Do I invest or pay higher mortgage downpayment?

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thethinker
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Do I invest or pay higher mortgage downpayment?

Post by thethinker »

My wife and I stockpiled money to make sure we could afford the 20% downpayment required to avoid PMI. We successfully saved enough but we saved more than needed for 20%. I assume this question has been asked before but what should we do with the extra money: do we put 30% down(fixed 4.1% for 30 years), pay off student loans(our only debt, fixed at 3.5% with 25 years left to pay), we already max out our ROTHs but we don't max our Solo 401k plan.

Does anyone have a suggestion with these specific rates please? Thank you.
LFKB
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Re: Do I invest or pay higher mortgage downpayment?

Post by LFKB »

Personally I'd do something in the middle but it's really a personal choice. How long do you plan on being in this home? If it's 7 years or less, you probably should consider options other than a 30 year fixed which would reduce your payment and allow you to invest more.
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Re: Do I invest or pay higher mortgage downpayment?

Post by cherijoh »

Will you have an adequate emergency fund if you put 30% down? Also you may be expected to put money into escrow for taxes and insurance when you close on the house.
CoAndy
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Re: Do I invest or pay higher mortgage downpayment?

Post by CoAndy »

If you only put the 20% down would you be able to totally wipe out the student loans with the remainder of your money?
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Re: Do I invest or pay higher mortgage downpayment?

Post by retiredjg »

If you put down more, could you get a better mortgage rate? That 4.1% seems very high to me. However, if it is a jumbo, I don't know if it is high or not.

Are you already committed to that mortgage rate or can you still shop around?
Rob Bertram
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Re: Do I invest or pay higher mortgage downpayment?

Post by Rob Bertram »

I don't like debt, but I'm not afraid of it, either. If I were in your position, I would look at your net worth in the next 15 and 30 years and try to maximize that while being able to maintain your quality of life. Here are some questions to consider:
* Can you get a 15-year mortgage? That's usually about 1% less than the 30-year. Could you use the surplus cash to make up the difference between 15- and 30-year mortgage payments?
* If you invested the extra cash, how would you allocate it? Would you expect it to earn more than 3 or 4%?
* Will you need access to this money, or can you put it in a tax-advantaged account?
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Re: Do I invest or pay higher mortgage downpayment?

Post by thethinker »

LFKB wrote:Personally I'd do something in the middle but it's really a personal choice. How long do you plan on being in this home? If it's 7 years or less, you probably should consider options other than a 30 year fixed which would reduce your payment and allow you to invest more.
Other than a deal we can't pass on, this is a home for decades. It's in the top school district, plenty of bedrooms, near family and good local job security. No way to know for sure but this is likely our home until we downsize (20+ years at the earliest)
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Re: Do I invest or pay higher mortgage downpayment?

Post by thethinker »

CoAndy wrote:If you only put the 20% down would you be able to totally wipe out the student loans with the remainder of your money?
No. That extra 10% down would only cover about 1/3 of student loan debt.
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thethinker
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Re: Do I invest or pay higher mortgage downpayment?

Post by thethinker »

retiredjg wrote:If you put down more, could you get a better mortgage rate? That 4.1% seems very high to me. However, if it is a jumbo, I don't know if it is high or not.

Are you already committed to that mortgage rate or can you still shop around?
I can still shop but that's the best I found from 3 different banks. What rate should I be targeting? I was quoting a 30 year fixed and No points.
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Re: Do I invest or pay higher mortgage downpayment?

Post by thethinker »

Rob Bertram wrote: * Can you get a 15-year mortgage? That's usually about 1% less than the 30-year. Could you use the surplus cash to make up the difference between 15- and 30-year mortgage payments?
* If you invested the extra cash, how would you allocate it? Would you expect it to earn more than 3 or 4%?
* Will you need access to this money, or can you put it in a tax-advantaged account?
Great questions, I will answer below:

1) I 'can' get 15 years but the payments will surely make things a bit tighter early in the mortgage. The surplus cash could be used to make up the difference but that won't last the life of the loan? Will it? Or are you suggesting a larger downpayment to pay less per month with a 15 year?

2) Currently I use a 2 fund approach but toy with the idea of adding international quite often. I would hope that earns 4% but can't be sure. Is that the ROI I would need? What if I deduct interest from taxes and use a tax advantage account? Would my break even return be significantly lower and this more likely to be obtained?

3) I don't need access to it and can put it into a solo 401k.
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Re: Do I invest or pay higher mortgage downpayment?

Post by BL »

We don't even know what tax bracket you are in or anything else about you so it is pretty hard to give an answer in a vacuum. Best advice is if you choose to give information in the Asking Questions format. If you are in a higher bracket, you might choose to lower your AGI to avoid being phased out of certain credits, or even just to save more in taxes now.

Please check out the 15-year fixed to find out if it is affordable. Even with a 1% cost, it may be worthwhile if you have a very steady good income. There are likely to be many extra costs when you buy a new house and furnish it, maybe landscape as well. You should up your emergency fund to cover these possible costs.
joerh
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Re: Do I invest or pay higher mortgage downpayment?

Post by joerh »

Try amerisave.com. Depending on what $ you're paying/getting at closing, 4.1% might not be too far off.

Going to a 15 year note from a 30 at similar closing cost seems to save about 0.8% on interest rate. Might be an added bonus if going from 20 to 30% down gets you close enough to an affordable monthly payment.
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Re: Do I invest or pay higher mortgage downpayment?

Post by gvsucavie03 »

This is what I'd personally do.... lots of debate, but it's what my wife and I are doing....

(a small stock-pile for an emergency fund... but not too much. We have $1,000 plus various budgeted savings categories)
1. pay off student loan debts first, little to no investing
2. save 20% down for a house, little to no investing
3. put it on a 15 year mortgage, not 30
4. hit investing heavily

Again, this is not what others on this forum might recommend, but it's what we are doing.

gvsucavie03
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Re: Do I invest or pay higher mortgage downpayment?

Post by retiredjg »

thethinker wrote:
retiredjg wrote:If you put down more, could you get a better mortgage rate? That 4.1% seems very high to me. However, if it is a jumbo, I don't know if it is high or not.

Are you already committed to that mortgage rate or can you still shop around?
I can still shop but that's the best I found from 3 different banks. What rate should I be targeting? I was quoting a 30 year fixed and No points.
Good point about the 30 year fixed and no points. I recently got a mortgage at 2.75% but it was 15 year fixed and I paid a half point. It was 3% without paying the half point. So perhaps your rate is not as high as it seemed to me at first.

But maybe you should be looking at putting the extra money toward a larger downpayment and a 15 year fixed? Is that possible?
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retiredjg
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Re: Do I invest or pay higher mortgage downpayment?

Post by retiredjg »

I believe there are also 20 year mortgages available, but hardly every discussed. See what you can find out?
JoeliusZ28
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Re: Do I invest or pay higher mortgage downpayment?

Post by JoeliusZ28 »

gvsucavie03 wrote:This is what I'd personally do.... lots of debate, but it's what my wife and I are doing....

(a small stock-pile for an emergency fund... but not too much. We have $1,000 plus various budgeted savings categories)
1. pay off student loan debts first, little to no investing
2. save 20% down for a house, little to no investing
3. put it on a 15 year mortgage, not 30
4. hit investing heavily

Again, this is not what others on this forum might recommend, but it's what we are doing.

gvsucavie03
off topic, but fellow GVSU alum? :)

Personally, I just bought a house and even though I only had enough cash to do 20% down, I don't think I would put down anymore than that because at that point if i have extra cash im free to do what i want with it, pay extra towards the principal or invest in hopes of >4% return. Now granted that approach doesn't help you get a better rate but personally im more comfortable when i have options even if isn't the most financially efficient.
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Re: Do I invest or pay higher mortgage downpayment?

Post by thethinker »

BL wrote:We don't even know what tax bracket you are in or anything else about you so it is pretty hard to give an answer in a vacuum. Best advice is if you choose to give information in the Asking Questions format. If you are in a higher bracket, you might choose to lower your AGI to avoid being phased out of certain credits, or even just to save more in taxes now.

Please check out the 15-year fixed to find out if it is affordable. Even with a 1% cost, it may be worthwhile if you have a very steady good income. There are likely to be many extra costs when you buy a new house and furnish it, maybe landscape as well. You should up your emergency fund to cover these possible costs.
So sorry for not including that info. We are in a 25% federal bracket
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Re: Do I invest or pay higher mortgage downpayment?

Post by thethinker »

retiredjg wrote:
thethinker wrote:
retiredjg wrote:If you put down more, could you get a better mortgage rate? That 4.1% seems very high to me. However, if it is a jumbo, I don't know if it is high or not.

Are you already committed to that mortgage rate or can you still shop around?
I can still shop but that's the best I found from 3 different banks. What rate should I be targeting? I was quoting a 30 year fixed and No points.
Good point about the 30 year fixed and no points. I recently got a mortgage at 2.75% but it was 15 year fixed and I paid a half point. It was 3% without paying the half point. So perhaps your rate is not as high as it seemed to me at first.

But maybe you should be looking at putting the extra money toward a larger downpayment and a 15 year fixed? Is that possible?

Is a 15 year mortgage with higher monthly payment better than a 30 year mortgage with the ability to save more and invest extra each month? I can't help but think about inflation in the next 25 years and how little these locked in monthly payments will be. However I'm open to being educated in areas I'm mistaken
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Re: Do I invest or pay higher mortgage downpayment?

Post by bs010101 »

For some reason, the general thinking on this forum tends to be dead set against investing on margin, but much more supportive of borrowing on houses, cars, and even 401Ks to invest. I don't really understand the difference - maybe someone can explain.

I could understand if someone had $500K invested in a taxable account, and wanted to buy a $500K house with a mortgage instead of cleaning out his investments and having a big tax hit. But in your case, whether you borrow 80% or 70%, you're still committing to earning and forking over to the bank a lot more money over the next 30 years. I think the 10% one way or the other is not a big deal, but don't fall into the trap of thinking you are borrowing cheap money (the other 70%) to invest, because you'll already have spent it on the house. From that perspective, margin investing actually makes a lot more sense, because you are actually investing the borrowed money.
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Re: Do I invest or pay higher mortgage downpayment?

Post by Cut-Throat »

thethinker wrote:My wife and I stockpiled money to make sure we could afford the 20% downpayment required to avoid PMI. We successfully saved enough but we saved more than needed for 20%. I assume this question has been asked before but what should we do with the extra money: do we put 30% down(fixed 4.1% for 30 years), pay off student loans(our only debt, fixed at 3.5% with 25 years left to pay), we already max out our ROTHs but we don't max our Solo 401k plan.

Does anyone have a suggestion with these specific rates please? Thank you.
I would use the extra money to pay the higher interest rate loan down first. Unless, you could get a tax deduction for the 401K contribution.
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Re: Do I invest or pay higher mortgage downpayment?

Post by Watty »

If it is a jumbo loan and a bigger down payment would get you a better interest rate then that might be a good idea.

If you the house will not be paid off by the time you will retire then getting a shorter mortgage to have it paid off by them could be a good idea.

Maxing out any deductible retirement accounts would likely be a higher priority to me before paying down the other debt, but that could depend on the details of your situation so there is not enough information to know for sure.

I would assume you are not in a low tax bracket so I would not be too excited about the Roth. You may likely be able to do Roth conversions when you are retired and in a lower tax bracket.
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Re: Do I invest or pay higher mortgage downpayment?

Post by Kosmo »

Hang on to the cash for the time being. You might need it for maintenance or upgrades on the new house.
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Re: Do I invest or pay higher mortgage downpayment?

Post by cynthia fitz »

bs010101 wrote:For some reason, the general thinking on this forum tends to be dead set against investing on margin, but much more supportive of borrowing on houses, cars, and even 401Ks to invest. I don't really understand the difference - maybe someone can explain.

I could understand if someone had $500K invested in a taxable account, and wanted to buy a $500K house with a mortgage instead of cleaning out his investments and having a big tax hit. But in your case, whether you borrow 80% or 70%, you're still committing to earning and forking over to the bank a lot more money over the next 30 years. I think the 10% one way or the other is not a big deal, but don't fall into the trap of thinking you are borrowing cheap money (the other 70%) to invest, because you'll already have spent it on the house. From that perspective, margin investing actually makes a lot more sense, because you are actually investing the borrowed money.
It took me a while to understand your point. Once I did, I think I agree. However, I think the house is considered an investment. Secondly, I'd probably only put down 20%, and use the other 10% as an emergency fund unless I could get a much better mortgage rate (however, that delta is reduced because of the tax deductibility). Thirdly, I'm no fan of borrowing on houses, cars or 401Ks in order to invest. Seems like poor financial planning. Just my two cents.
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Re: Do I invest or pay higher mortgage downpayment?

Post by gvsucavie03 »

thethinker wrote:
retiredjg wrote:
thethinker wrote:
retiredjg wrote:If you put down more, could you get a better mortgage rate? That 4.1% seems very high to me. However, if it is a jumbo, I don't know if it is high or not.

Are you already committed to that mortgage rate or can you still shop around?
I can still shop but that's the best I found from 3 different banks. What rate should I be targeting? I was quoting a 30 year fixed and No points.
Good point about the 30 year fixed and no points. I recently got a mortgage at 2.75% but it was 15 year fixed and I paid a half point. It was 3% without paying the half point. So perhaps your rate is not as high as it seemed to me at first.

But maybe you should be looking at putting the extra money toward a larger downpayment and a 15 year fixed? Is that possible?

Is a 15 year mortgage with higher monthly payment better than a 30 year mortgage with the ability to save more and invest extra each month? I can't help but think about inflation in the next 25 years and how little these locked in monthly payments will be. However I'm open to being educated in areas I'm mistaken
You can't beat tens of thousands of dollars saved in interest on the 15 yr
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Re: Do I invest or pay higher mortgage downpayment?

Post by bsteiner »

There's a tax arbitrage. The interest you pay on the mortgage is deductible, while the earnings on "your share" of the 401(k) are tax-free.
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Re: Do I invest or pay higher mortgage downpayment?

Post by grabiner »

thethinker wrote:My wife and I stockpiled money to make sure we could afford the 20% downpayment required to avoid PMI. We successfully saved enough but we saved more than needed for 20%. I assume this question has been asked before but what should we do with the extra money: do we put 30% down(fixed 4.1% for 30 years), pay off student loans(our only debt, fixed at 3.5% with 25 years left to pay), we already max out our ROTHs but we don't max our Solo 401k plan.
I would recommend maxing out the Solo 401(k) before making extra mortgage payments. Tax-deferred investing is valuable now and in the future; once your mortgage and student loans are gone, you will still have the money you invested earlier in the 401(k), growing tax-deferred for years.

Making a higher down payment is slightly more attractive than paying down the mortgage once you have it. The reason is that the higher down payment will give you a benefit every month you hold the mortgage; an advance payment does not give you any money back until the mortgage is gone (or refinanced).

However, in your situation, once you have maxed out the retirement plans, it's probably better to make extra payments on the student loans. If your rate is 3.5% with 25 years left to pay, you presumably are paying too much interest to deduct it all, so you get the full 3.5% return on loan payments, versus 3.08% on the mortgage in your 25% bracket. And you may well earn too much later to deduct interest at all.
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Re: Do I invest or pay higher mortgage downpayment?

Post by thethinker »

bs010101 wrote:For some reason, the general thinking on this forum tends to be dead set against investing on margin, but much more supportive of borrowing on houses, cars, and even 401Ks to invest. I don't really understand the difference - maybe someone can explain.

I could understand if someone had $500K invested in a taxable account, and wanted to buy a $500K house with a mortgage instead of cleaning out his investments and having a big tax hit. But in your case, whether you borrow 80% or 70%, you're still committing to earning and forking over to the bank a lot more money over the next 30 years. I think the 10% one way or the other is not a big deal, but don't fall into the trap of thinking you are borrowing cheap money (the other 70%) to invest, because you'll already have spent it on the house. From that perspective, margin investing actually makes a lot more sense, because you are actually investing the borrowed money.
Am I correct to understand that you suggest I pay off this house as quickly as possible before doing too much investing? And I assume you suggest not getting a 30 year mortgage and investing the difference from what at 15 year would cost....right? Would you tell me why please?
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Re: Do I invest or pay higher mortgage downpayment?

Post by thethinker »

Cut-Throat wrote:
thethinker wrote:My wife and I stockpiled money to make sure we could afford the 20% downpayment required to avoid PMI. We successfully saved enough but we saved more than needed for 20%. I assume this question has been asked before but what should we do with the extra money: do we put 30% down(fixed 4.1% for 30 years), pay off student loans(our only debt, fixed at 3.5% with 25 years left to pay), we already max out our ROTHs but we don't max our Solo 401k plan.

Does anyone have a suggestion with these specific rates please? Thank you.
I would use the extra money to pay the higher interest rate loan down first. Unless, you could get a tax deduction for the 401K contribution.
The house will be our higest rate, just about 4% for a 30 year fixed. Student loans are a slightly lower rate and we have no other date. The 401k would be a tax deduction. With this info, what do you suggest?
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Re: Do I invest or pay higher mortgage downpayment?

Post by thethinker »

Watty wrote:If it is a jumbo loan and a bigger down payment would get you a better interest rate then that might be a good idea.

If you the house will not be paid off by the time you will retire then getting a shorter mortgage to have it paid off by them could be a good idea.

Maxing out any deductible retirement accounts would likely be a higher priority to me before paying down the other debt, but that could depend on the details of your situation so there is not enough information to know for sure.

I would assume you are not in a low tax bracket so I would not be too excited about the Roth. You may likely be able to do Roth conversions when you are retired and in a lower tax bracket.
I don't believe this is a jumbo loan but I also don't understand that term, would you explain it please?

I hope to retire sooner than expected, obviously, but at this point 30-35 years of work is likely what I have left.

Your comment about maxing our retirement ahead of paying other debt begs a question: are you suggesting a 30 year mortgage at 4ish% and having extra money to get closer to maxing my solo 401k, rather than a 15 year mortgage around 3-3.5%? I can also answer more questions if you had any. I'm in a 25% federal bracket. Thanks b
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Re: Do I invest or pay higher mortgage downpayment?

Post by thethinker »

grabiner wrote: However, in your situation, once you have maxed out the retirement plans, it's probably better to make extra payments on the student loans. If your rate is 3.5% with 25 years left to pay, you presumably are paying too much interest to deduct it all, so you get the full 3.5% return on loan payments, versus 3.08% on the mortgage in your 25% bracket. And you may well earn too much later to deduct interest at all.
Thanks for your post. To go over your numbers, does this indicate than an investment earning me greater than 3.08% return annually on money is a better choice with a 30 year mortgage rather than not making that investment and having a 15 year mortgage? How much lower would that 3.08 drop if the investment was made entirely inside a solo 401k plan?
Thanks for your help!
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Re: Do I invest or pay higher mortgage downpayment?

Post by Keep It Simple »

Without knowing all of the info regarding your personal situation, I would give this advice:

Consider putting as much as you can towards the down payment while still leaving a very healthy emergency fund to fall back on if ever needed. Combine this larger down payment with a 15 year mortgage and I don't think you can beat this strategy for reducing long term cost. This will of course mean that things will be tighter in the short term, so it is extremely important to examine correctly your employment stability.

Use any extra savings to fill your tax advantaged space, and then if anything is left I would put the extra money towards paying off the student loans more quickly.

Lastly, if going with the 15 year mortgage will make things so tight that you will not have enough left each month for entertainment or in general it will cause a strain on you, then go for the 30 year mortgage. I think the 15 year mortgage is always the better way to go, but not everyone can afford it. Just go for what you can afford and don't try and spread yourself to thin.

Good Luck!

K.I.S.
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Re: Do I invest or pay higher mortgage downpayment?

Post by Keep It Simple »

thethinker wrote:
Watty wrote:If it is a jumbo loan and a bigger down payment would get you a better interest rate then that might be a good idea.

If you the house will not be paid off by the time you will retire then getting a shorter mortgage to have it paid off by them could be a good idea.

Maxing out any deductible retirement accounts would likely be a higher priority to me before paying down the other debt, but that could depend on the details of your situation so there is not enough information to know for sure.

I would assume you are not in a low tax bracket so I would not be too excited about the Roth. You may likely be able to do Roth conversions when you are retired and in a lower tax bracket.
I don't believe this is a jumbo loan but I also don't understand that term, would you explain it please?

I hope to retire sooner than expected, obviously, but at this point 30-35 years of work is likely what I have left.

Your comment about maxing our retirement ahead of paying other debt begs a question: are you suggesting a 30 year mortgage at 4ish% and having extra money to get closer to maxing my solo 401k, rather than a 15 year mortgage around 3-3.5%? I can also answer more questions if you had any. I'm in a 25% federal bracket. Thanks b
A jumbo loan refers to a loan over $417,000. Interest rates are higher for these types of loans.

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Re: Do I invest or pay higher mortgage downpayment?

Post by thethinker »

Keep It Simple wrote:Without knowing all of the info regarding your personal situation, I would give this advice:

Consider putting as much as you can towards the down payment while still leaving a very healthy emergency fund to fall back on if ever needed. Combine this larger down payment with a 15 year mortgage and I don't think you can beat this strategy for reducing long term cost. This will of course mean that things will be tighter in the short term, so it is extremely important to examine correctly your employment stability.

Use any extra savings to fill your tax advantaged space, and then if anything is left I would put the extra money towards paying off the student loans more quickly.

Lastly, if going with the 15 year mortgage will make things so tight that you will not have enough left each month for entertainment or in general it will cause a strain on you, then go for the 30 year mortgage. I think the 15 year mortgage is always the better way to go, but not everyone can afford it. Just go for what you can afford and don't try and spread yourself to thin.

Good Luck!

K.I.S.
I am open to sharing personal information if you had any specific questions. Job security is hard to guarantee, but I'm in a very very secure position.

Your advice was helpful, thank you. To comment to your second post - NO this isn't a jumbo loan.


I like the idea of paying off a mortgage in 15 years and not 30 and paying less interest to a bank. But is that the best choice to make with low interest rates (4.125% at 30 years), the ability to deduct interest from taxes and the ability to use a tax advantage account for saving money? Or even if a tax advantage account is maxed, govt tax free bonds couldn't beat 3% in 30 years, right? Maybe this is a bit off topic but does anyone have a link to explain the math here or can anyone include the mathematics on this post?
I'm sure I'm missing something because its hard to ever beat being debt free! After year 15 I could save so much more money without a mortgage but I also will have lost 15 years of compounding interest in a tax free account. Which side wins?
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Re: Do I invest or pay higher mortgage downpayment?

Post by retiredjg »

thethinker wrote:Is a 15 year mortgage with higher monthly payment better than a 30 year mortgage with the ability to save more and invest extra each month?
I think that depends on the specific situation.

We don't know how much "extra" you saved. It could be a little or it could be a lot. Sometimes a shorter mortgage does not cost that much more and if the mortgage were for less money, the 15 year payment may not be any more or that much more than the 30 year payment.

If you knocked 15 years off the mortgage, it could save you thousands of dollars in interest. It is just something to consider. It may not even be an idea that you can afford.
LongerPrimer
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Re: Do I invest or pay higher mortgage downpayment?

Post by LongerPrimer »

CASH FLOW! Is and always will be the answer that you seek.

I don't know what they teach in school; May be the mathematics of money management and the emphasis on Rate?? :annoyed :confused
Rate means nothing no mater what a deal you get in its Terms; If you don't have the cash flow to support it. :idea:
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Re: Do I invest or pay higher mortgage downpayment?

Post by placeholder »

gvsucavie03 wrote:You can't beat tens of thousands of dollars saved in interest on the 15 yr
Sure you can but that gets back into those "guaranteed" versus "expected" returns.
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Re: Do I invest or pay higher mortgage downpayment?

Post by Keep It Simple »

I think it would help some of the people here that have replied to know what your income range is(exact figures not needed) and what you have saved and are currently saving per year.

Also, one of the posters above mentioned that a 15 year mortgage can save thousands...actually it is more like tens of thousands and over a hundred thousand in extra payments depending on the mortgage amount. Use Bankrate to see the difference in total payments. It is pretty startling.

To answer your question, you will never know which is better except in hindsight, so I think the 15 year is the safer bet...if you can afford it.

K.I.S.
glosing
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Re: Do I invest or pay higher mortgage downpayment?

Post by glosing »

I would definitely go for the 15 year (which will have a lower interest rate) if you can afford the payments.... if you look at an amortization table you will see how much more quickly you will build equity in your home this way. And keep that extra 10% for emergencies or home repairs etc. You will find all kinds of unexpected expenses crop up with home ownership.
bs010101
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Re: Do I invest or pay higher mortgage downpayment?

Post by bs010101 »

thethinker wrote:
bs010101 wrote:For some reason, the general thinking on this forum tends to be dead set against investing on margin, but much more supportive of borrowing on houses, cars, and even 401Ks to invest. I don't really understand the difference - maybe someone can explain.

I could understand if someone had $500K invested in a taxable account, and wanted to buy a $500K house with a mortgage instead of cleaning out his investments and having a big tax hit. But in your case, whether you borrow 80% or 70%, you're still committing to earning and forking over to the bank a lot more money over the next 30 years. I think the 10% one way or the other is not a big deal, but don't fall into the trap of thinking you are borrowing cheap money (the other 70%) to invest, because you'll already have spent it on the house. From that perspective, margin investing actually makes a lot more sense, because you are actually investing the borrowed money.
Am I correct to understand that you suggest I pay off this house as quickly as possible before doing too much investing? And I assume you suggest not getting a 30 year mortgage and investing the difference from what at 15 year would cost....right? Would you tell me why please?
Correct, for a few reasons:
1) A 30-year mortgage will be more expensive, guaranteed, whereas investments may or may not make up the difference.
2) A 15-year mortgage forces you to pay it off quicker, and builds your net worth quicker. I think of the interest as the expense; the principal portion is a transfer from one account to another, so your net worth increases when you get a paycheck and use some of it for principal reduction. If you do the 30 and plan to invest the difference, it will take a lot of discipline to never deviate. We refinanced from a 30 to a 15 a year after moving. It costs us an extra $1000 a month, but it reduced our interest costs by about $1000 as well, which means an extra $2000 a month I'm forced to contribute to my net worth.
3) If you plan to stay in the house, 30 years is a long time to be in debt. For most people the mortgage is the largest line item in the monthly budget. The 15-year ensures we'll be debt-free before our oldest goes to college, which will free up lots of cash to help out with paying for college. Because of that, I think of my mortgage payment as a contribution to college funding as well. The alternative is possibly wanting to retire and still having a mortgage.
4) Finally, when you are spending money you don't have in order to "invest," you are making a classic middle-class mistake in thinking lots of "good debt" will make you wealthy. No - lots of assets make you wealthy, and if you think low-interest debt is such a good move, you're likely to take on too much. We bought more house than we need because we only thought about the monthly payment and not about quite how long 360 months is. We love the house, and we can afford the payments, but I can't see being financially free if I have to keep sending large payments in every month.

Good luck with the home purchase!
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Re: Do I invest or pay higher mortgage downpayment?

Post by grabiner »

thethinker wrote:
grabiner wrote: However, in your situation, once you have maxed out the retirement plans, it's probably better to make extra payments on the student loans. If your rate is 3.5% with 25 years left to pay, you presumably are paying too much interest to deduct it all, so you get the full 3.5% return on loan payments, versus 3.08% on the mortgage in your 25% bracket. And you may well earn too much later to deduct interest at all.
Thanks for your post. To go over your numbers, does this indicate than an investment earning me greater than 3.08% return annually on money is a better choice with a 30 year mortgage rather than not making that investment and having a 15 year mortgage? How much lower would that 3.08 drop if the investment was made entirely inside a solo 401k plan?
The annual return isn't the only issue here; the duration also matters. If you make an extra payment on a loan, this reduces the amount you will owe in the future by a known dollar amount. A bond is another investment which gives you a known dollar amount on a future date, so you can compare the return on additional loan payments to the return on bonds of the same duration.

For example, if you could take out a 15-year mortgage at 3.1% (2.33% after tax), or take out a larger mortgage and invest the difference in Admiral shares of Vanguard Long-Term Tax-Exempt (2.51% current yield), this is essentially break-even. The duration (dollar-weighted average time for all future payments) of a 15-year mortgage is about seven years, the same as the duration of the municipal-bond fund. The muni fund has some credit risk, so I would prefer taking out a smaller mortgage in this situation.

Now, for comparison, suppose you invested in Total Bond Market Index in your solo 401(k). The yield is 2.07%, with comparable risk; it has slightly shorter duration than the mortagage and little credit risk (the fund is mostly government bonds). Thus, you expect be slightly behind if you invest in the 401(k) while the mortgage still exists. But once the mortgage is gone, the money you already invested in the 401(k) will still be there, growing tax-deferred for years. Thus, despite the interest-rate difference, I would prefer maxing out the 401(k) to reducing the size of a 15-year mortgage.

The bank is presumably close to indifferent between a 15-year mortgage at 3.1% and a 30-year mortgage at 4.1%, so this gives you an idea of the value the bank places on interest-rate risk. Thus, if you prefer to invest in a 401(k) over reducing your mortgage balance, you should probably prefer it whether the mortgage is for 30 years or 15.

So is 15 years or 30 better for you? By the same logic, you want to contribute as much as possible to the 401(k) while you still have the mortgage. If the payments on the 15-year mortgage are so high that they reduce your ability to contribute to the 401(k), then the 30-year mortgage is better. If you can max out your 401(k) and might be using other money to pay down the 30-year mortgage early, then you give up some of the benefit of the longer term, so you should prefer 15.

And if your student loans are primarily non-deductible, then you want to pay them down first, and not make extra payments on your mortgage until the loans are gone. Therefore, it makes sense to take out the 30-year mortgage to free up more cash, borrowing at 3.08% rather than 2.33% in order to reduce the amount that you have borrowed at 3.5%.
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Re: Do I invest or pay higher mortgage downpayment?

Post by grabiner »

bs010101 wrote:For some reason, the general thinking on this forum tends to be dead set against investing on margin, but much more supportive of borrowing on houses, cars, and even 401Ks to invest. I don't really understand the difference - maybe someone can explain.
The main reason is the tax system. If you can borrow at 4% and lend at 3.5% for the same duration, it doesn't make sense for you to do both. But if the IRS allows you to borrow for 3% after tax when you buy a house, and you can earn 3.5% by investing in bonds in a 401(k), then you come out ahead by maxing out your 401(k) rather than paying down your mortgage. Even if you have to invest in a taxable account, you may come out ahead in a high tax bracket if you can deduct your mortgage interest and invest in tax-exempt bonds. (You don't need to invest in bonds, but bond investments give a fair comparison.)

Borrowing on a car to invest isn't normally recommended unless there is an unusual benefit, such as an employer match on a 401(k) or a large tax bill for paying cash. When I first bought a car, the interest I expected to pay on the loan was less than the tax I would have paid if I sold enough stock to buy the car with cash.
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Re: Do I invest or pay higher mortgage downpayment?

Post by gvsucavie03 »

placeholder wrote:
gvsucavie03 wrote:You can't beat tens of thousands of dollars saved in interest on the 15 yr
Sure you can but that gets back into those "guaranteed" versus "expected" returns.
Not sure I follow... 15-year versus 30-year mortgage is like a core principle of personal finance. Go with 15, save tens of thousands in mortgage interest, house is paid off much sooner. If you took out a 30 year mortgage and invested the difference of the payment of a 15 year mortgage, you will probably come out ahead in the investment accounts, but you have paid a huge fee for that opportunity. :confused

This of course assumes the person taking out a 30 actually does invest the difference of the 15 above what is already being invested.....

The 30-year mortgage on a $200,000 house is $1,013 per month at 4.5%
The 15-year mortgage on a $200,000 house is $1,530 per month at 4.5%
Difference is $517. $517 per month invested over 30 years at 8% return is $760,000 not including inflation.

The person going with the 15-year saves $89,417 in interest AND has $1,530 more to invest when the mortgage is paid off. 15 years of $1,530 per month invested at 8% is $538,000 PLUS the $90,000 saved in interest along the way.

Those are very close numbers at the end of the day. I'd rather have the freed up cash flow and lower risk of a paid-for house. There is also no guarantee of earning a positive return in 15 years in the stock and bond market (it is guaranteed that you no longer have a mortgage for 15 years after it is paid off). Desperation to sell is also dramatically reduced when you don't have a 2nd mortgage payment if you're suddenly forced to move.

I'll take peace and serenity. Personal finance is not all about numbers.
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Re: Do I invest or pay higher mortgage downpayment?

Post by john94549 »

All the money you "don't" borrow (at 4.1%) is like a guaranteed 4.1% return on any investment you might choose. Not seeing any 4.1% guaranteed, 30-year, these days.
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Re: Do I invest or pay higher mortgage downpayment?

Post by thethinker »

grabiner wrote: The main reason is the tax system. If you can borrow at 4% and lend at 3.5% for the same duration, it doesn't make sense for you to do both. But if the IRS allows you to borrow for 3% after tax when you buy a house, and you can earn 3.5% by investing in bonds in a 401(k), then you come out ahead by maxing out your 401(k) rather than paying down your mortgage. Even if you have to invest in a taxable account, you may come out ahead in a high tax bracket if you can deduct your mortgage interest and invest in tax-exempt bonds. (You don't need to invest in bonds, but bond investments give a fair comparison.)

Would you (or anyone) help me to break this down. If I use a 30 year mortgage @ 4.125% and then factor in the 'interest paid' as a tax deduction (25% federal bracket & we have 3% income tax in my state, does that also get factored in?), would that turn this rate, essentially, into 3.09375% not factoring state taxes (and 2.97% with state taxes)? Or am I incorrect on my math??
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Re: Do I invest or pay higher mortgage downpayment?

Post by thethinker »

gvsucavie03 wrote:
placeholder wrote:
gvsucavie03 wrote:You can't beat tens of thousands of dollars saved in interest on the 15 yr
Sure you can but that gets back into those "guaranteed" versus "expected" returns.
Not sure I follow... 15-year versus 30-year mortgage is like a core principle of personal finance. Go with 15, save tens of thousands in mortgage interest, house is paid off much sooner. If you took out a 30 year mortgage and invested the difference of the payment of a 15 year mortgage, you will probably come out ahead in the investment accounts, but you have paid a huge fee for that opportunity. :confused

This of course assumes the person taking out a 30 actually does invest the difference of the 15 above what is already being invested.....

The 30-year mortgage on a $200,000 house is $1,013 per month at 4.5%
The 15-year mortgage on a $200,000 house is $1,530 per month at 4.5%
Difference is $517. $517 per month invested over 30 years at 8% return is $760,000 not including inflation.

The person going with the 15-year saves $89,417 in interest AND has $1,530 more to invest when the mortgage is paid off. 15 years of $1,530 per month invested at 8% is $538,000 PLUS the $90,000 saved in interest along the way.

Those are very close numbers at the end of the day. I'd rather have the freed up cash flow and lower risk of a paid-for house. There is also no guarantee of earning a positive return in 15 years in the stock and bond market (it is guaranteed that you no longer have a mortgage for 15 years after it is paid off). Desperation to sell is also dramatically reduced when you don't have a 2nd mortgage payment if you're suddenly forced to move.

I'll take peace and serenity. Personal finance is not all about numbers.
How does this situation change if the average rate of return over that 30 year period (in each example) is 5% and not 8%?
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Re: Do I invest or pay higher mortgage downpayment?

Post by freddie »

thethinker wrote:
grabiner wrote: The main reason is the tax system. If you can borrow at 4% and lend at 3.5% for the same duration, it doesn't make sense for you to do both. But if the IRS allows you to borrow for 3% after tax when you buy a house, and you can earn 3.5% by investing in bonds in a 401(k), then you come out ahead by maxing out your 401(k) rather than paying down your mortgage. Even if you have to invest in a taxable account, you may come out ahead in a high tax bracket if you can deduct your mortgage interest and invest in tax-exempt bonds. (You don't need to invest in bonds, but bond investments give a fair comparison.)

Would you (or anyone) help me to break this down. If I use a 30 year mortgage @ 4.125% and then factor in the 'interest paid' as a tax deduction (25% federal bracket & we have 3% income tax in my state, does that also get factored in?), would that turn this rate, essentially, into 3.09375% not factoring state taxes (and 2.97% with state taxes)? Or am I incorrect on my math??
That is right if you are already itemizing.

You can search this board for a zillion discussions about paying off the mortgage early or investing. It basically breaks down to 2 groups
a) the I fear debt and don't want to pay interest (guaranteed return)
b) look at how much money I get by using margin (opportunity cost)

On average b is mathematically right but a might sleep a lot better at night. Personally i would not pay off this mortgage early right now. I would much rather reduce my federal taxes by contributing more to a 401(k). Of course I also wouldn't contribute to a ROTH until I maxed out my 401(k). YMMV
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Re: Do I invest or pay higher mortgage downpayment?

Post by lrak »

gvsucavie03 wrote:
placeholder wrote:Sure you can but that gets back into those "guaranteed" versus "expected" returns.
Not sure I follow... 15-year versus 30-year mortgage is like a core principle of personal finance. Go with 15, save tens of thousands in mortgage interest, house is paid off much sooner. If you took out a 30 year mortgage and invested the difference of the payment of a 15 year mortgage, you will probably come out ahead in the investment accounts, but you have paid a huge fee for that opportunity. :confused

This of course assumes the person taking out a 30 actually does invest the difference of the 15 above what is already being invested.....

The 30-year mortgage on a $200,000 house is $1,013 per month at 4.5%
The 15-year mortgage on a $200,000 house is $1,530 per month at 4.5%
Difference is $517. $517 per month invested over 30 years at 8% return is $760,000 not including inflation.

The person going with the 15-year saves $89,417 in interest AND has $1,530 more to invest when the mortgage is paid off. 15 years of $1,530 per month invested at 8% is $538,000 PLUS the $90,000 saved in interest along the way.
But that again gets back to those guaranteed vs expected returns. To use myself as an example...

I bought my house just over 15 years ago in 1999 when the .com boom was still booming and experts were predicting 10%+ returns for many years into the future.

Despite that rosy economic outlook, I put almost 40% down and paid off the 6% mortgage as quickly as possible. It turns out the actual returns were much lower than predicted. The S&P500 has had an annual return of less than 4.5% in those 15 years. During the period I had a mortgage, the S&P500 had an annual return of -0.2%. Since the house was paid off before 2008, I had the cashflow to max out a Roth 401k, Roth IRA, and Spousal Roth IRA as well as invest an extra ~$3k/yr in an HSA during that "little dip" that followed. Paying it off early and having the security & cashflow to invest later was a big win.
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Re: Do I invest or pay higher mortgage downpayment?

Post by thethinker »

Irak,
Would you then suggest paying off the mortgage as soon as possible? Even before putting money away for retirement?
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Re: Do I invest or pay higher mortgage downpayment?

Post by gvsucavie03 »

lrak wrote:
gvsucavie03 wrote:
placeholder wrote:Sure you can but that gets back into those "guaranteed" versus "expected" returns.
Not sure I follow... 15-year versus 30-year mortgage is like a core principle of personal finance. Go with 15, save tens of thousands in mortgage interest, house is paid off much sooner. If you took out a 30 year mortgage and invested the difference of the payment of a 15 year mortgage, you will probably come out ahead in the investment accounts, but you have paid a huge fee for that opportunity. :confused

This of course assumes the person taking out a 30 actually does invest the difference of the 15 above what is already being invested.....

The 30-year mortgage on a $200,000 house is $1,013 per month at 4.5%
The 15-year mortgage on a $200,000 house is $1,530 per month at 4.5%
Difference is $517. $517 per month invested over 30 years at 8% return is $760,000 not including inflation.

The person going with the 15-year saves $89,417 in interest AND has $1,530 more to invest when the mortgage is paid off. 15 years of $1,530 per month invested at 8% is $538,000 PLUS the $90,000 saved in interest along the way.
But that again gets back to those guaranteed vs expected returns. To use myself as an example...

I bought my house just over 15 years ago in 1999 when the .com boom was still booming and experts were predicting 10%+ returns for many years into the future.

Despite that rosy economic outlook, I put almost 40% down and paid off the 6% mortgage as quickly as possible. It turns out the actual returns were much lower than predicted. The S&P500 has had an annual return of less than 4.5% in those 15 years. During the period I had a mortgage, the S&P500 had an annual return of -0.2%. Since the house was paid off before 2008, I had the cashflow to max out a Roth 401k, Roth IRA, and Spousal Roth IRA as well as invest an extra ~$3k/yr in an HSA during that "little dip" that followed. Paying it off early and having the security & cashflow to invest later was a big win.
I think that was my point if I'm not mistaken...
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Re: Do I invest or pay higher mortgage downpayment?

Post by gvsucavie03 »

the thinker - if returns end up being 5%, you were better off on a 15 year note.
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