we've had these discussion in the past, people typically will say something like "Of course, before you start to pay down the mortgage you should have a robust emergency fund, and well as sufficient liquid assets."   Fair enough, but that just highlights how risky it is.   Even the proponents don't think you should do it until you have substantial financial reserves. 

As an aside, a lot of people did escape with short sales back in 2008-09.    But they found out to their dismay the banks clawed back the money years later.   

Kyle Schuant

  • Pencil Stache
  • ****
  • Posts: 667
  • Location: Melbourne, Australia
The reality is the money in your house is difficult and expensive to access if you need it, and might even be impossible to access.
Thus the benefit of living in Australia: offset accounts.

nereo

  • Senior Mustachian
  • ********
  • Posts: 10056
  • Location: la belle province
    • Here's how you can support science today:
The reality is the money in your house is difficult and expensive to access if you need it, and might even be impossible to access.
Thus the benefit of living in Australia: offset accounts.
I am not familiar with this - how do they work?

vand

  • Stubble
  • **
  • Posts: 116
  • Location: UK
We have offset mortgages in the UK too.
Basically they link your bank account balance to your mortgage account. If you have a 100k mortgage and 40k in your bank account, you're effectively only being charged interest on 60k. The difference is that the cash from the bank account is still accessible if you need it.

DadJokes

  • Bristles
  • ***
  • Posts: 390
We have offset mortgages in the UK too.
Basically they link your bank account balance to your mortgage account. If you have a 100k mortgage and 40k in your bank account, you're effectively only being charged interest on 60k. The difference is that the cash from the bank account is still accessible if you need it.

That's pretty cool. When you pay your mortgage, does the principal portion stay in your bank account? When you have 100k in your account, do you have the option to keep the mortgage almost like a HELOC, as well as the option to just pay it off completely?

nereo

  • Senior Mustachian
  • ********
  • Posts: 10056
  • Location: la belle province
    • Here's how you can support science today:
We have offset mortgages in the UK too.
Basically they link your bank account balance to your mortgage account. If you have a 100k mortgage and 40k in your bank account, you're effectively only being charged interest on 60k. The difference is that the cash from the bank account is still accessible if you need it.

Are they limited to what is in your bank account?  I am struggling to see how this would be useful to me, as  - broadly speaking - i would recommend against holding more than a few $k in a (low-interest) bank account. 

I do see how it would get you an effective greater 'yield' (effectively whatever your mortgage rate is) but beyond that... why keep ~$40k in a bank account rather than putting those green soldiers to work?

bacchi

  • Magnum Stache
  • ******
  • Posts: 3547
I do see how it would get you an effective greater 'yield' (effectively whatever your mortgage rate is) but beyond that... why keep ~$40k in a bank account rather than putting those green soldiers to work?

Emergency account?

TexasRunner

  • Pencil Stache
  • ****
  • Posts: 927
  • Age: 27
  • Location: Somewhere in Tejas
I do see how it would get you an effective greater 'yield' (effectively whatever your mortgage rate is) but beyond that... why keep ~$40k in a bank account rather than putting those green soldiers to work?

Emergency account?

That actually sounds like a pretty cool plan.  It combines the nicities of a Cash-out heloc in a holding account with a bank account with reduced interest.  Basically changes the formula to be ((Principle - Holding Account) * (rate /12)) Through amort table...   Basically would mean that maxing out tax account and then stuffing dollars in there would make some sense, up to your EM fund- since most CDs and savings rates don't get near the 3.5% to 5% mortgage rates....  BUT they rarely have fixed mortgages so it seems like a trade off.

That would change the math some, up to the amount of your E-Fund, as it wouldn't be likely to find another E-Fund account that could return a mortgage rate.

Interesting option.

nereo

  • Senior Mustachian
  • ********
  • Posts: 10056
  • Location: la belle province
    • Here's how you can support science today:
I do see how it would get you an effective greater 'yield' (effectively whatever your mortgage rate is) but beyond that... why keep ~$40k in a bank account rather than putting those green soldiers to work?

Emergency account?

That actually sounds like a pretty cool plan.  It combines the nicities of a Cash-out heloc in a holding account with a bank account with reduced interest.  Basically changes the formula to be ((Principle - Holding Account) * (rate /12)) Through amort table...   Basically would mean that maxing out tax account and then stuffing dollars in there would make some sense, up to your EM fund- since most CDs and savings rates don't get near the 3.5% to 5% mortgage rates....  BUT they rarely have fixed mortgages so it seems like a trade off.

That would change the math some, up to the amount of your E-Fund, as it wouldn't be likely to find another E-Fund account that could return a mortgage rate.

Interesting option.
Oh for sure having the option would be better than not having it.  I'm just wondering about it's overall practicality beyond what I'd normally hold in cash.

TexasRunner

  • Pencil Stache
  • ****
  • Posts: 927
  • Age: 27
  • Location: Somewhere in Tejas
I do see how it would get you an effective greater 'yield' (effectively whatever your mortgage rate is) but beyond that... why keep ~$40k in a bank account rather than putting those green soldiers to work?

Emergency account?

That actually sounds like a pretty cool plan.  It combines the nicities of a Cash-out heloc in a holding account with a bank account with reduced interest.  Basically changes the formula to be ((Principle - Holding Account) * (rate /12)) Through amort table...   Basically would mean that maxing out tax account and then stuffing dollars in there would make some sense, up to your EM fund- since most CDs and savings rates don't get near the 3.5% to 5% mortgage rates....  BUT they rarely have fixed mortgages so it seems like a trade off.

That would change the math some, up to the amount of your E-Fund, as it wouldn't be likely to find another E-Fund account that could return a mortgage rate.

Interesting option.
Oh for sure having the option would be better than not having it.  I'm just wondering about it's overall practicality beyond what I'd normally hold in cash.

Investment order with this option would probably look something like this:

0. Establish an emergency fund to your satisfaction     (See 7 below)       
1. Contribute to your 401k up to any company match           
2. Pay off any debts with interest rates ~5% or more above the current 10-year Treasury note yield.           
3. Max Health Savings Account (HSA) if eligible.
4. Max Traditional IRA or Roth (or backdoor Roth) based on income level           
5. Max 401k (if
    - 401k fees are lower than available in an IRA, or
    - you need the 401k deduction to be eligible for (and desire) a tIRA deduction, or
    - your earn too much for an IRA deduction and prefer traditional to Roth, then
    swap #4 and #5)           
6. Fund a mega backdoor Roth if applicable.         
7. PLOP --- Invest up to full amount of E-Fund or 12 month E-Fund in "Mortgage Holding Account".
8. Pay off any debts with interest rates ~3% or more above the current 10-year Treasury note yield.           
9. Invest in a taxable account and/or fund a 529 with any extra.           
9b. Optional, invest full value of mortgage in "Mortgage Holding Account"

the_fixer

  • Pencil Stache
  • ****
  • Posts: 510
  • Location: Colorado
  • mind on my money money on my mind
I am of the belief that you should owe as much as possible or pay it off in a lump sum (or in a really short period) as the time between is where the risk is greatest. That is personally what I am shooting for at fire throw a large lump sum at the house and pay it off.

My response before was based on my assumption that telecaster was in the never pay it off and leverage it as much as you can.

I'm definitely in the never pay it off club, but not so much as "leverage as much you can" camp.  I view housing an expense, and like all expenses it should be minimized.  I think I misunderstood your post.  I took it as a are warning why it is a bad idea to have money in your house.  My apologies if I misunderstood.

That said, I don't know your friends' specific situations but it seems having money in the house was the worst possible place it could have been.  Let's say they put a hypothetical extra $100K on the mortgage.  Then housing market drops at the same time they become unemployed.   Now they are potentially risking that whole $100K if they can't make the house payments--which two of the three of them couldn't do.

Now let's say they put that hypothetical $100K in the stock market.  The market crashes, so now the $100K is only worth $50K.   But that amount of money still would have allowed them to continue to make the mortgage payment for years, if needs be.     

The reality is the money in your house is difficult and expensive to access if you need it, and might even be impossible to access.  The money in your brokerage account is only a mouse click away.   As we've had these discussion in the past, people typically will say something like "Of course, before you start to pay down the mortgage you should have a robust emergency fund, and well as sufficient liquid assets."   Fair enough, but that just highlights how risky it is.   Even the proponents don't think you should do it until you have substantial financial reserves. 

As an aside, a lot of people did escape with short sales back in 2008-09.    But they found out to their dismay the banks clawed back the money years later.
I agree that unless it is paid off you are at more risk.

Sent from my Pixel 2 XL using Tapatalk


effigy98

  • Bristles
  • ***
  • Posts: 319
This has got to be one the least reasonable and most face-punch worthy posts in this entire thread, because if you can't beat somebody out with reasoning and logic, just expound into emotional rhetoric and extreme examples that no one is actually saying.  Damn.


You must be a poor little man with a huge chip on your shoulder that cannot comprehend living in a modern tech city with high cost of living and you have to attack people on the internet to feel like you matter. I feel sorry for you.

MOD EDIT: No personal attacks, please.
« Last Edit: March 25, 2019, 08:24:48 PM by arebelspy »

Gremlin

  • Stubble
  • **
  • Posts: 121

I do see how it would get you an effective greater 'yield' (effectively whatever your mortgage rate is) but beyond that... why keep ~$40k in a bank account rather than putting those green soldiers to work?

In Australia mortgage rates are typically higher than the US and mortgage repayments on your primary home are NOT tax deductible.  A typical mortgage rate might be 5%.  For someone in the top tax bracket they will need to generate roughly $2 in gross income to pay $1 in their mortgage (be it either principal or interest).  So they'd need something close to 10% gross returns just to break even (not completely dogmatic as it depends on the tax vagaries of the different sources of income/capital gains, etc).  Whilst you might get that on the stock market, you certainly don't get it as risk free as an offset account.

There are some tax advantaged investment accounts that may take precedence for most, but they lock your money away for a long, long time and there are limits as to how much you can squirrel there each year.  Maxing out your offset account is a pretty sensible plan for most Australians. 

vand

  • Stubble
  • **
  • Posts: 116
  • Location: UK
We have offset mortgages in the UK too.
Basically they link your bank account balance to your mortgage account. If you have a 100k mortgage and 40k in your bank account, you're effectively only being charged interest on 60k. The difference is that the cash from the bank account is still accessible if you need it.

That's pretty cool. When you pay your mortgage, does the principal portion stay in your bank account? When you have 100k in your account, do you have the option to keep the mortgage almost like a HELOC, as well as the option to just pay it off completely?

The mortgage itself works like a standard repayment mortgage regardless of what is going on in your bank account, so the capital is amortised a little each month; it doesn't ever hit your bank account (they are still treated as 2 separate accounts provided by the same lender).

TBH mortgage rates are so low in the UK that these type of mortgages are not very popular. We can easily get 2yr fixed rate mortgages for 1.8%apr and 10yr fixed for 3.3 apr%.. I know, just crazy. But before anyone gets jelous, consider that this has had the effect of driving up our home prices to insane levels to the point where its dysfunctional and has a damaging effect on society, eg with plenty of grown adults living with their parents. In addition, our homes are insultingly small, so the amount of house you get for your money is tiny. A "1000 sqft 3 bed semi" would represents a dream purchase for 95% of people today. When I read about "4000 sqft McMansions".. those sort of homes are reserved for millionaires over here.

MaaS

  • Stubble
  • **
  • Posts: 122
What a hit and run by the OP.

Creates account. Takes a very arrogant stance on one of the top hot button issues. 300+ posts later, never heard from again.

This is why a lot of boards have post minimums before new accounts can create threads. MMM may be at that scale where it makes sense. Just saying!

joleran

  • Stubble
  • **
  • Posts: 151
Not sure how this went 7 pages without a shoutout to https://earlyretirementnow.com/2017/10/11/the-ultimate-guide-to-safe-withdrawal-rates-part-21-mortgage-in-retirement/ and one small mention of sequence of returns risk.  It's a pretty big deal!

Telecaster

  • Handlebar Stache
  • *****
  • Posts: 1713
  • Location: Seattle, WA
Not sure how this went 7 pages without a shoutout to https://earlyretirementnow.com/2017/10/11/the-ultimate-guide-to-safe-withdrawal-rates-part-21-mortgage-in-retirement/ and one small mention of sequence of returns risk.  It's a pretty big deal!

It is indeed a pretty big deal.   It also contains a pretty big assumption:

Quote
We assume a 2% annualized inflation rate, so the mortgage payments, in real inflation-adjusted terms will decline over time.

There has never been a 60 year period, or even a 30 year period with a 2% inflation rate.   We've had low inflation for a long time, so we've gotten used to that being normal.  But the long term average is about 3.5%, and we had inflation higher than that just a few years ago.   

Since the Great Recession we haven't had 10-year Treasury rates above 4% (or at least not for very long).   But that is an outlier.  Most of the time, it has been above 4% and usually much above.  Perhaps if you are retiring today, then he's correct.  But much beyond that I wouldn't make plans based on an outlier low rate of inflation/bond rate. 

Boofinator

  • Pencil Stache
  • ****
  • Posts: 826
Not sure how this went 7 pages without a shoutout to https://earlyretirementnow.com/2017/10/11/the-ultimate-guide-to-safe-withdrawal-rates-part-21-mortgage-in-retirement/ and one small mention of sequence of returns risk.  It's a pretty big deal!

It is indeed a pretty big deal.   It also contains a pretty big assumption:

Quote
We assume a 2% annualized inflation rate, so the mortgage payments, in real inflation-adjusted terms will decline over time.

There has never been a 60 year period, or even a 30 year period with a 2% inflation rate.   We've had low inflation for a long time, so we've gotten used to that being normal.  But the long term average is about 3.5%, and we had inflation higher than that just a few years ago.   

Since the Great Recession we haven't had 10-year Treasury rates above 4% (or at least not for very long).   But that is an outlier.  Most of the time, it has been above 4% and usually much above.  Perhaps if you are retiring today, then he's correct.  But much beyond that I wouldn't make plans based on an outlier low rate of inflation/bond rate.

Except inflation is a red herring: 1) Inflation rates really don't make a difference unless you invest your money somewhere that is positively correlated to inflation (stocks are, generally speaking, not). 2) The analysis I ran earlier in this thread was based on cFIREsim, which used historical nominal returns (so inflation is taken into account); it clearly shows many scenarios where paying off the mortgage would have been the best bet, historically in the U.S. (depending on a number of input factors).

joleran

  • Stubble
  • **
  • Posts: 151
There has never been a 60 year period, or even a 30 year period with a 2% inflation rate.   We've had low inflation for a long time, so we've gotten used to that being normal.  But the long term average is about 3.5%, and we had inflation higher than that just a few years ago.   

Since the Great Recession we haven't had 10-year Treasury rates above 4% (or at least not for very long).   But that is an outlier.  Most of the time, it has been above 4% and usually much above.  Perhaps if you are retiring today, then he's correct.  But much beyond that I wouldn't make plans based on an outlier low rate of inflation/bond rate.

OK, but given a situation where bond yields are below your mortgage rate, it still doesn't make any sense to buy those bonds over paying off a mortgage and going all-in on equities is still a gamble.  Also, long term returns may be great and paying off your mortgage with future dollars worth relatively less is really awesome, but that doesn't help with sequence of returns risk.

powskier

  • Bristles
  • ***
  • Posts: 341
What a hit and run by the OP.

Creates account. Takes a very arrogant stance on one of the top hot button issues. 300+ posts later, never heard from again.

This is why a lot of boards have post minimums before new accounts can create threads. MMM may be at that scale where it makes sense. Just saying!

All caps title is a red flag too.

tyort1

  • Handlebar Stache
  • *****
  • Posts: 2230
  • Age: 47
  • Location: Denver, Colorado
There has never been a 60 year period, or even a 30 year period with a 2% inflation rate.   We've had low inflation for a long time, so we've gotten used to that being normal.  But the long term average is about 3.5%, and we had inflation higher than that just a few years ago.   

Since the Great Recession we haven't had 10-year Treasury rates above 4% (or at least not for very long).   But that is an outlier.  Most of the time, it has been above 4% and usually much above.  Perhaps if you are retiring today, then he's correct.  But much beyond that I wouldn't make plans based on an outlier low rate of inflation/bond rate.

Re: sequence of returns risk, why not save up enough to FIRE, and then save up a bit more to pay off the mortgage?  Wouldn't that give you a good buffer for sequence of returns risk?  Sure you have to work a little longer, but I feel it's a rational approach as it addresses one of the biggest causes of FIRE failure.  That's my plan, anyway.
OK, but given a situation where bond yields are below your mortgage rate, it still doesn't make any sense to buy those bonds over paying off a mortgage and going all-in on equities is still a gamble.  Also, long term returns may be great and paying off your mortgage with future dollars worth relatively less is really awesome, but that doesn't help with sequence of returns risk.

joleran

  • Stubble
  • **
  • Posts: 151
Re: sequence of returns risk, why not save up enough to FIRE, and then save up a bit more to pay off the mortgage?  Wouldn't that give you a good buffer for sequence of returns risk?  Sure you have to work a little longer, but I feel it's a rational approach as it addresses one of the biggest causes of FIRE failure.  That's my plan, anyway.

I think this is your actual post?  This is pretty much exactly how to do it to mitigate sequence of returns risk.  You save with 95%+ equities early on, start to pay off the mortgage as you get near FIRE (unless you have one at a rate lower than after-tax bond yields), then once it's paid off get your bonds in and pull the trigger.

Equity part of FIRE -> Mortgage payoff -> Bonds

Of course, if equities start crashing, stop paying off the mortgage and buy more of them.

redbirdfan

  • Stubble
  • **
  • Posts: 110
  • Location: Seattle
Mathematically speaking I believe your net worth will likely be higher by having a 30 year mortgage and investing any surplus.  To me it gets a bit fuzzy for a few reasons: 1) projected salary duration; 2) simplicity; and 3) stress.  If you have a mortgage that you keep for 30 years, that means you have to make payments for 30 years.  That is fine during the accumulation stage, but I'm assuming that many in the forums plan to retire early.  What do those payments look like when you are in the withdrawal phase and/or when the stock market does not have a good year? 

If you can pay off the mortgage within 5 years, I believe it makes sense to knock it out and ramp up investments after it is paid off.  If it will take longer than 5 years, it makes sense to invest the money and revisit the decision based on personal preferences after the invested amount > mortgage balance.  This is assuming that in either scenario you are investing in retirement accounts and have a sufficient emergency fund.


nereo

  • Senior Mustachian
  • ********
  • Posts: 10056
  • Location: la belle province
    • Here's how you can support science today:
  That is fine during the accumulation stage, but I'm assuming that many in the forums plan to retire early.  What do those payments look like when you are in the withdrawal phase and/or when the stock market does not have a good year? 

This idea of getting rid of mortgage before retirement (early or otherwise) comes up frequently, so I thought I'd address it directly.

One noteworthy aspect of fixed rate mortgages is that the they decrease in real terms over time because of inflation, while most people's WR (e.g. the '4% rule') is inflation adjusted.  The effect is that a fixed-rate mortgage payment decreases proportionally to overall spending. 

There seems to be a pervasive belief that one cannot (or at least should not) retire while still holding onto a mortgage, but there's no reason why one can't, and many FIREs in our community have done just that. Of course you will have higher expenses than you otherwise would at the start, but this is offset by the additional savings on hand.  For example, instead of making the equivalent of 50 extra mortgage payments, a person could have 50 mortgage payments + (or minus) market gains to draw from. All the while each year our FIREe increases withdrawals annually to match inflation.

Simulators such as CfireSim allow one to see how holding additional investments and a mortgage (requiring a higher WR in absolute ($)) compares to lower investment holdings but a lower WR.  Under all 'normal' simulations I have run (i.e. assuming positive annual inflation and a WR of 3.5 to 6%)) holding the mortgage results in fewer failures.  It is markedly safer if the inflation rate is near or over its historical average of ~3%. The only times it seems to be less safe is when you assume a multi-year period of deflation.  For historical context the US hasn't seen deflation since the 50s, and then only sporadically. 

joleran

  • Stubble
  • **
  • Posts: 151
Simulators such as CfireSim allow one to see how holding additional investments and a mortgage (requiring a higher WR in absolute ($)) compares to lower investment holdings but a lower WR.  Under all 'normal' simulations I have run (i.e. assuming positive annual inflation and a WR of 3.5 to 6%)) holding the mortgage results in fewer failures.  It is markedly safer if the inflation rate is near or over its historical average of ~3%. The only times it seems to be less safe is when you assume a multi-year period of deflation.  For historical context the US hasn't seen deflation since the 50s, and then only sporadically.

It's all about that sequence of returns risk.  On average, having a mortgage is good.  In the worst cases, having a mortgage is really bad.

Boofinator

  • Pencil Stache
  • ****
  • Posts: 826
There seems to be a pervasive belief that one cannot (or at least should not) retire while still holding onto a mortgage, but there's no reason why one can't, and many FIREs in our community have done just that.

One should consider what their objectives are at retirement to determine whether or not it makes sense to pay off their mortgage. If the objective is to make as much money as possible by taking some risk, they should keep their mortgage under just about any conceivable mortgage interest rate (up to about 10% based off historical returns), as this maximizes expected returns; but if the objective is to make as much money as possible, why are they even retiring? If the objective is instead to retire as soon as possible and minimize the chance of having to work again, it often makes more sense to pay off the mortgage (see my post here: https://forum.mrmoneymustache.com/investor-alley/stop-saying-it-is-not-mathematically-correct-to-pay-off-your-mortgage-early!/msg2181733/#msg2181733).

ChpBstrd

  • Handlebar Stache
  • *****
  • Posts: 1312
I'm not sure we are considering inflation in a way that is applicable to retirement. Inflation usually implies an increase in both wages and expenses.

For working people, over long periods of time, living standards hold about steady because their increase in wages equals their increase in spending. For example, maybe both increase 20% over 5 years and nothing changes in terms of purchasing power.

Now consider a retiree living off of savings/investments. If expenses increase 20%, they do not have a job so they do not get the higher wages that come with inflation. Also, their investments do not yield more just because everything now costs more. Bond yields do not rise (except for TIPS) and stocks do not neccessarily go up or pay higher dividends.

Retired homeowners with paid-off mortgages experience the same increase in living expenses as retirees with mortgages. That's because the mortgage payment never changes. The increase in expenses comes from food, medical, insurance transportation, utilities, etc. not the mortgage payment. So if the retiree with a paid-off house has $0 in mortgage expenses and $40k in all other expenses, his or her increase in living expenses due to inflation are the same as the retiree who pays $10k in mortgage P&I and $40k in all other expenses. Our hypothetical 20% inflation would increase the total cost of living for both by $8k.

Of course, the mortgage-free retiree pays less in interest, and the mortgaged retiree has more cash earning a return. Will the mortgaged retiree's assets generate a return higher than the mortgage interest rate? This is unknown. The US stock market has done great historically, but that does not guarantee its future performance. So the decision boils down to a market prediction about future long term total returns exceeding the mortgage rate.
That doesn't always happen.

The average annual return with dividends reinvested since 1990 was only 0.604% for the Nikkei 225. The winner in that scenario was pay off the mortgage.

https://dqydj.com/nikkei-return-calculator-dividend-reinvestment/


bostonjim

  • 5 O'Clock Shadow
  • *
  • Posts: 31
We have offset mortgages in the UK too.
Basically they link your bank account balance to your mortgage account. If you have a 100k mortgage and 40k in your bank account, you're effectively only being charged interest on 60k. The difference is that the cash from the bank account is still accessible if you need it.

You can manually do the same sort of thing in the U.S. by setting up a regular mortgage combined with a HELOC.  You pay your bills and deposit your paycheck into the HELOC, so you are reducing the interest you carry during the month.  I've never seen the point, but it is one of those strategies that some financial gurus recommend. 

EDIT: Sorry, the video I linked wasn't really helpful.
« Last Edit: April 02, 2019, 02:08:15 PM by bostonjim »

Telecaster

  • Handlebar Stache
  • *****
  • Posts: 1713
  • Location: Seattle, WA
Except inflation is a red herring: 1) Inflation rates really don't make a difference unless you invest your money somewhere that is positively correlated to inflation (stocks are, generally speaking, not). 2) The analysis I ran earlier in this thread was based on cFIREsim, which used historical nominal returns (so inflation is taken into account); it clearly shows many scenarios where paying off the mortgage would have been the best bet, historically in the U.S. (depending on a number of input factors).

Red herring or not, the 4% rule includes inflation adjusted withdrawals and therefore inflation must be included.  Big Ern assumes 2% inflation. That is much lower than the historical average,  and indeed was in double digits in living memory of many people on this board. 

It could be that you are correct that current conditions will continue on with inflation at no more 2% for the next 60 years.  I do not share you optimism on this point.



Boofinator

  • Pencil Stache
  • ****
  • Posts: 826
Except inflation is a red herring: 1) Inflation rates really don't make a difference unless you invest your money somewhere that is positively correlated to inflation (stocks are, generally speaking, not). 2) The analysis I ran earlier in this thread was based on cFIREsim, which used historical nominal returns (so inflation is taken into account); it clearly shows many scenarios where paying off the mortgage would have been the best bet, historically in the U.S. (depending on a number of input factors).

Red herring or not, the 4% rule includes inflation adjusted withdrawals and therefore inflation must be included.  Big Ern assumes 2% inflation. That is much lower than the historical average,  and indeed was in double digits in living memory of many people on this board. 

It could be that you are correct that current conditions will continue on with inflation at no more 2% for the next 60 years.  I do not share you optimism on this point.

I agree, inflation with respect to spending should be considered in any retirement analysis, and 2% was probably not the best assumption for ERN to make. However, when we are considering how to allocate our stash during retirement, most options we have are uncorrelated with inflation (with the exception of something like TIPS). So if we are comparing whether to invest in our mortgage or in equities, inflation doesn't play much of a role in this decision. What plays a huge role is sequence of returns risk. (This also plays a role when building the stash, but as mentioned in a previous post the objective during that time should be to increase risk in order to maximize expected returns and thus minimize expected time to FIRE.)

Gary123

  • 5 O'Clock Shadow
  • *
  • Posts: 48
the actual risk of losing money in the market over that length of time [30 years] is effectively zero. 

This is such a gross misunderstanding of risk, I don't even know where to start. SMH

Agreed. 

To update this conversation, the standard deduction now being raised to $24,000 means many people will get little or no tax benefit from holding a personal mortgage especially given the new upper limit placed on property taxes you can deduct.

I knew of an Edward Jones financial advisor who followed his own advice (per many comments above) and mortgaged the house he inherited debt free from his parents in 2007 to invest in the market for “no risk” and better returns.  Needless to say, he lost the house when the housing market collapsed and his mortgage exceeded the value of the property while the money he invested was a fraction of what he invested. 


DadJokes

  • Bristles
  • ***
  • Posts: 390
That's a period of a few years. The market has already more than recovered since then and will almost certainly end up better off over a full 30 year period than the small interest rate that the mortgage has.

S&P 500 on January 1, 2007: 1,424.16
S&P 500 right now: 2,892.29

It has more than doubled since the high before the 2008 recession, which is a far better rate of return than not having a 4% mortgage can provide (it would take 18 years for that money to double).

Dicey

  • Walrus Stache
  • *******
  • Posts: 9721
  • Age: 61
  • Location: NorCal
the actual risk of losing money in the market over that length of time [30 years] is effectively zero. 

This is such a gross misunderstanding of risk, I don't even know where to start. SMH

Agreed. 

To update this conversation, the standard deduction now being raised to $24,000 means many people will get little or no tax benefit from holding a personal mortgage especially given the new upper limit placed on property taxes you can deduct.

I knew of an Edward Jones financial advisor who followed his own advice (per many comments above) and mortgaged the house he inherited debt free from his parents in 2007 to invest in the market for “no risk” and better returns.  Needless to say, he lost the house when the housing market collapsed and his mortgage exceeded the value of the property while the money he invested was a fraction of what he invested.
Sorry, but this example is woefully incomplete. What did he invest in? Most likely individual stocks or expensive funds, which are typical of EJ. Did he invest all the money or use some of it to support or even inflate his lifestyle? Did he keep a stong EF?  This example merely shows he wasn't smart about how he invested the money, not that doing so was a terrible idea.

nereo

  • Senior Mustachian
  • ********
  • Posts: 10056
  • Location: la belle province
    • Here's how you can support science today:

I knew of an Edward Jones financial advisor who followed his own advice (per many comments above) and mortgaged the house he inherited debt free from his parents in 2007 to invest in the market for “no risk” and better returns.  Needless to say, he lost the house when the housing market collapsed and his mortgage exceeded the value of the property while the money he invested was a fraction of what he invested.

How did an EJ advisor go from having (presumably) hundreds of thousands in the market from mortgaging a paid off house to being unable to make a monthly mortgage payment?
This anecdote strains credulity.

tyort1

  • Handlebar Stache
  • *****
  • Posts: 2230
  • Age: 47
  • Location: Denver, Colorado
the actual risk of losing money in the market over that length of time [30 years] is effectively zero. 

This is such a gross misunderstanding of risk, I don't even know where to start. SMH

Agreed. 

To update this conversation, the standard deduction now being raised to $24,000 means many people will get little or no tax benefit from holding a personal mortgage especially given the new upper limit placed on property taxes you can deduct.

I knew of an Edward Jones financial advisor who followed his own advice (per many comments above) and mortgaged the house he inherited debt free from his parents in 2007 to invest in the market for “no risk” and better returns.  Needless to say, he lost the house when the housing market collapsed and his mortgage exceeded the value of the property while the money he invested was a fraction of what he invested.

And I know people that took out a mortgage, paid extra and then didn't have enough $$ as a cushion during the crash, lost their job and lost their house.  That's the problem with anecdotes, they don't actually prove anything.

Gary123

  • 5 O'Clock Shadow
  • *
  • Posts: 48
Not trying to “prove” anything.  Just an observation of an actual case where someone followed this advise to his own peril. 

Anyone remotely familiar with the 2008 financial crises doesn’t need statistics to back-up an anecdote about someone losing a home since the statistics are well known.  Essentially, the federal government tried to push homeownership past 67% as if that was a good thing.  Policy makers confused cause and effect.  Homeowners are more financially stable and prosperous not because they are homeowners but the opposite.

The point is leveraging your primary residence to invest in the market isn’t really that smart.  Regardless of the projected or perceived future benefits, another financial crises can put you out of both money and home very quickly.

nereo

  • Senior Mustachian
  • ********
  • Posts: 10056
  • Location: la belle province
    • Here's how you can support science today:
Not trying to “prove” anything.  Just an observation of an actual case where someone followed this advise to his own peril. 

Anyone remotely familiar with the 2008 financial crises doesn’t need statistics to back-up an anecdote about someone losing a home since the statistics are well known.  Essentially, the federal government tried to push homeownership past 67% as if that was a good thing.  Policy makers confused cause and effect.  Homeowners are more financially stable and prosperous not because they are homeowners but the opposite.

The point is leveraging your primary residence to invest in the market isn’t really that smart.  Regardless of the projected or perceived future benefits, another financial crises can put you out of both money and home very quickly.

I'm not disagreeing that people lost their homes in the '08 financial crisis.  I'm questioning how your anecdote could even be possible given what we know and what you've told us. A man who has a job as a financial advisor takes the full value of his home and places it in the market.  If he did this the day before everything crashed (unlikely) he would have seen a 54% loss at the bottom.  Which sounds bad, except he still retained half of his original investment.  How again did he lose his house? He could have continued to make payments for well over a decade (i.e. "now").
Either he was betting everything on speculative stocks which went entirely bust (unlikely - and something literally no one here is advocating) or your story is complete BS.

The point is leveraging your primary residence to invest in the market isn’t really that smart.  Regardless of the projected or perceived future benefits, another financial crises can put you out of both money and home very quickly.
I find the opposite - putting a huge amount of your NW into your home is really not very smart, and financial crises don't care how much equity you have in your home - particularly if you are still a few payments short of eliminating your mortgage entirely. Unless you have a lot of liquid investments the next financial crisis (be in a recession or something more personal in nature) can toss you out of your home very quickly.

tyort1

  • Handlebar Stache
  • *****
  • Posts: 2230
  • Age: 47
  • Location: Denver, Colorado
Put another way. 

If you invest all your $$ in your home and you lose your job/income before it's fully paid off, you'll lose your home.

If you invest your $$ into index funds and you lose your job during a crash, you might lose up to 50% of your money (temporarily) but you still have a bunch of cash on hand that you can dip into to make your house payments till you find another job. 

From a "risk" standpoint, these 2 options aren't even in the same ballpark.  The first one is WAY RISKIER in the case of job loss.

the_fixer

  • Pencil Stache
  • ****
  • Posts: 510
  • Location: Colorado
  • mind on my money money on my mind
Put another way. 

If you invest all your $$ in your home and you lose your job/income before it's fully paid off, you'll lose your home.

If you invest your $$ into index funds and you lose your job during a crash, you might lose up to 50% of your money (temporarily) but you still have a bunch of cash on hand that you can dip into to make your house payments till you find another job. 

From a "risk" standpoint, these 2 options aren't even in the same ballpark.  The first one is WAY RISKIER in the case of job loss.
Not sure about the rest of the world but here in the US if you house is foreclosed on you get the difference back that is above and beyond what the bank is owed.

For example say you have a house that is worth $400k, you owe $20k to the bank and it gets foreclosed on the house goes to auction and brings $300k you would be entitled to $280k from the sale of the house.



Sent from my Pixel 2 XL using Tapatalk


nereo

  • Senior Mustachian
  • ********
  • Posts: 10056
  • Location: la belle province
    • Here's how you can support science today:
Put another way. 

If you invest all your $$ in your home and you lose your job/income before it's fully paid off, you'll lose your home.

If you invest your $$ into index funds and you lose your job during a crash, you might lose up to 50% of your money (temporarily) but you still have a bunch of cash on hand that you can dip into to make your house payments till you find another job. 

From a "risk" standpoint, these 2 options aren't even in the same ballpark.  The first one is WAY RISKIER in the case of job loss.
Not sure about the rest of the world but here in the US if you house is foreclosed on you get the difference back that is above and beyond what the bank is owed.

For example say you have a house that is worth $400k, you owe $20k to the bank and it gets foreclosed on the house goes to auction and brings $300k you would be entitled to $280k from the sale of the house.

Technically true, but the reality is it often isn't straightforward or immediate.  What you are talking about is surplus funds from a foreclosure sale. Often the bank will not automatically issue you a cheque, which is why the entire field of foreclosure law exists.  The lender will also us any funds to pay property taxes and homeowners insurance and applicable penalties. This is in addition to the remaining amount on your mortgage plus applicable fees (often steep) for not paying your mortgage on time for several months Laws vary by state but many will not settle surplus funds until months after the auctioned property has gone through escrow.

Ultimately your home will be sold at auction, and the bank cares little about the sale price beyond getting back what is owed on the mortgage.  The lender won't fix issues or do yard work or do any of the various techniques used to fetch the maximum sale price because they don't give a f*&k. The price your foreclosed home goes for depends greatly on how many buyers with cash-on-hand are interested in buying on that particular month.  I'd say getting 75% of your assessed value is wildly optimistic - when I lived in California during the last mortgage bubble there was suddenly a glut of homes in foreclosure and a dearth of buyers capable of bringing several hundred $k to an auction.

tl;dr - in order to get any equity back from the foreclosure of your home you have to wait until it goes to auction at a steep discount, clears escrow, the lender deducts fees and penalties and (often) you hire an attorney to file the appropriate legal paperwork and testify in court.

Compare that to holding equities or (better) an appropriate mix of equities and bonds.  The market drops 30% but you the next day you can sell some, all or none of you holdings as necessary.

the_fixer

  • Pencil Stache
  • ****
  • Posts: 510
  • Location: Colorado
  • mind on my money money on my mind
Put another way. 

If you invest all your $$ in your home and you lose your job/income before it's fully paid off, you'll lose your home.

If you invest your $$ into index funds and you lose your job during a crash, you might lose up to 50% of your money (temporarily) but you still have a bunch of cash on hand that you can dip into to make your house payments till you find another job. 

From a "risk" standpoint, these 2 options aren't even in the same ballpark.  The first one is WAY RISKIER in the case of job loss.
Not sure about the rest of the world but here in the US if you house is foreclosed on you get the difference back that is above and beyond what the bank is owed.

For example say you have a house that is worth $400k, you owe $20k to the bank and it gets foreclosed on the house goes to auction and brings $300k you would be entitled to $280k from the sale of the house.

Technically true, but the reality is it often isn't straightforward or immediate.  What you are talking about is surplus funds from a foreclosure sale. Often the bank will not automatically issue you a cheque, which is why the entire field of foreclosure law exists.  The lender will also us any funds to pay property taxes and homeowners insurance and applicable penalties. This is in addition to the remaining amount on your mortgage plus applicable fees (often steep) for not paying your mortgage on time for several months Laws vary by state but many will not settle surplus funds until months after the auctioned property has gone through escrow.

Ultimately your home will be sold at auction, and the bank cares little about the sale price beyond getting back what is owed on the mortgage.  The lender won't fix issues or do yard work or do any of the various techniques used to fetch the maximum sale price because they don't give a f*&k. The price your foreclosed home goes for depends greatly on how many buyers with cash-on-hand are interested in buying on that particular month.  I'd say getting 75% of your assessed value is wildly optimistic - when I lived in California during the last mortgage bubble there was suddenly a glut of homes in foreclosure and a dearth of buyers capable of bringing several hundred $k to an auction.

tl;dr - in order to get any equity back from the foreclosure of your home you have to wait until it goes to auction at a steep discount, clears escrow, the lender deducts fees and penalties and (often) you hire an attorney to file the appropriate legal paperwork and testify in court.

Compare that to holding equities or (better) an appropriate mix of equities and bonds.  The market drops 30% but you the next day you can sell some, all or none of you holdings as necessary.
I simply pointed this out to make the point as many people were saying the bank just takes your house and everything you have paid into it is gone.

Sure you might have to wait a bit or jump through a few hoops but not nearly as dire as it was made out to be.

Sent from my Pixel 2 XL using Tapatalk


nereo

  • Senior Mustachian
  • ********
  • Posts: 10056
  • Location: la belle province
    • Here's how you can support science today:
I simply pointed this out to make the point as many people were saying the bank just takes your house and everything you have paid into it is gone.

Sure you might have to wait a bit or jump through a few hoops but not nearly as dire as it was made out to be.

Agreed.  After 6-12 months and with some considerable investment in time and resources an individual can get back most of the surplus funds from the lender.
A person will not lose all the equity from a paid-off or nearly paid-off home.  It just won't be immediately available, nor will it be anywhere near the full equity.

Dicey

  • Walrus Stache
  • *******
  • Posts: 9721
  • Age: 61
  • Location: NorCal
I simply pointed this out to make the point as many people were saying the bank just takes your house and everything you have paid into it is gone.

Sure you might have to wait a bit or jump through a few hoops but not nearly as dire as it was made out to be.

Agreed.  After 6-12 months and with some considerable investment in time and resources an individual can get back most of the surplus funds from the lender.
A person will not lose all the equity from a paid-off or nearly paid-off home.  It just won't be immediately available, nor will it be anywhere near the full equity.
But in the meantime, you have nowhere to live and no place to put your stuff. It was heartbreaking to see what people left behind during the great recession.

Also, one can still lose their paid-for home for non-payment of taxes.

tyort1

  • Handlebar Stache
  • *****
  • Posts: 2230
  • Age: 47
  • Location: Denver, Colorado
You might get some equity back after the bank sells it, but you've still lost your house.  If your goal is to NOT lose your house, then paying extra towards the mortgage is waaaaaaayyyyyyy more risky than saving/investing it into index funds. 

Now, having said that, my own strategy is to save $1.6 million, use $300k of that to pay off the mortgage that I have left.  That reduces my available spend by $12k per year (ie, 300,000 x .04), but it also reduces my expenses by $26,400 (by getting rid of my $2200/month mortgage payment).  That gives me a $1.3m stash left over and $65k per year spending and no mortgage payments so they can't take my house even if the market crashes or whatever. 

ender

  • Magnum Stache
  • ******
  • Posts: 4605
You might get some equity back after the bank sells it, but you've still lost your house.  If your goal is to NOT lose your house, then paying extra towards the mortgage is waaaaaaayyyyyyy more risky than saving/investing it into index funds. 

Now, having said that, my own strategy is to save $1.6 million, use $300k of that to pay off the mortgage that I have left.  That reduces my available spend by $12k per year (ie, 300,000 x .04), but it also reduces my expenses by $26,400 (by getting rid of my $2200/month mortgage payment).  That gives me a $1.3m stash left over and $65k per year spending and no mortgage payments so they can't take my house even if the market crashes or whatever.

fwiw a risk most here seem to consistently ignore is inflation - the last decades have had such low inflation in the USA that it's hard to imagine inflation mattering.

Holding a mortgage is risk mitigation against inflation, to some extent.

Boofinator

  • Pencil Stache
  • ****
  • Posts: 826
You might get some equity back after the bank sells it, but you've still lost your house.  If your goal is to NOT lose your house, then paying extra towards the mortgage is waaaaaaayyyyyyy more risky than saving/investing it into index funds. 

Now, having said that, my own strategy is to save $1.6 million, use $300k of that to pay off the mortgage that I have left.  That reduces my available spend by $12k per year (ie, 300,000 x .04), but it also reduces my expenses by $26,400 (by getting rid of my $2200/month mortgage payment).  That gives me a $1.3m stash left over and $65k per year spending and no mortgage payments so they can't take my house even if the market crashes or whatever.

fwiw a risk most here seem to consistently ignore is inflation - the last decades have had such low inflation in the USA that it's hard to imagine inflation mattering.

Holding a mortgage is risk mitigation against inflation, to some extent.

If you're comparing buying a house to renting, you are right, you're mitigating inflation. If you're comparing paying off the mortgage to investing in equities, it's hard to argue that inflation pays a role at all (since neither of these investments correlate with inflation, for the most part).

Telecaster

  • Handlebar Stache
  • *****
  • Posts: 1713
  • Location: Seattle, WA
I knew of an Edward Jones financial advisor who followed his own advice (per many comments above) and mortgaged the house he inherited debt free from his parents in 2007 to invest in the market for “no risk” and better returns.  Needless to say, he lost the house when the housing market collapsed and his mortgage exceeded the value of the property while the money he invested was a fraction of what he invested.

Needless to say? 

The guy sounds like a typical Edwards Jones adviser who doesn't understand what mortgage is, the definition of "risk" or how the stock market works.  And he definitely didn't read any of the comments above because he clearly didn't understand the concepts we're talking about.

First, mortgage payments need to be made on schedule regardless of value of the house of what the stock market does.  If you don't have a plan to make the payments independent of what the stock market does, you are very, very special kind of stupid.   By not paying off the mortgage and investing instead leaves you a cushion of liquid assets  which you could use to pay the monthly payments, if the situation should arise.   Taking on a debt obligation based on what stock market does is cra-cra.

Second, the basic principal of NOT paying down your mortgage is that mortgages are long term.   No one knows what the market will do over the short or medium term, but the long term will be up.  If he went all in in 2007 and lost everything in 2009-ish then that violates the long term rule right off the bat.

Third, since 2007, the market is up about 150% (including dividends) or a CAGR of about 8%.    I don't know what mortgages were back then (5%?) but if he had been wise enough to realize he had to make his mortgage payment (which is not a major stretch of intellectual capacity), he would be money ahead today.

tyort1

  • Handlebar Stache
  • *****
  • Posts: 2230
  • Age: 47
  • Location: Denver, Colorado
You might get some equity back after the bank sells it, but you've still lost your house.  If your goal is to NOT lose your house, then paying extra towards the mortgage is waaaaaaayyyyyyy more risky than saving/investing it into index funds. 

Now, having said that, my own strategy is to save $1.6 million, use $300k of that to pay off the mortgage that I have left.  That reduces my available spend by $12k per year (ie, 300,000 x .04), but it also reduces my expenses by $26,400 (by getting rid of my $2200/month mortgage payment).  That gives me a $1.3m stash left over and $65k per year spending and no mortgage payments so they can't take my house even if the market crashes or whatever.

fwiw a risk most here seem to consistently ignore is inflation - the last decades have had such low inflation in the USA that it's hard to imagine inflation mattering.

Holding a mortgage is risk mitigation against inflation, to some extent.

If you're comparing buying a house to renting, you are right, you're mitigating inflation. If you're comparing paying off the mortgage to investing in equities, it's hard to argue that inflation pays a role at all (since neither of these investments correlate with inflation, for the most part).

Agreed, inflation is accounted for whether you keep the mortgage OR invest in index funds.

FireAnt

  • Stubble
  • **
  • Posts: 189
  • Age: 34
  • Location: West Michigan
Mathematically speaking I believe your net worth will likely be higher by having a 30 year mortgage and investing any surplus.  To me it gets a bit fuzzy for a few reasons: 1) projected salary duration; 2) simplicity; and 3) stress.  If you have a mortgage that you keep for 30 years, that means you have to make payments for 30 years.  That is fine during the accumulation stage, but I'm assuming that many in the forums plan to retire early.  What do those payments look like when you are in the withdrawal phase and/or when the stock market does not have a good year? 

If you can pay off the mortgage within 5 years, I believe it makes sense to knock it out and ramp up investments after it is paid off.  If it will take longer than 5 years, it makes sense to invest the money and revisit the decision based on personal preferences after the invested amount > mortgage balance.  This is assuming that in either scenario you are investing in retirement accounts and have a sufficient emergency fund.

And what if you have a sufficient emergency fund and maxed out all retirement accounts? Would it be the same if you are investing in a taxable account? That's where I get stuck in paying down my mortgage vs. using it to invest in taxable accounts.

nereo

  • Senior Mustachian
  • ********
  • Posts: 10056
  • Location: la belle province
    • Here's how you can support science today:

And what if you have a sufficient emergency fund and maxed out all retirement accounts? Would it be the same if you are investing in a taxable account? That's where I get stuck in paying down my mortgage vs. using it to invest in taxable accounts.

The further down you go on the Investment Order, the less of a difference there will be between deciding to invest or overpay a mortgage. Historically investing in taxable accounts has beaten out paying off a mortgage in the majority of time periods, but you can find periods (particularly shorter ones) where this was not the case.
My personal opinion - once you have an e-fund, are maxing out retirement accounts and have at least five-figures in easily-accessed taxable accounts do whichever makes the most sense to you.  I'd still rather hold the mortgage and invest in my daughter's 529, but at that point in the game neither choice is particularly 'bad' - unlike when people forego all savings entirely just to kill a fixed-rate mortgage.