Author Topic: The great "pay off mortage" vs "invest in stocks" debate - possible solution  (Read 75435 times)

K-ice

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #150 on: September 02, 2015, 11:29:35 PM »


I recently bought a family home (should have inherited it, but that's a long story). I had to pay about $100k, but I had also just sold some inherited land for more than twice that.

Thoughts?

So you have $250K cash and you are trying to decide to invest it all and hold a mortgage or invest just $150K and be debt free.

You will need to crunch your own numbers.
Here are some quick ones I've done on my phone.


Mortgage
100K @4% for 25y = 528 monthly pmt = $6330/year

Case A: 250K @ 7% for 25y = 1.3M (get a mtg, invest it all)
Case B: 150K @ 7% for 25y = 0.8M (pay cash invest the rest)

But if you have no mtg, you could add that equivalent pmt to the 150k case.
I assume the mtg pmt is coming from somewhere else, either your paycheck or rental income.

Case C: 150K @ 7% for 25y with a $6330 annual addition = 1.2M
(pay cash invest the rest & make diciplined additions to your stash)


So you can see case B is the least profitable.

There is very little difference between A & C, but case C takes more discipline.
At least I find paying myself first & investing is harder than paying a mtg.


I hope that helps a bit.









MrMonkeyMustache

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #151 on: September 03, 2015, 01:21:34 AM »
I'm not sure if this has already been addressed, but I feel that this problem is not being treated properly if you are going to FIRE.

The consensus on this forum seems to be, that as long as your expected return for the investments are larger than the mortgage interest, it is always better to keep the mortgage and invest. To do otherwise might be "ok, for psychological reasons if it makes you feel safe and comfortable". I, however disagree. The problem is, that if you want to FIRE, you can only use 4% of that investment to cover your expenses (I assume that is the SWR). It also is not enough that the 4% covers the interest, as you will also have mortgage payments. An example:

You have expenses that would be covered by a $500,000 stash (i.e. $20k/y). This sum would make you FI if you had no mortgage and you could thus FIRE. Win. However, you do have a $300,000 mortgage. By the luck of the draw you win $300,000. The expected return from the market is 7% and your mortgage interest is 2%. Following the general advice given here, you should clearly invest, right?

Wrong. If you pay off the mortgage you can FIRE and we are done. I assume your aim is to FIRE as soon as possible, not to accumulate more money than you need. See, a $300,000 mortgage at 2% for 30 years costs about $13.3k/year to service according to a random calculator on the internet. If you invest the $300,000 you can withdraw $12k according to the 4% SWR. You can not FIRE and have to keep working.

Ok, you only need $1.3k/y in additional passive income to FIRE (add $33k to stach), but if your mortgage interest is, say, 5% that number jumps to $7.3k/year (I have no idea what the mortgage interests are all over the world). If you have a 5% mortgage you would therefore need to get an additional $180,000 to FIRE. This is serious money, since you would need a 60% bigger windfall to FIRE if you invest it rather than pay off your mortgage.

Granted, if you invest you will have more money when all is said and done. Especially you will have a much larger cash flow after 30 years when you no longer have any mortgage. But if the aim is to FIRE, then that is not the right metric. I think just comparing interest rates to market returns is clearly insufficient. The problem is, that the 4% SWR has safety margins built in to it. If you kill your mortgage to lower your expenses you need no safety margin, as those expenses are killed guaranteed forever.

Since you are not going to service that mortgage forever, you could perhaps use a larger SWR to aim for the right size stache after your mortgage is done. You could use a 5% withdrawal to cover the mortgage payments for the first 30 years, because you don't have to preserve all your money to live after the mortgage is gone. I think this is a viable option at least if the mortgage is very short term (<10 years?), but it will definitely require some more number crunching than 5%<7%. Also, a larger withdrawal rate exposes you to a greater risk of failure if the market tanks during the first years of FIRE. This is not surprising, since a higher return should come with an additional risk.

MDM

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #152 on: September 03, 2015, 02:21:13 AM »
I'm not sure if this has already been addressed
Once or twice or more.  E.g., see http://forum.mrmoneymustache.com/forum-information-faqs/frequently-asked-questions/ and look for "Investing".

Quote
as long as your expected return for the investments are larger than the mortgage interest, it is always better to keep the mortgage and invest. To do otherwise might be "ok, for psychological reasons if it makes you feel safe and comfortable".
Once you allow the investment return to be higher in reality than the mortgage interest, you have ceded the mathematical high ground.  The psychological reasons are based on "but what if the actual return is not that high?"

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...The expected return from the market is 7% and your mortgage interest is 2%. ... If you invest the $300,000 you can withdraw $12k according to the 4% SWR.
Here is where this approach becomes internally inconsistent.  If you actually do get 7% from the market then you are well ahead.  All you need to do is have the market return match the mortgage interest. 

Quote
Granted, if you invest you will have more money when all is said and done. Especially you will have a much larger cash flow after 30 years when you no longer have any mortgage. ... the 4% SWR has safety margins built in to it. If you kill your mortgage to lower your expenses you need no safety margin, as those expenses are killed guaranteed forever.
Yes to the ideas left in the above quote.  You have framed it well: there are no guarantees, and thus one needs to decide based on one's own risk tolerance.

Quote
Since you are not going to service that mortgage forever, you could perhaps use a larger SWR to aim for the right size stache after your mortgage is done. You could use a 5% withdrawal to cover the mortgage payments for the first 30 years, because you don't have to preserve all your money to live after the mortgage is gone. I think this is a viable option at least if the mortgage is very short term (<10 years?), but it will definitely require some more number crunching than 5%<7%. Also, a larger withdrawal rate exposes you to a greater risk of failure if the market tanks during the first years of FIRE. This is not surprising, since a higher return should come with an additional risk.
Yes, it is a risk/reward question.  The answer depends on what one chooses to assume.  If one assumes market return > mortgage interest, investing is better; if one assumes market return < mortgage interest, mortgage payment is better.

MrMonkeyMustache

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #153 on: September 03, 2015, 02:35:34 AM »
I'm not saying that you wont make more money eventually. I'm saying that investing instead of paying off the mortgage can delay your FIRE date (if you are not willing to break the 4% rule). If your goal is to FIRE, then having to work an additional amount of years is clearly not "better" or "well ahead", even though you will end up with more money when you die by investing the money. I feel you didn't get the essential idea of my post. Perhaps I did not explain it well.

MDM

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #154 on: September 03, 2015, 11:41:38 AM »
I'm saying that investing instead of paying off the mortgage can delay your FIRE date (if you are not willing to break the 4% rule). If your goal is to FIRE, then having to work an additional amount of years is clearly not "better" or "well ahead", even though you will end up with more money when you die by investing the money. I feel you didn't get the essential idea of my post. Perhaps I did not explain it well.
If you are saying "if one applies the 4% rule to money set aside for mortgage payment, that will delay FIRE" I agree.

Let's examine some assumptions that go into that 4% number (see https://en.wikipedia.org/wiki/Trinity_study).  The studies assumed that expenses increase with inflation, and never stop.  Neither of these apply to a mortgage, although if one assumes a 30 year mortgage starting at FIRE the "never stop" part is effectively met.  That mortgage payments do not increase with inflation is important.

Broadly speaking, two major risks to retirement planning are low returns and high inflation.  With a mortgage, one of those (the high inflation) is not a risk at all.  Note that 1965 and 1966 are two years that drive the 4% number that low: http://www.mrmoneymustache.com/wp-content/uploads/2012/05/SWR-by-year.jpg
The extremely high inflation in the 1970s and 1980s contributes significantly to the low withdrawal success number - but that would not be a problem for paying a mortgage.  In fact, high inflation would likely help you because your mortgage-specific investment needs only have a nominal return higher than the mortgage interest.  It could have a negative real return if inflation is high enough and you would still be ok.

There is of course no guarantee that the 4% guideline itself, as conservative as it is, will ensure success in the future.  It is based on historical results, not laws of nature.  The study authors emphasize that it should be treated as a guideline, not a rule.  Presumably all agree that the more conservative one's assumptions, the longer until one declares "I'm FI and can RE."  The mortgage payoff vs. investing discussion is just another risk analysis question.

MrMonkeyMustache

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #155 on: September 05, 2015, 06:07:09 AM »
I don't think we can generally assume that the expenses of a mortgage does not increase with inflation. I guess 30 year fixed mortgages are available in the US, but at least where I am from the mortgage rates are tied to e.g. the 12 moth EURIBOR, which will probable take off if inflation rises.

gtd125

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #156 on: September 07, 2015, 12:33:02 AM »
My wife and I are looking to move soon, and while we don't have enough money to just pay off the mortgage (or in this case start with no mortgage), we are considering whether to take a 10, 15 or 30 year fixed loan when we purchase.

For us, the 10 or 15 year mortgage would be the "pay off mortgage" approach, while the 30 year mortgage would be the "invest in stocks" approach. (I'm assuming that everything my wife and I save with lower monthly payments on a 30-year mortgage will go straight into our Vanguard account).

Anyway, I spent today building an excel calculator (attached) that lets you enter values for mortgage rates and investment returns, and you can see how the different options compare.

Looking at the spreadsheet, it doesn't seem to make a huge difference either way. If the stock market does well, we could do slightly better over the long haul with a 30-year mortgage. But, it's not a massive difference.

However,if we want to retire in 15 years, it makes more sense for us to go with the 15-year mortgage. Once the mortgage is done with, our monthly expenses will be lower, and we'll ready to FIRE.

(If you use the calculator, don't change any of the values except for B1 through B5 on the "Summary" tab, otherwise you'll break the calculator. The calculator doesn't address the mortgage interest deduction, but it's 2:45 AM, and anyway some of the benefit there is variable depending on how much you make, so ¯\_(ツ)_/¯)





« Last Edit: September 07, 2015, 12:43:12 AM by gtd125 »

K-ice

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #157 on: September 07, 2015, 08:43:36 AM »
@ gtd125

I have a few questions.

Why are the interest rates different from 30y to 15y. Is that what the bank quotes? What rate is for 20 & 25y?

 Is $2685 really the Max you have per month for your mortgage and investments?

I ask because the more other money you have to invest the less of a difference the pay off mtg vs invest debate becomes.

So if you have another $1000 per month (or anything) dedicated to investing you should add that to your spread sheet and you will see that helps to equalize your net worth over time regardless of the mtg payment plan you choose. The more you have the the less the choice matters.

If you have nothing, or very little extra, the 30 mtg plan is usually the best. (But the different interest rates factor in.)

What kind of pre payment can you make with the 30y plan?
For example, can you double up monthly & pay 10% or 15% lump sum per year?

Check out the prepayment rules.

I would maybe recommend signing up for the 30 plan but double up every month and it should be paid off in about 12y. The reason for not just going for a shorter term in the first place, is that it is reassuring to be on the hook for only $1300 instead of $2600. But you must be diciplined to put the extra $1300 either towards the mtg or invest. A lot can happen over 30 y, job loss,  illness, kids, major home repair etc. If/when that emergency happens it is just a quick call to lower your mortgage pmt to the $1300 again.

But also check the interest on the 20,25y. I would be curious to see how they play out.

You may be able to get a 25y mtg, keep the good interest rate, pay it off like it is a 15y mtg and still have a bit of money to invest the entire time.

Nice spread sheet and I hope you enjoy crunching a few more scenarios.


 

bittheory

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #158 on: September 07, 2015, 02:47:42 PM »
Wow. I've read through almost every response. Both sides make a lot of sense depending on your situation. Can't we just agree that either way, it's a good idea?


gtd125

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #159 on: September 07, 2015, 04:18:56 PM »
@K-ice

Thanks for the feedback and the suggestions. I've improved the calculator to add some new features, including:
  • An option to assume that gains from the mortgage interest deduction are reinvested, and an option to adjust the deduction by selecting your marginal tax rate
  • Options to include initial and supplemental investments, with an option to automatically adjust the supplement investments to increase/decrease over time
  • An option to adjust the summary table by an assumed future rate of inflation, so you can view the figures as nominal or inflation-adjusted.
  • A new column on the summary table that shows 4% of investments minus the next years annual mortgage payments. The value in this column represent the amount of wealth available to live on using the 4% rule, after mortgage payments (if applicable).
In response to your questions:
  • The different interest rates I took from the bankrate website. When I have some time i'll add more options beyond the 10, 15 and 30 it shows now.
  • I do have more than $2,685 for the mortgage+investments. I've added the new features to incorporate the extra investments.
  • As far as prepayments: If I'm choosing between a shorter mortgage, or a longer mortgage and making extra payments, I'd rather have the shorter mortgage because the interest rate is so much lower. On bankrate, it looks like the rate on a 15-year mortgage is about 3.00%, vs. 3.75% for a 30 year mortgage. On a $300,000 mortgage, the interest payments (no principal) for the first year are $11,155 for the 30-year mortgage, vs. $8,780 for the 15-year option. That's $2,375 in interest costs down the drain ($1,780 if I recapture 25% through the mortgage interest deduction).
In the spreadsheet I just uploaded, I used the following assumptions:
  • $280,000 mortgage
  • Mortgage rates: (3.75% 30-yr) (3.00% 15-yr) (2.85% 10-yr)
  • 6% annual return on investments
  • 25% marginal tax rate
  • $2,684 in either mortgage payments or investments each month, plus an additional $750 in supplemental investments. The amount of the supplemental investment increases by 4.00%/yr
  • $50,000 starting investment portfolio
  • 2% rate of future inflation
The primary takeaway is that even though the 30-year mortgage yields more money at the very end, you will have more money to live on with the shorter mortgages in years 16-30 with the 15 year mortgage (or years 11-30 with the 10 year mortgage). 


That's because even though you have a larger investment portfolio in year's 11-30 using the 30-year mortgage, it's not enough to offset the mortgage payment that you are still making.


Based on my findings here, and the plan my wife and I have to be financially independent in 15 years, I'm leaning towards choosing the 15-year mortgage. 

(If you download the excel file, edit the red text on the summary page to make changes to the assumptions. Don't directly edit the other numbers or you'll break the formulas)

11:01 PM - 9/7/15 update - I added an option for people who choose to buy the house in cash
« Last Edit: September 07, 2015, 09:03:41 PM by gtd125 »

Taran Wanderer

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #160 on: September 08, 2015, 12:22:18 AM »
I had another option suggested to me yesterday.  Buy AT&T with its 5.77% dividend and use the dividend to pay the mortgage.  Even in FIRE.  Of course, that's kinda putting all your eggs in one basket.

I figure this is primarily an emotional decision that can be informed by financial analysis. But it's still an emotional and very personal decision.

brooklynguy

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #161 on: September 08, 2015, 07:44:49 AM »
  • A new column on the summary table that shows 4% of investments minus the next years annual mortgage payments. The value in this column represent the amount of wealth available to live on using the 4% rule, after mortgage payments (if applicable).

It doesn't make sense to calculate "wealth available to live on using the 4% rule, after mortgage payments" in this way, for the reasons most recently explained by MDM in post # 154 above.  Your mortgage payments do not adjust with inflation and they have a finite, known lifespan (equal to the remaining life to maturity of your mortgage).  So there is no reason to use a 4% rule type of analysis for a lump sum investment portfolio "earmarked" for servicing your mortgage.

For that reason, this conclusion is not really accurate:

Quote
The primary takeaway is that even though the 30-year mortgage yields more money at the very end, you will have more money to live on with the shorter mortgages in years 16-30 with the 15 year mortgage (or years 11-30 with the 10 year mortgage). 

That's because even though you have a larger investment portfolio in year's 11-30 using the 30-year mortgage, it's not enough to offset the mortgage payment that you are still making.

In the situation reflected in your spreadsheet, you don't have less money to live on with the shorter-term mortgage in years 16-30, and the larger investment portfolio is more than enough to offset the mortgage payments that you are still making.  In fact, it's more than enough to pay off the mortgage in full at that point, so once you assume a positive real investment return higher than the mortgage interest rate, then of course it will be enough on its own to service the remaining payments on the mortgage.

When your total investment portfolio is larger than the remaining principal balance on your mortgage, I think it's easiest to use mental accounting to "divide" your portfolio into two separate portfolios:  one that is earmarked for servicing your remaining mortgage payments, and one for servicing the rest of your living expenses.  The mortgage-earmarked bucket of your portfolio exists solely to service your mortgage, so there is zero effect on how much money you otherwise have to live on.  When the mortgage is paid off at maturity, that bucket hopefully has a positive remaining balance (which is always the goal of investing in lieu of prepaying your mortgage).

gtd125

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #162 on: September 08, 2015, 08:08:01 PM »
Interesting comments @brookylnguy. I'm trying to think through the implications and produce an example.


I entered the following variables into my calculator:
  • $280,000 mortgage
  • Mortgage rates: (3.75% 30-yr) (3.00% 15-yr) (2.85% 10-yr)
  • 6% annual return on investments
  • 25% marginal tax rate
  • $2,684 in either mortgage payments or investments each month, plus an additional $2500 in supplemental investments. The amount of the supplemental investment increases by 4.00%/yr
  • $50,000 starting investment portfolio
  • 2% rate of future inflation
I'm also going to assume that I need $35,000 to live on annually (this and all numbers below are inflation adjusted), before paying any costs associated with my mortgage (if applicable).


Using these assumptions, the calculator says that if I take a 15 year mortgage, I'll have $35,253 available at the start of year 16 (4% of my $881,332 portfolio), and my mortgage will be paid off. So, I could retire at this point.


Using the 30 year mortgage, my investments would be sufficient to produce an annual income of $41,387 at the start of year 16. But my inflation adjusted mortgage payments for the year bring that total down to $29,894.


I still want to retire at this point, so I need a way to cover the remaining $6,106 in annual non-mortgage living costs.


One option would be sell investments and pay off the mortgage. In this scenario, my investment portfolio would drop in value from $1,034,677 to $902,981. This happens to be $21,649 more than the value of my investments at this point if I took a 15 year mortgage. Since I would have no mortgage, my annual available income would jump from $29,894 to $36,119--$866 more than it would be with the 15 year mortgage.


The more complicated option (from a math perspective) is that I keep the 30 year mortgage open, and just spend down part of my investment earnings each year to cover the mortgage payments.


As you stated, the large investment portfolio will be large enough to cover these costs while still growing, so this is presumably the best approach. I would like to see some specific numbers though.


I unfortunately don't think I'll have time to do this before I go out of town for a work trip through Sunday, but I'm going to try and add a feature to the calculator to select a fire date/annual living cost, which lets you see how different options break down. 
« Last Edit: September 08, 2015, 08:17:07 PM by gtd125 »

Vinivedivichi

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #163 on: September 30, 2015, 02:39:47 PM »
I know mathematically it's more advantageous to invest money and take advantage of the low mortgage interest rates, but I have opted for paying off my mortgage.

I purchased a 135k house, with enough income to very easily cover my mortgage payments.  I set up a plan to payoff my home within 3 years, which I think is an important factor.  In my mind, the flexibility of "unlocking" those mortgage payments was valuable enough to offset the incremental investment income I could have made during that time. 

Additionally, one thing that people overlook when they do this analysis is taxes.  There is a zero tax rate on saving money that otherwise would have been spent.  However, investment gains are taxed.  So, in addition to looking at the investment gains % vs. mortgage rate, you should also consider that the investment gains are taxable.  While mortgage interest is deductible, it's only deductible once you get higher than the standard deduction and I live in the South where homes are reasonably priced so no real benefit of the interest deduction for myself. 

At the end of the day, I'm very happy with my decision because in a couple of months I'll reduce my monthly fixed cash outlflows by about $1k (I had a 15 year mortgage).  I lay out my fact pattern just as an example to note that sometimes I think it does make sense to pay off the mortgage.  I don't deny that in my situation there is a great deal of emotional benefit that I am receiving to support my decision, but even from a flexibility perspective and risk management I feel good about my decision.   If it would have taken me 10 years to payoff my house I would have made a different decision. 

MDM

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #164 on: September 30, 2015, 04:09:08 PM »
I know mathematically it's more advantageous to invest money and take advantage of the low mortgage interest rates...
Good - you are making the decision with open eyes.  I'll make some notes below, but in the end people should put their money where their values are - as you are doing.  If they do that, then the decision is rational.

Quote
In my mind, the flexibility of "unlocking" those mortgage payments was valuable enough to offset the incremental investment income I could have made during that time.
Another perspective is that not prepaying unlocks the monthly difference between the mortgage minimum and the total amount paid in the prepayment route.  Also, that paying into the mortgage locks that money into an illiquid asset.

Quote
Additionally, one thing that people overlook when they do this analysis is taxes.  There is a zero tax rate on saving money that otherwise would have been spent.  However, investment gains are taxed.  So, in addition to looking at the investment gains % vs. mortgage rate, you should also consider that the investment gains are taxable.  While mortgage interest is deductible, it's only deductible once you get higher than the standard deduction and I live in the South where homes are reasonably priced so no real benefit of the interest deduction for myself.
Good point.  An additional point is that LTCG and QD are not taxed (in the US) if one's total taxable income stays in the 15% or lower bracket.

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At the end of the day, I'm very happy with my decision because...in my situation there is a great deal of emotional benefit that I am receiving to support my decision.
And that's a perfectly reasonable way to look at it.  Others will derive more emotional benefit from making what they think is the best use of their money in investments, and that's ok too.

Vinivedivichi

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #165 on: September 30, 2015, 05:16:01 PM »
I know mathematically it's more advantageous to invest money and take advantage of the low mortgage interest rates...
Good - you are making the decision with open eyes.  I'll make some notes below, but in the end people should put their money where their values are - as you are doing.  If they do that, then the decision is rational.

Quote
In my mind, the flexibility of "unlocking" those mortgage payments was valuable enough to offset the incremental investment income I could have made during that time.
Another perspective is that not prepaying unlocks the monthly difference between the mortgage minimum and the total amount paid in the prepayment route.  Also, that paying into the mortgage locks that money into an illiquid asset.

Quote
Additionally, one thing that people overlook when they do this analysis is taxes.  There is a zero tax rate on saving money that otherwise would have been spent.  However, investment gains are taxed.  So, in addition to looking at the investment gains % vs. mortgage rate, you should also consider that the investment gains are taxable.  While mortgage interest is deductible, it's only deductible once you get higher than the standard deduction and I live in the South where homes are reasonably priced so no real benefit of the interest deduction for myself.
Good point.  An additional point is that LTCG and QD are not taxed (in the US) if one's total taxable income stays in the 15% or lower bracket.

Quote
At the end of the day, I'm very happy with my decision because...in my situation there is a great deal of emotional benefit that I am receiving to support my decision.
And that's a perfectly reasonable way to look at it.  Others will derive more emotional benefit from making what they think is the best use of their money in investments, and that's ok too.

Agree most of this but just want to make one point.  There is "real" value to not have a fixed cash outflow each month (e.g. as opposed to it just being emotionally based).  I am on the verge of having $1k more in cash each month as a result of no mortgage, which is a huge benefit in my overall risk profile.  And even if managing risk is not important to someone in my shoes, the value of unlocking that flexibility generally would be a big factor for anyone.  I think if the spread between interest rate and "guaranteed" rate of return (after tax) is large enough, then I would forego the flexibility but I am willing to forego the incremental benefit for the flexibility that I am afforded over the relatively near term (and in theory, in perpetuity if I stay in this home for life).

One minor quibble.  The lost benefit (in terms of flexibility) of prepayments can't be considered a detriment if the alternative is investing in the market since those funds would be "invested" in either scenario.  I do agree that putting the funds into your home obviously results in less liquidity; however, once you payoff the mortgage you essentially get a dividend in the form of mortgage payment that would have been made so it's not totally illiquid in that sense. 

MDM

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #166 on: September 30, 2015, 05:38:36 PM »
Agree most of this but just want to make one point.  There is "real" value to not have a fixed cash outflow each month (e.g. as opposed to it just being emotionally based).  I am on the verge of having $1k more in cash each month as a result of no mortgage, which is a huge benefit in my overall risk profile.  And even if managing risk is not important to someone in my shoes, the value of unlocking that flexibility generally would be a big factor for anyone.  I think if the spread between interest rate and "guaranteed" rate of return (after tax) is large enough, then I would forego the flexibility but I am willing to forego the incremental benefit for the flexibility that I am afforded over the relatively near term (and in theory, in perpetuity if I stay in this home for life).
Perhaps it depends on how one defines "real".  If we assume the net market return is higher than the net mortgage interest rate, paying the mortgage minimum is best in financial terms (i.e., you end up with more money) - agreed?

Quote
One minor quibble.  The lost benefit (in terms of flexibility) of prepayments can't be considered a detriment if the alternative is investing in the market since those funds would be "invested" in either scenario.  I do agree that putting the funds into your home obviously results in less liquidity; however, once you payoff the mortgage you essentially get a dividend in the form of mortgage payment that would have been made so it's not totally illiquid in that sense.
If one defines less liquidity as a detriment, then by definition....

brooklynguy

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #167 on: September 30, 2015, 06:17:33 PM »
Agree most of this but just want to make one point.  There is "real" value to not have a fixed cash outflow each month (e.g. as opposed to it just being emotionally based).  I am on the verge of having $1k more in cash each month as a result of no mortgage, which is a huge benefit in my overall risk profile. 

Once you assume the investment approach will outperform the prepayment approach, in addition to leaving you with more money (per MDM's point in the immediately above post), it also eliminates the cash flow impact of the mortgage liability to the same extent that paying off the loan would (per my point in the last two paragraphs of post # 161 above).

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #168 on: September 30, 2015, 08:03:10 PM »
Agree most of this but just want to make one point.  There is "real" value to not have a fixed cash outflow each month (e.g. as opposed to it just being emotionally based).  I am on the verge of having $1k more in cash each month as a result of no mortgage, which is a huge benefit in my overall risk profile. 

Once you assume the investment approach will outperform the prepayment approach, in addition to leaving you with more money (per MDM's point in the immediately above post), it also eliminates the cash flow impact of the mortgage liability to the same extent that paying off the loan would (per my point in the last two paragraphs of post # 161 above).

In year 16 of the mortgage with steady positive market gains exceeding the mortgage rate
and no FIRE untill mortgage payoff, right? (I never saw a way to simulate variable and negative returns like we see now...)

MDM

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #169 on: September 30, 2015, 08:24:14 PM »
In year 16 of the mortgage with steady positive market gains exceeding the mortgage rate
and no FIRE untill mortgage payoff, right?

To what scenario do you refer?

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #170 on: September 30, 2015, 09:31:49 PM »
In year 16 of the mortgage with steady positive market gains exceeding the mortgage rate
and no FIRE untill mortgage payoff, right?

To what scenario do you refer?

gtd125 above, post #162

The question seems to be one that should be asked about any scenario where investing vs. mortgage paydown at the inception of the mortgage.  That, to me, seems to be the only scenario that matters, the choice of how to invest gets made every time at the beginning of a mortgage.

So my question would be, if starting from zero and investing, letting the mortgage ride, when do you get to have a virtual "zero dollar mortgage"?
« Last Edit: September 30, 2015, 09:34:49 PM by mefla »

brooklynguy

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Re: The great "pay off mortage" vs "invest in stocks" debate - possible solution
« Reply #171 on: September 30, 2015, 10:22:09 PM »
So my question would be, if starting from zero and investing, letting the mortgage ride, when do you get to have a virtual "zero dollar mortgage"?

When the investment balance becomes equal to the present value of the exact amount needed to pay off the mortgage in full in accordance with its original amortization schedule, using a discount rate equal to the future rate of return on the investments.  Because, in the real world, that amount is unknowable with respect to investments like a total stock market fund, what I plan to do instead is use the date when my investment balance becomes equal to the outstanding principal balance of my mortgage and just consider the expected future outperformance of the investments over the mortgage as part of my unitemized safety margin.

Vinivedivichi

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Agree most of this but just want to make one point.  There is "real" value to not have a fixed cash outflow each month (e.g. as opposed to it just being emotionally based).  I am on the verge of having $1k more in cash each month as a result of no mortgage, which is a huge benefit in my overall risk profile.  And even if managing risk is not important to someone in my shoes, the value of unlocking that flexibility generally would be a big factor for anyone.  I think if the spread between interest rate and "guaranteed" rate of return (after tax) is large enough, then I would forego the flexibility but I am willing to forego the incremental benefit for the flexibility that I am afforded over the relatively near term (and in theory, in perpetuity if I stay in this home for life).
Perhaps it depends on how one defines "real".  If we assume the net market return is higher than the net mortgage interest rate, paying the mortgage minimum is best in financial terms (i.e., you end up with more money) - agreed?

Quote
One minor quibble.  The lost benefit (in terms of flexibility) of prepayments can't be considered a detriment if the alternative is investing in the market since those funds would be "invested" in either scenario.  I do agree that putting the funds into your home obviously results in less liquidity; however, once you payoff the mortgage you essentially get a dividend in the form of mortgage payment that would have been made so it's not totally illiquid in that sense.
If one defines less liquidity as a detriment, then by definition....

Agreed for sure that the incremental spread between mortgage rate and investment returns is a real financial gain.  But my point is that there is also "real" benefit to not having the fixed payments each month.  In other words, all things being equal, if there was such a mortgage payment available that was optional and interest would just accrue if not paid, and there was no financial detriment for deferring mortgage payments, everyone would opt for that form of mortgage because it offers the mortgage holder more flexibility.  It's not necessarily a pure financial benefit, but in terms of flexibility/risk mitigation it is a real benefit that people would pay a certain premium for if offered.  I'm just saying that benefit of not being forced to have a 1k cash outflow each month is part of my reasoning. 

For the second point, I'm just saying you seem to be double counting the argument against prepaying the mortgage.  You can't say that a detriment to paying off the mortgage is all the sunken funds into the mortgage when the only way to make it beneficial to not pay off your mortgage is to invests the money you would be putting against your mortgage.  In either scenario, your funds are considered cash outflows.  If you're in the market the capital is obviously more liquid but if you pay off your home you essentially have a fixed dividend. 

Vinivedivichi

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Agree most of this but just want to make one point.  There is "real" value to not have a fixed cash outflow each month (e.g. as opposed to it just being emotionally based).  I am on the verge of having $1k more in cash each month as a result of no mortgage, which is a huge benefit in my overall risk profile. 

Once you assume the investment approach will outperform the prepayment approach, in addition to leaving you with more money (per MDM's point in the immediately above post), it also eliminates the cash flow impact of the mortgage liability to the same extent that paying off the loan would (per my point in the last two paragraphs of post # 161 above).

Not sure about that.  If my goal is to be mortgage free over a 3 year period, I can either invest or pay off my mortgage.  Investing is not sure to accomplish my goal since the market is unpredictable over the short term.  If I devote my cash to paying off my mortgage I am assure of being able to accomplish my goal in the three year period (assuming I'm disciplined, etc.).  Going with paying off my mortgage yields me assured flexibility in 3 years whereas investing will not. 

That said, over the long term history says my returns are better in the market.  I get that.  So the capital that I've invested into my mortgage, over say a 10 year period, should return higher than the 5% I'm saving.  However, show me a *guaranteed* investment that will give you 5% interest.  There isn't one.  Which is why it's not just an "emotional" decision to pay off your mortgage.  If paying off your mortgage gave you CD rate % then it would be purely emotional, but paying off your mortgage gives you guaranteed returns that you can't get anywhere else.  I'll take those guaranteed returns, especially in the short term. 

brooklynguy

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Once you assume the investment approach will outperform the prepayment approach, in addition to leaving you with more money (per MDM's point in the immediately above post), it also eliminates the cash flow impact of the mortgage liability to the same extent that paying off the loan would (per my point in the last two paragraphs of post # 161 above).

Not sure about that.  If my goal is to be mortgage free over a 3 year period, I can either invest or pay off my mortgage.  Investing is not sure to accomplish my goal since the market is unpredictable over the short term.  If I devote my cash to paying off my mortgage I am assure of being able to accomplish my goal in the three year period (assuming I'm disciplined, etc.).  Going with paying off my mortgage yields me assured flexibility in 3 years whereas investing will not.

Of course; that's why I qualified my statement with "Once you assume the investment approach will outperform the prepayment approach."  The answer to the question of whether it is better to invest or prepay necessarily depends on how the investments will perform, which, if we're talking about the stock market, is unknown.  Our answer to the question will always be only as good as the underlying assumptions we use.

Quote
That said, over the long term history says my returns are better in the market.  I get that.  So the capital that I've invested into my mortgage, over say a 10 year period, should return higher than the 5% I'm saving.  However, show me a *guaranteed* investment that will give you 5% interest.  There isn't one.

Right.  In virtually all cases, there is no investment available at the time of incurring the mortgage that is "guaranteed" to outperform the mortgage.  As time passes, however, that could change (for example, in a few years, perhaps prevailing rates on bank CDs or treasury bonds will exceed the 3.875% interest rate payable on my mortgage).

Quote
Which is why it's not just an "emotional" decision to pay off your mortgage.  If paying off your mortgage gave you CD rate % then it would be purely emotional, but paying off your mortgage gives you guaranteed returns that you can't get anywhere else.  I'll take those guaranteed returns, especially in the short term.

Completely agree.  Deciding to take the guaranteed returns of a mortgage prepayment plan over incurring the risks of leveraged-investing-via-mortgage in the hopes of reaping its potential rewards is a perfectly valid, rational decision.  Of course, the prepayment approach also involves risks (including the risk of delayed attainment of financial independence or hindered success of your retirement plan, as compared to what would have been under the investment approach). 

But my point is that there is also "real" benefit to not having the fixed payments each month.  In other words, all things being equal, if there was such a mortgage payment available that was optional and interest would just accrue if not paid, and there was no financial detriment for deferring mortgage payments, everyone would opt for that form of mortgage because it offers the mortgage holder more flexibility.  It's not necessarily a pure financial benefit, but in terms of flexibility/risk mitigation it is a real benefit that people would pay a certain premium for if offered.  I'm just saying that benefit of not being forced to have a 1k cash outflow each month is part of my reasoning.

For a person who opts not to prepay, consider the position she is when once she has accumulated enough to be able to pay off the mortgage in full.  At that point, this person can decide to pay off the mortgage in its entirety and rid herself of the monthly cash outflow required by the mortgage.  Alternatively, this person can continue with the leveraged-investing-via-mortgage approach, and use the pile of investments (which, at this point in time, is equal in value to the mortgage's outstanding principal balance) to service the monthly mortgage payments for her, essentially "ridding herself" of the monthly cash outflow required by the mortgage just the same.

dpfromva

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This is a quite interesting discussion! I have a financial background, yet I am paying extra principal on my (low interest rate) mortgage to decrease the mortgage term and achieve payoff sooner. This is analytically irrational. So why am I doing it?
-- I'm really old (at least compared to most of you guys -- late 50s), the purchase is recent, and I would like to leave the house to the kids free and clear, so they don't have to deal with selling it. Awesome future rental property (going rate $3,000 - $4,000/month). It's close in to a major urban area and public transport, surrounded by condo and apartment construction, the value is rising 3-5% annually, and is unlikely to decline unless someone finds an old chemical weapons dump under the entire neighborhood. Ya never know.)
-- Older FHA loan. As soon as I get to 78% LTV (based on purchase price, unfortunately), the mortgage insurance goes away. I find that MIP very annoying.
I looked at refi-ing into conventional earlier this year but was not at 20% LTV (current value) and the (very conservative, I admit, but hey, Warren Buffet uses the Treasury rate to discount) net present value of the extended term compared to current loan just didn't calculate out for me. I will check again as I've hit 20% equity recently.
One final thought that is a no-brainer for you mustachians but not so much for normal people. Will you REALLY put ALL the money into investments? Or will you go on bigger, better trips, eat out more, and buy shoes? it doesn't come with little tags on it, like "Don't use me to pay for the dry cleaning! I'm your mortgage/investment differential!!"

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One final thought that is a no-brainer for you mustachians but not so much for normal people. Will you REALLY put ALL the money into investments? Or will you go on bigger, better trips, eat out more, and buy shoes? it doesn't come with little tags on it, like "Don't use me to pay for the dry cleaning! I'm your mortgage/investment differential!!"

It's not savings if you spend it somewhere else.

I'd like to emphasize that this emotional/mathematical approach or guaranteed return is subjective to each household. Our mortgage balance is less than 4 deferred retirement accounts (2x 457/403b), if we took the cash home we'd pay over 10k in taxes on that income yearly. Investing pretax saves us more than the mortgage principal or interest would cost us over 15 years. The math really needs to go beyond investment returns and look at the overall advantage each option can serve. Our amortization shows 16k of interest over 15 years, by deferring that income for even 7 years as we get to FI or 10 to RE we can save 70-100k, isn't that 100% return over paying off the mortgage early. By the time we get close to RE that balance would be low enough that it could be paid off with after tax dollars while still maxing out at least the two 457 accounts. 10/(18*4) is 13.8%, that's an immediate return on investment and still allows for more growth over the term. This only works if you have the cash flow to invest or payoff the mortgage with after tax dollars, but I think the best benefit is to at least reduce taxes before evaluating further options.

Vinivedivichi

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Once you assume the investment approach will outperform the prepayment approach, in addition to leaving you with more money (per MDM's point in the immediately above post), it also eliminates the cash flow impact of the mortgage liability to the same extent that paying off the loan would (per my point in the last two paragraphs of post # 161 above).

Not sure about that.  If my goal is to be mortgage free over a 3 year period, I can either invest or pay off my mortgage.  Investing is not sure to accomplish my goal since the market is unpredictable over the short term.  If I devote my cash to paying off my mortgage I am assure of being able to accomplish my goal in the three year period (assuming I'm disciplined, etc.).  Going with paying off my mortgage yields me assured flexibility in 3 years whereas investing will not.

Of course; that's why I qualified my statement with "Once you assume the investment approach will outperform the prepayment approach."  The answer to the question of whether it is better to invest or prepay necessarily depends on how the investments will perform, which, if we're talking about the stock market, is unknown.  Our answer to the question will always be only as good as the underlying assumptions we use.

Quote
That said, over the long term history says my returns are better in the market.  I get that.  So the capital that I've invested into my mortgage, over say a 10 year period, should return higher than the 5% I'm saving.  However, show me a *guaranteed* investment that will give you 5% interest.  There isn't one.

Right.  In virtually all cases, there is no investment available at the time of incurring the mortgage that is "guaranteed" to outperform the mortgage.  As time passes, however, that could change (for example, in a few years, perhaps prevailing rates on bank CDs or treasury bonds will exceed the 3.875% interest rate payable on my mortgage).

Quote
Which is why it's not just an "emotional" decision to pay off your mortgage.  If paying off your mortgage gave you CD rate % then it would be purely emotional, but paying off your mortgage gives you guaranteed returns that you can't get anywhere else.  I'll take those guaranteed returns, especially in the short term.

Completely agree.  Deciding to take the guaranteed returns of a mortgage prepayment plan over incurring the risks of leveraged-investing-via-mortgage in the hopes of reaping its potential rewards is a perfectly valid, rational decision.  Of course, the prepayment approach also involves risks (including the risk of delayed attainment of financial independence or hindered success of your retirement plan, as compared to what would have been under the investment approach). 

But my point is that there is also "real" benefit to not having the fixed payments each month.  In other words, all things being equal, if there was such a mortgage payment available that was optional and interest would just accrue if not paid, and there was no financial detriment for deferring mortgage payments, everyone would opt for that form of mortgage because it offers the mortgage holder more flexibility.  It's not necessarily a pure financial benefit, but in terms of flexibility/risk mitigation it is a real benefit that people would pay a certain premium for if offered.  I'm just saying that benefit of not being forced to have a 1k cash outflow each month is part of my reasoning.

For a person who opts not to prepay, consider the position she is when once she has accumulated enough to be able to pay off the mortgage in full.  At that point, this person can decide to pay off the mortgage in its entirety and rid herself of the monthly cash outflow required by the mortgage.  Alternatively, this person can continue with the leveraged-investing-via-mortgage approach, and use the pile of investments (which, at this point in time, is equal in value to the mortgage's outstanding principal balance) to service the monthly mortgage payments for her, essentially "ridding herself" of the monthly cash outflow required by the mortgage just the same.

100% agree with all of this.  I think it lays out pretty well the pros and cons of each alternative. 

K-ice

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How about this for a simple algorithm?

First: Max out your tax deferred investments.  (Roth, IRA, etc in the US.  RRSP, TFSA etc. in Canada, most countries have their equivalent.)  Be sure this is invested in something more than a savings account. In order for it to have the potential to make more than your mortgage interest, there will be some risk. If you can only stomach sitting on cash or guaranteed investments you are better to do step 2 first.

Second: Dump extra payments on the mortgage principal up-to either double payment or something to match your FIRE date. If your bank doesn’t let you make principal payments talk to you bank, you have the wrong kind of mortgage. Ideally, you also have a HELOC with a balance of zero most of the time, so you can use this as your springy debt emergency fund. This way more of your money can go towards the mortgage. DO NOT over contribute and get charged fees.

Third: Apply any leftover savings to unregistered investments. 

brooklynguy

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How about this for a simple algorithm?

What purpose is this algorithm intended to achieve?  If you operate under the assumption that the investment approach will outperform the prepayment approach, you should deploy all available cash towards investments.  If you operate under the assumption that the prepayment approach will outperform the investment approach, you should deploy all available cash towards prepayments.  The "split the difference" approach of your algorithm makes no sense, unless it is intentionally designed to hedge your bets given that you don't know which of the two assumptions will turn out to be correct.

Faraday

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How about this for a simple algorithm?

What purpose is this algorithm intended to achieve?  If you operate under the assumption that the investment approach will outperform the prepayment approach, you should deploy all available cash towards investments.  If you operate under the assumption that the prepayment approach will outperform the investment approach, you should deploy all available cash towards prepayments.  The "split the difference" approach of your algorithm makes no sense, unless it is intentionally designed to hedge your bets given that you don't know which of the two assumptions will turn out to be correct.

"K-ice" is trying to figure out what the takeaways are from the discussion and act accordingly.

K-ice, if you want to conjure your best personal investment algorithm, don't formulate it just yet, and certainly not just on the basis of this thread. Start here: https://www.bogleheads.org/forum/viewtopic.php?f=1&t=6211

You might find out you are right - for yourself - in what you have proposed. But that bogleheads link is definitely where you should start.

While I am in the "prepay the mortgage principal and refi whenever possible" camp (ie: working to eliminate the mortgage and save as much in interest as possible), I follow the bogleheads recipe of maximizing pre-tax savings and investment, establishing reasonable post-tax savings and investment (Vanguard Roth and emergency fund), then pushing what's left, as hard as I can go, toward the mortgage principal. My house is my "bond investment". It lends a nice stability to my investment portfolio. I itemize, so I'm still getting a nice tax break out of the mortgage.

I'm 53. So I'm prepaying hard as I can go. With mortgage, I would need $1M to FIRE. By prepaying the remaining $100k principal (and reaching $0 in two years), I can FIRE whenever I reach $480k at 4% SWR and no mortgage.


MDM

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With mortgage, I would need $1M to FIRE. By prepaying the remaining $100k principal (and reaching $0 in two years), I can FIRE whenever I reach $480k at 4% SWR and no mortgage.

Is there a typo in those numbers?  Why one would need an extra $520K to be FI when having only $100K principal remaining is not at all obvious.

Faraday

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With mortgage, I would need $1M to FIRE. By prepaying the remaining $100k principal (and reaching $0 in two years), I can FIRE whenever I reach $480k at 4% SWR and no mortgage.

Is there a typo in those numbers?  Why one would need an extra $520K to be FI when having only $100K principal remaining is not at all obvious.

No typo, it's a 15 year loan on $199k. You guys use 30 year loans and investment windows, which I don't have.

My payments are $1700/month. If I can live on $2k/month + $1700 mortgage + $200 taxes/month, that's  roughly $3.9k/month. $3.9k * 12 months/.04 SWR = $47,000 yearly / .04 SWR = $1,117,000 total investment.

brooklynguy

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My payments are $1700/month. If I can live on $2k/month + $1700 mortgage + $200 taxes/month, that's  roughly $3.9k/month. $3.9k * 12 months/.04 SWR = $47,000 yearly / .04 SWR = $1,117,000 total investment.

Using 25x your current annual expenses to calculate your "FI number" with your mortgage payments included as part of your annual expenses is exceedingly conservative, given that your $1700 monthly mortgage expenditures will neither rise with inflation nor continue beyond the final maturity of the mortgage (in less than 15 years).

BarkyardBQ

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With mortgage, I would need $1M to FIRE. By prepaying the remaining $100k principal (and reaching $0 in two years), I can FIRE whenever I reach $480k at 4% SWR and no mortgage.

Is there a typo in those numbers?  Why one would need an extra $520K to be FI when having only $100K principal remaining is not at all obvious.

No typo, it's a 15 year loan on $199k. You guys use 30 year loans and investment windows, which I don't have.

My payments are $1700/month. If I can live on $2k/month + $1700 mortgage + $200 taxes/month, that's  roughly $3.9k/month. $3.9k * 12 months/.04 SWR = $47,000 yearly / .04 SWR = $1,117,000 total investment.

You would still be better off, saving to the 480-500K you need to be FI, then spend the time to pay off the mortgage with cash before pulling the FIRE trigger; than if you pay off the mortgage while trying to accumulate toward FI.

Faraday

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My payments are $1700/month. If I can live on $2k/month + $1700 mortgage + $200 taxes/month, that's  roughly $3.9k/month. $3.9k * 12 months/.04 SWR = $47,000 yearly / .04 SWR = $1,117,000 total investment.

Using 25x your current annual expenses to calculate your "FI number" with your mortgage payments included as part of your annual expenses is exceedingly conservative, given that your $1700 monthly mortgage expenditures will neither rise with inflation nor continue beyond the final maturity of the mortgage (in less than 15 years).

How is that exceedingly conservative? 25x = 4% SWR.
If you aren't setting SWR to 4% in cFIREsim, what are you setting it to?

BarkyardBQ

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My payments are $1700/month. If I can live on $2k/month + $1700 mortgage + $200 taxes/month, that's  roughly $3.9k/month. $3.9k * 12 months/.04 SWR = $47,000 yearly / .04 SWR = $1,117,000 total investment.

Using 25x your current annual expenses to calculate your "FI number" with your mortgage payments included as part of your annual expenses is exceedingly conservative, given that your $1700 monthly mortgage expenditures will neither rise with inflation nor continue beyond the final maturity of the mortgage (in less than 15 years).

How is that exceedingly conservative? 25x = 4% SWR.
If you aren't setting SWR to 4% in cFIREsim, what are you setting it to?



He's saying that if you save 25x your yearly mortgage expenses or 1900*12 = 22800x25 = inflation adjusted 4% withdrawal rate to use 22,800 yearly to pay your mortgage.

Inflation adjusted savings for a fixed inflation hedged payment... you will end up having MORE for your mortgage than you need.
« Last Edit: October 01, 2015, 12:23:39 PM by BackyarBQ »

MDM

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With mortgage, I would need $1M to FIRE. By prepaying the remaining $100k principal (and reaching $0 in two years), I can FIRE whenever I reach $480k at 4% SWR and no mortgage.
Is there a typo in those numbers?  Why one would need an extra $520K to be FI when having only $100K principal remaining is not at all obvious.
No typo, it's a 15 year loan on $199k. You guys use 30 year loans and investment windows, which I don't have.
My payments are $1700/month. If I can live on $2k/month + $1700 mortgage + $200 taxes/month, that's  roughly $3.9k/month. $3.9k * 12 months/.04 SWR = $47,000 yearly / .04 SWR = $1,117,000 total investment.
Ouch, a 6.2% (rate that gives $1700/mo payment on a 15 year $199K loan) mortgage is high priced.  In that case it may well be financially better to pay it off.  Better yet would be a lower rate.

But back to the FI discussion: the 4% SWR assumes that expenses are ongoing - and increase with inflation - for a full 30 years.  The mortgage payment meets neither of those assumptions.  If investment returns are at least as high as the mortgage interest, you would need $2k/month + $200 taxes/month, that's  roughly $2.2k/month. $2.2k * 12 months = $26,400 yearly / .04 SWR = $660,000.  $660K + $100K mortgage principal due = $760K total investment.

brooklynguy

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How is that exceedingly conservative? 25x = 4% SWR.

In a nutshell, because two of the assumptions behind the "4% rule" are that the expenditures (i) continue for 30 years and (ii) rise with inflation, neither of which is true in the case of your mortgage payments (which have a remaining lifespan of less than 15 years, and which will not adjust with inflation).  See MDM's excellent explanation in post # 154 above, which, though concise, is a bit more fleshed out than his even more concise response in the post immediately above.

Quote
If you aren't setting SWR to 4% in cFIREsim, what are you setting it to?

I do use a 4% SWR assumption for my non-mortgage living expenses, but, for the above reason, not for my mortgage principal + interest payments.

brooklynguy

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Ouch, a 6.2% (rate that gives $1700/mo payment on a 15 year $199K loan) mortgage is high priced.

I assume mefla's mortgage rate is actually lower, and your attempt to reverse-engineer that rate failed because it did not account for the aggressive principal prepayments he has already made :)

boarder42

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why do people keep starting these threads over and over and over again.. .maths are maths.  30 year at today's rate wins and is safer in FIRE than paying it off.  use Cfiresim.  unless you want to assume unreasonably low returns ... in which case your 4% SWR isnt good anyways. 

you cannot assume
1. 4% SWR in retirement AND
2. Paying down my mortgage is safer than having one (assuming you're an american with today's amazingly low Rates)

As soon as you bring up the but what if blah blah crashes yada yada your 4% is blown right out the window. therefore debunking the mortgage and whole background as to how this site works.

There is no 'extra' money needed to retire with a mortgage.  this is the money you were just choosing not to prepay with and investing instead.  So yes i do need more money to cover my mortgage when retired ... its not extra and i will statisically reach FIRE faster than the alternate universe me who pays down their mortgage first. 
« Last Edit: October 01, 2015, 12:39:56 PM by boarder42 »

Faraday

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Ouch, a 6.2% (rate that gives $1700/mo payment on a 15 year $199K loan) mortgage is high priced.

I assume mefla's mortgage rate is actually lower, and your attempt to reverse-engineer that rate failed because it did not account for the aggressive principal prepayments he has already made :)

brooklynguy is correct. I have 2.875%, with a 2.5% (or less if I can get it) refi in January 2016. Doublewide mobile home payment, here I come!


boarder42

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CfireSim Scenario A  -77.97% Success rate

200k Mortgage 30 years 4% Fixed
1.2MM in savings
40k spending


CFIRESIM Scenario B -76.27% Success

200k house owned
1MM in savings
40k Spending

The same idea and math can be applied to the accrual stages as well as the FIRE stages of your life 

I feel sorry for that 6.2% rate thats crazy high

MDM

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Ouch, a 6.2% (rate that gives $1700/mo payment on a 15 year $199K loan) mortgage is high priced.
I assume mefla's mortgage rate is actually lower, and your attempt to reverse-engineer that rate failed because it did not account for the aggressive principal prepayments he has already made :)
brooklynguy is correct. I have 2.875%, with a 2.5% (or less if I can get it) refi in January 2016. Doublewide mobile home payment, here I come!

That's a much better rate.  But even with 2.5%, financing $100K over 15 years would be $667/mo.  Paying the extra $1,033 (total of $1700/mo) still takes >5 years, not 2.

MDM

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why do people keep starting these threads over and over and over again.. .maths are maths.  30 year at today's rate wins and is safer in FIRE than paying it off.  use Cfiresim.  unless you want to assume unreasonably low returns ... in which case your 4% SWR isnt good anyways. 

you cannot assume
1. 4% SWR in retirement AND
2. Paying down my mortgage is safer than having one (assuming you're an american with today's amazingly low Rates)

As soon as you bring up the but what if blah blah crashes yada yada your 4% is blown right out the window. therefore debunking the mortgage and whole background as to how this site works.

There is no 'extra' money needed to retire with a mortgage.  this is the money you were just choosing not to prepay with and investing instead.  So yes i do need more money to cover my mortgage when retired ... its not extra and i will statisically reach FIRE faster than the alternate universe me who pays down their mortgage first.

You (and brooklynguy in his posts) make excellent points. 

I think some people are perfectly comfortable in knowing that pre-pay is wrong financially, but not wrong enough to overcome the emotional satisfaction they (perceive they will) get from having no mortgage.

Others want it both ways: to do what is correct financially and have that be emotionally satisfying as well.  For some of this group it is easy: they get emotional satisfaction from making what has historically been the financially correct decision, and don't worry about the mortgage.  Others will choose to believe "this time is different" and market returns will be poor or real estate returns will be significantly better than inflation or....

The forum gets new readers all the time, and it seems worth repeating these things for their benefit as the need arises.

Faraday

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Ouch, a 6.2% (rate that gives $1700/mo payment on a 15 year $199K loan) mortgage is high priced.
I assume mefla's mortgage rate is actually lower, and your attempt to reverse-engineer that rate failed because it did not account for the aggressive principal prepayments he has already made :)
brooklynguy is correct. I have 2.875%, with a 2.5% (or less if I can get it) refi in January 2016. Doublewide mobile home payment, here I come!

That's a much better rate.  But even with 2.5%, financing $100K over 15 years would be $667/mo.  Paying the extra $1,033 (total of $1700/mo) still takes >5 years, not 2.

MDM, you are correct, and it's even worse in reality. With PITI, it's closer to $1k/month. About $250/month for taxes and insurance escrow.  Now let me be clear: I'm using principal abatement, not "prepaying".

At payoff and FIRE, I'll go back into another cycle of negotiation and try to get those items lowered. I'll also be allowed to keep my own escrow, so I can then use the escrow fund as a short-term investment fund rather than just losing the yields on $250/month like I am now.

brooklynguy

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CfireSim Scenario A  -77.97% Success rate

200k Mortgage 30 years 4% Fixed
1.2MM in savings
40k spending


CFIRESIM Scenario B -76.27% Success

200k house owned
1MM in savings
40k Spending

The same idea and math can be applied to the accrual stages as well as the FIRE stages of your life 

I feel sorry for that 6.2% rate thats crazy high

What parameters did you use for these cFIREsim simulations?  It's hard to tell from your terse post, but it's unclear why the success rate is so low under either scenario (does scenario A assume a 6.2% mortgage rate?).

boarder42

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why do people keep starting these threads over and over and over again.. .maths are maths.  30 year at today's rate wins and is safer in FIRE than paying it off.  use Cfiresim.  unless you want to assume unreasonably low returns ... in which case your 4% SWR isnt good anyways. 

you cannot assume
1. 4% SWR in retirement AND
2. Paying down my mortgage is safer than having one (assuming you're an american with today's amazingly low Rates)

As soon as you bring up the but what if blah blah crashes yada yada your 4% is blown right out the window. therefore debunking the mortgage and whole background as to how this site works.

There is no 'extra' money needed to retire with a mortgage.  this is the money you were just choosing not to prepay with and investing instead.  So yes i do need more money to cover my mortgage when retired ... its not extra and i will statisically reach FIRE faster than the alternate universe me who pays down their mortgage first.

You (and brooklynguy in his posts) make excellent points. 

I think some people are perfectly comfortable in knowing that pre-pay is wrong financially, but not wrong enough to overcome the emotional satisfaction they (perceive they will) get from having no mortgage.

Others want it both ways: to do what is correct financially and have that be emotionally satisfying as well.  For some of this group it is easy: they get emotional satisfaction from making what has historically been the financially correct decision, and don't worry about the mortgage.  Others will choose to believe "this time is different" and market returns will be poor or real estate returns will be significantly better than inflation or....

The forum gets new readers all the time, and it seems worth repeating these things for their benefit as the need arises.

i would assume these irrational fears will get worse during the next market correction as well.  This site has yet to live thru a market correction and people will be quick to point out .. .but look the stock market went down 20% in 20XX

to each his own.  i'm too rational and logical in my thinking and would feel emotionally uncomfortable making an incorrect financial decision for a false sense of some kind of believed security. 

Faraday

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I think some people are perfectly comfortable in knowing that pre-pay is wrong financially, but not wrong enough to overcome the emotional satisfaction they (perceive they will) get from having no mortgage.

Others want it both ways: to do what is correct financially and have that be emotionally satisfying as well.  For some of this group it is easy: they get emotional satisfaction from making what has historically been the financially correct decision, and don't worry about the mortgage.  Others will choose to believe "this time is different" and market returns will be poor or real estate returns will be significantly better than inflation or....

The forum gets new readers all the time, and it seems worth repeating these things for their benefit as the need arises.

MDM, in my case, I'm searching for "fastest possible path to FIRE".

In the case of investing vs. a 30 year mortgage, you can pull from your investments in about years 14-16 of a 30 year mortgage (at my rate of savings and income)

In my case, I'm trying to get to FIRE within a 5 year plan. So I can't take advantage of the growth over a long timeframe that the market offers. cfiresim shows investment failure in almost any 5 year timeframe you care to devise with anything less than Warren Buffet-like wages and investments. 

So you do agree, it takes longer to reach FIRE if you invest vs. pay down mortgage, right?

I already know I won't have as much money, say, at the end of 30 years, but it's a higher probability I'll be dead by that time anyway. And if I'm not, I'll be drawing (whatever amount) from social security, so it probably won't matter to me that my stash is slightly smaller....

Remember kiddies: I'm 53. It's only 12 short years from now I could draw social security if I HAD to.  Compounded investment is way behind me by now....
« Last Edit: October 01, 2015, 02:32:48 PM by mefla »

Vinivedivichi

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why do people keep starting these threads over and over and over again.. .maths are maths.  30 year at today's rate wins and is safer in FIRE than paying it off.  use Cfiresim.  unless you want to assume unreasonably low returns ... in which case your 4% SWR isnt good anyways. 

you cannot assume
1. 4% SWR in retirement AND
2. Paying down my mortgage is safer than having one (assuming you're an american with today's amazingly low Rates)

As soon as you bring up the but what if blah blah crashes yada yada your 4% is blown right out the window. therefore debunking the mortgage and whole background as to how this site works.

There is no 'extra' money needed to retire with a mortgage.  this is the money you were just choosing not to prepay with and investing instead.  So yes i do need more money to cover my mortgage when retired ... its not extra and i will statisically reach FIRE faster than the alternate universe me who pays down their mortgage first.

You (and brooklynguy in his posts) make excellent points. 

I think some people are perfectly comfortable in knowing that pre-pay is wrong financially, but not wrong enough to overcome the emotional satisfaction they (perceive they will) get from having no mortgage.

Others want it both ways: to do what is correct financially and have that be emotionally satisfying as well.  For some of this group it is easy: they get emotional satisfaction from making what has historically been the financially correct decision, and don't worry about the mortgage.  Others will choose to believe "this time is different" and market returns will be poor or real estate returns will be significantly better than inflation or....

The forum gets new readers all the time, and it seems worth repeating these things for their benefit as the need arises.

I think you're incorrectly spinning people that pay off their mortgage as making a "wrong" financial decision.  I do not think that is always true...in fact, I don't think it's often true.  In certain cases, there just isn't enough of a spread between market returns and mortgage rates to justify calling paying off a mortgage the wrong financial decision.  The ability to lock in guaranteed gains seems to be overlooked by a lot of people due to the markets long term sustained returns.  I expect the market to continue to perform over the long term, but I still would prefer to cash in on guaranteed 5% return.  Once I pay off my mortgage, that gives me a de facto 5% guaranteed dividend and about 3.8% of extra liquidity (e.g. the cash I would be forced to put towards principal which is really paying yourself so can't treat as extra dividend).

I can promise you if there was a security on the market that guaranteed a 5% return/dividend investors would be all over it.

This is not to say that prepaying a mortgage is the right decision.  I just don't think it's fair to say that it's financially the wrong decision.  It's not that black and white.