Should I pay off my mortgage?

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kmaxim
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Should I pay off my mortgage?

Post by kmaxim »

Hello all,
I am a brand new Boglehead and would like some advice/opinions
as to whether I should pay off my mortgage or use the money to
invest. I have no debt, max out my 401K and Roth, have an
emergency fund, etc. Recently, I have come into enough money
to pay off my mortgage, with some left over. Currently, my mortgage
has 10 yrs left on a 15 yr 4.75% loan (refinanced to this 5 yrs ago).
Now, before you say I shouldn't pay off a 4.65% loan, if I pay it off,
I will save over $14,000 in interest over the next 10 years, and the
tax break I get from the mortgage is minimal. (I used calculators to
find this information). So, my 2 options are: pay off the mortgage
and invest monthly the amount I was paying for the mortgage, OR,
invest the money now, either in a lump sum, or dollar cost average
it. I am single, 54 yrs old, and have a very stable job situation
(Pharmacist). Any advice and/or opinions are greatly appreciated. I
consider myself knowledgeable about financial matters, but am
having a hard time deciding on this one. Thanks, KMaxim
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Sbashore
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Post by Sbashore »

If you invest 1400 a year @ 6% compounded annually, you'll end up with 18,453. Since that's more than the 14,000 you'd save I'd keep the mortgage and save the money.
Steve | Semper Fi
mptfan
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Post by mptfan »

You said you have "no debt" but you also have a mortgage. These statements are inconsistent because a mortgage is debt.

Do you itemize your deductions? What is the total of your itemized deductions, excluding your mortgage interest? If the tax benefit to the mortgage interest is minimal, I would pay it off.
tj-longterm
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Post by tj-longterm »

Honestly, it's unclear which will work out better.

If you pay off the mortgage, you will get a guaranteed 4.75% rate. The 10-year taxable treasury yield is 3.31% and 10-year muni yield is 4.02%.

The 10-year stock market return is unknown and taxable. Possibly better than 4.75%, possibly negative.

There's no way to guarantee either way. My theory is: if you don't have a whole lot invested/saved at the moment, don't pay off your mortgage and continue to invest/save. This way you will have more cash if you need it for an emergency, and you may need to take more risk in order to grow your savings. If you are on your way to a good sized nest egg, pay off your mortgage and consider it a good risk-free return -- you don't need to take the risk.
Joe S
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Post by Joe S »

I don't know you, so I can't answer for you, and even if I did, I still might not know.
Ask yourself, if offered the chance to buy a tax-free no-risk 10 year bond at 4.65%, how much would I like to invest today? That's the same as paying some or all of it off, assuming no tax breaks from the mortgage. (I personally would do it, but I'm retired and not building a nest egg.)

Don't do anything until you're comfortable. It's not a no-brainer.
If you need to be forced into saving or are extremely risk-averse or are retiring soon, paying it off is probably the best alternative.
If you are a prudent disciplined investor, odds are you can beat the returns with minimal risk by cost-averaging.
You can always split the difference.
aida2003
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Post by aida2003 »

Based on the description of your situation, I'd pay it off now and invest the residual amount plus do DCA with free mortgage payments. This is just me :).
Whenever/wherever such a topic is brought up, it always ignites a big discussion. :wink: so there's no right or wrong move, IMO. If I had a crystal ball that said I'd end up richer investing vs. paying off a mortgage, I'd do it, but you never know what the future brings. ...need that crystal ball :lol:
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mas
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Re: Should I pay off my mortgage?

Post by mas »

kmaxim wrote:I consider myself knowledgeable about financial matters, but am having a hard time deciding on this one.
Why not split the difference.
Take half of the money and pay DOWN the mortgage (guaranteed 4.65% return), and take the other half to invest (unknown return, but higher is expected). This should also cause the remaining mortgage to be paid off much more quickly, since a larger part of your payment will be principal.

There is no single right answer to questions like this. Its merely a risk vs reward tradeoff.
Ron
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My response...

Post by Ron »

Should "you pay it off"?

Don't know. It all depends on what your "want's and needs" are.

My wife/me built our current home (our 4th house since being married many, many, many years ago :lol: ).

She had the goal to pay it off before we retired. I had the goal of paying as little interest as possible (I can't see paying $2 to get $1 back in taxes).

Result? 30 year mortgage (at 6.875% - back in 1994) was paid off in late 1999 (less than 5.5 years) resulting in "forgone interest paid" of over $125k.

For us, it worked. It also helped that when we stopped our mortgage payment, we increased our retirement investments by the same amount of our base mortgage payment. If you remember, this is the time (late 1999) when the market "went south" for a few years).

Result? We "bought cheap" (retirement investments, that is) for a few years. This resulted in changing our retirement age from 62+ to 59 (which I did, last year).

Like one poster said, "it all depends". Often the result of your decision isn't known till "after the fact" (or many years later).

That's life. Regardless of your decision, it should be the right one (for you) based upon what your (and your significant other, if applicable) decide. Nobody on this forum can answer that for you.

- Ron
retired at 48
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Post by retired at 48 »

To: kmaxim

I have perhaps contrary advice here, but it is: Do not pay off the mortgage, for the following reasons. We are most likely heading into a strong inflationary environment. Your 4.75% mortgage is a jewel! You will be paying it back with much cheaper dollars.

For example, in 1970 I purchased a 4 bedroom colonial home, 1 acre, with a mortgage payment of $126.25 (6%) :) Yes, a great rate, and with the stagflation that followed the house prices rose and in about five years I had raises equal to my mortgage payment. I took 30 years to pay off.

Your money invested in a good asset allocated inv. plan today will probably exceed 4.75% growth in future, compounded...a great opportunity.

Lastly, you will not be house rich. IMHO, Borrowed money is great in most inflationary or dollar devaluing environments.

Retired at 48
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Rager1
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Post by Rager1 »

Here's additional information for you to consider:

On a 15 year mortgage, by the end of year five, you have already paid 52% of the total interest on the loan, and have paid off 26% of the principal. In year six, 64% of your payment will go to principal, and 36% to interest. In year 10, 77% of your payment will go to principal, and 23% to interest.

Inflation is running at a year-over-year rate of 4.03% in February making the inflation adjusted cost of your mortgage less than the 4.65% stated rate.

Ed
larmewar
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Probably Payoff

Post by larmewar »

Kmaxim - You said you get little/no actual benefit from deducting interest. So if your marginal income tax rate is 30% (I'm guessing), then the equivalent after tax return is 4.65% / 0.7 = 6.64%, risk-free. You have a stable job and from what I read pharmacists are in high demand anyway. You'll also get a very small additional return from not paying into escrow. And you are completely paying off the mortgage, reducing your living expenses. So liquidity risk doesn't seem to be a problem or concern.

Additional benefits I achieved from paying off my mortgage at 50 years old were/are investing money saved on house payments over time vs. as a lump sum and not itemizing simplified income taxes.

Lar
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grabiner
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Re: Should I pay off my mortgage?

Post by grabiner »

kmaxim wrote:Hello all,
I am a brand new Boglehead and would like some advice/opinions
as to whether I should pay off my mortgage or use the money to
invest. I have no debt, max out my 401K and Roth, have an
emergency fund, etc. Recently, I have come into enough money
to pay off my mortgage, with some left over. Currently, my mortgage
has 10 yrs left on a 15 yr 4.75% loan (refinanced to this 5 yrs ago).
Now, before you say I shouldn't pay off a 4.65% loan, if I pay it off,
I will save over $14,000 in interest over the next 10 years, and the
tax break I get from the mortgage is minimal.
Is the tax break minimal because you don't itemize, or just because it isn't that much (I would estimate from these numbers that you paid $3000 in mortgage interest last year)?

If you don't itemize deductions, then paying off the mortgage is a guaranteed tax-free 4.75% return, which is a good deal, as you have to take some risk to get 4.75% return in your 401(k), and you have probably already made the decision to buy some bonds earning less than 4.75% rather than investing in stock.

If you do itemize and are in a 25% tax bracket, then paying off the mortgage is a guaranteed 3.56% return, which doesn't look as attractive given that you can earn about 4% on very-low-risk municipal bonds. (You don't have to invest in those bonds, but it gives a fair comparison.)
Wiki David Grabiner
mptfan
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Re: Should I pay off my mortgage?

Post by mptfan »

grabiner wrote:If you do itemize and are in a 25% tax bracket, then paying off the mortgage is a guaranteed 3.56% return,
Not necessarily. That is only true if the total of itemized deductions, excluding mortgage interest, is equal to or greater than the standard deduction. Otherwise, if the total of the other itemized deductions is less than the standard deduction, then only that portion of the mortgage interest which brings the total of itemized deductions over the standard deduction effectively results in a tax deduction. In that case, the after tax effective interest rate would be greater than 3.56%.
Last edited by mptfan on Tue Mar 18, 2008 6:23 pm, edited 1 time in total.
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mlebuf
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Post by mlebuf »

Hi KMaxim,

This decision has a financial and an emotional component.

On the financial side, with a 4.75% fixed-rate mortgage, minus what kind of tax break you will get if you itemize, you will almost certainly to come out better by keeping the mortgage and investing the money in a balanced, diversified portfolio. Until 5 years ago, mortgage rates had not been that low in over 40 years. Also, thanks to inflation, with a fixed-rate mortgage, you will pay back the balance with cheaper dollars in every succeeding year. You also have ready access to the invested money if you need it. Financially, I believe it makes sense to keep the mortgage. I have 11 more years to pay on a 4.875%, fixed rate mortgage. I'm 66 and not about to pay it off, although I can if I wish to.

On the emotional side, some people just hate having any kind of debt, including a mortgage. If you are one of those who finds it much easier to enjoy life when you don't owe anything to anybody, it makes sense to pay it off and you do get a 4.75% guaranteed return. You take less risk, but you will have less liquidity, and will likely have a lower return.

Bottom line: If you sleep better knowing your home is paid for, pay it off. If carrying a mortgage doesn't bother you, you will likely come out ahead financially by keeping it.

Best wishes,
Michael
Best wishes, | Michael | | Invest your time actively and your money passively.
mptfan
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Post by mptfan »

mlebuf wrote:Also, thanks to inflation, with a fixed-rate mortgage, you will pay back the balance with cheaper dollars in every succeeding year.
That's true. But you pay interest every year on the outstanding balance for the privilege. And the interest that you pay is at a higher rate than the rate of inflation. So it's a net loss.

If at some point the rate of inflation becomes greater than the mortgage interest rate, then it would be a gain.
retired at 48
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Post by retired at 48 »

mptfan wrote:
mlebuf wrote:Also, thanks to inflation, with a fixed-rate mortgage, you will pay back the balance with cheaper dollars in every succeeding year.
That's true. But you pay interest every year on the outstanding balance for the privilege. And the interest that you pay is at a higher rate than the rate of inflation. So it's a net loss.

If at some point the rate of inflation becomes greater than the mortgage interest rate, then it would be a gain.
While I am obviously in mlebufs camp here, there are two points for mptfan to consider. First, many reasonable people strongly consider that the government is currently greatly understating inflation by today's calculating methods. Secondly, standby for that higher inflation to add to your equation. IMHO it is barreling down the road at us.

retired at 48
mptfan
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Post by mptfan »

retired at 48 wrote:While I am obviously in mlebufs camp here, there are two points for mptfan to consider. First, many reasonable people strongly consider that the government is currently greatly understating inflation by today's calculating methods. Secondly, standby for that higher inflation to add to your equation. IMHO it is barreling down the road at us.

retired at 48
I agree that the government is understating inflation. But they are understating inflation of the cost of living (gas, energy, etc). They are not understating the inflation of income, and it is inflated income that is used to pay back your mortgage in the future, not inflated expenses.
retired at 48
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Post by retired at 48 »

mptfan wrote:
retired at 48 wrote:While I am obviously in mlebufs camp here, there are two points for mptfan to consider. First, many reasonable people strongly consider that the government is currently greatly understating inflation by today's calculating methods. Secondly, standby for that higher inflation to add to your equation. IMHO it is barreling down the road at us.

retired at 48
I agree that the government is understating inflation. But they are understating inflation of the cost of living (gas, energy, etc). They are not understating the inflation of income, and it is inflated income that is used to pay back your mortgage in the future, not inflated expenses.
Excellent point. But if ones income is not keeping up with inflation, then investing with long range returns of 4.75% will not result in any real savings upon which to retire. Only houses, equities, metals, etc. will keep up. And one must have confidence these, especially equities, will have returns exceeding inflation. If not, there is no way to achieve real growth, thus no one retires! Game over for everybody. Better to do international investing, if one doesn't foresee getting 4.75% on equities, long term (including dividends reinvested).

ret/48
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wshang
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Post by wshang »

There is one more piece of information which has not been provided which is important. Are you planning on retiring in the near future?

If so, it is better to pay off the mortgage (all things being equal) since there is no reason to receive extra money (in the form of dividends, part-time work, or even short-term capital gains) pay tax on it and then turnaround and make a mortgage principal-interest payment. If you have structured your taxed, pre-age 59, retirement withdrawl properly, you will make the majority if not all of your withdraw in long-term capital gains - the lowest tax rate AND just the amount necessary to pay your ongoing expenses.
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uspeed
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Post by uspeed »

If you can systemetically and religiously invest every month then go ahead pay it off, remember you get some tax benefit if not much.

The only reason I would not pay is, I may not do monthly investment as the money is with you and you do whatever I like to do.


For example, I decided to not enroll in my company ESPP, and though would invest every pay check rather, never happened.

The other reason, you do not want to pay off mortgage, is keep money on your side, you may need those, you can eat with your house paid off, but you can do much better with the money you have.

Also, in last years you pay less in mortgage, so its not wise to payoff the mortgage, which lender is expected to do so.
Tigershark
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Sleep better

Post by Tigershark »

mlebuf wrote:Hi KMaxim,

This decision has a financial and an emotional component.

On the financial side, with a 4.75% fixed-rate mortgage, minus what kind of tax break you will get if you itemize, you will almost certainly to come out better by keeping the mortgage and investing the money in a balanced, diversified portfolio. Until 5 years ago, mortgage rates had not been that low in over 40 years. Also, thanks to inflation, with a fixed-rate mortgage, you will pay back the balance with cheaper dollars in every succeeding year. You also have ready access to the invested money if you need it. Financially, I believe it makes sense to keep the mortgage. I have 11 more years to pay on a 4.875%, fixed rate mortgage. I'm 66 and not about to pay it off, although I can if I wish to.

On the emotional side, some people just hate having any kind of debt, including a mortgage. If you are one of those who finds it much easier to enjoy life when you don't owe anything to anybody, it makes sense to pay it off and you do get a 4.75% guaranteed return. You take less risk, but you will have less liquidity, and will likely have a lower return.

Bottom line: If you sleep better knowing your home is paid for, pay it off. If carrying a mortgage doesn't bother you, you will likely come out ahead financially by keeping it.

Best wishes,
Michael

The people I know that were in this situation decided to pay it off their mortgage, almost solely for the emotional relief of not having a mortgage anymore. We are supposed to make the best financial decisions, but we shouldn't discount any emotional component to them. I think Michael sums it up best. Now it is up to you to decide which is the better choice.
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