No Mortgage/Debt

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No Mortgage/Debt

Postby ronk » Tue Dec 18, 2012 1:09 am

Hi,

I am in my early 40s. In the past few years, I used my savings to pay off my house/car etc. I am currently debt free and pay my credit cards in full each month. The idea of having debt is nerve racking for me. I also started putting my money into a vanguard lazy portfolio.

From what I have read on the forums (and from talking to coworkers), I see that most people choose not to pay of these debts and instead have the money in liquid cash/invested. Is the idea that you can make more money by investing the reason people don't pay off their debts or is it for tax reasons.

Please explain.

Thanks.
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Re: No Mortgage/Debt

Postby STC » Tue Dec 18, 2012 9:19 am

This is a complex issue and essentially comes down to the ability and need to take risk to meet your financial goals.

If you take a 3% mortgage and assume a 25% marginal tax rate, your effective rate on that mortgage becomes 2.25%. This is the rate of return for paying down the mortgage early. In most cases a conservative investment portfolio will out-perform 2.25% over a 30-year period. This allows you to capture the difference between your cost of capital and the returns on your portfolio. It is essentially borrowing against your house to fund a portfolio -aka leverage.

This has obvious risks, and the more volatile your investment portfolio the more risky this proposition becomes. Do you need to take this risk to meet your financial goals? Do you have the ability to take this risk? Those are the important questions here, and are Multi-faceted.

The last point is that there should always be a minimum level of liquidity in your planning for emergencies - an emergency fund.

Does this help?
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Re: No Mortgage/Debt

Postby livesoft » Tue Dec 18, 2012 9:30 am

Yes, some people can make more money for themselves by using other people's money that they have borrowed. For example, I have a loan that I am paying off very slowly. The loan has a 0% fixed interest rate. At that rate, I borrowed as much as they would allow me in order to invest it.

One does have to be careful, so that they are not paying more in interest and taxes than they would receive from their investments after taxes.

And of course, many folks are not coming out ahead by borrowing money even though they might think they are. They may get peace of mind by doing so or a place to live. For what ever reasons, it makes sense to them even though it might not make sense to you and me. People are funny that way.
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Re: No Mortgage/Debt

Postby Boglenaut » Tue Dec 18, 2012 9:46 am

STC wrote: If you take a 3% mortgage and assume a 25% marginal tax rate, your effective rate on that mortgage becomes 2.25%. This is the rate of return for paying down the mortgage early.


Not quite. As you said, it gets complicated.

To get the deduction, you must itemize. So you lose the standard deductions. You also have various fees associated with getting the mortgage.

And if you do take out the mortgage and invest the money elsewhere, you need to pay tax on gains there.
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Re: No Mortgage/Debt

Postby Grt2bOutdoors » Tue Dec 18, 2012 9:56 am

As others have stated previously, people who take on leverage (debt) and keep it to invest in what they deem to be higher returning instruments are essentially betting "the house" that the investments will far outperform overtime the cost of the mortgage interest and fees. There is no guarantee of this working and for those who are risk-averse willing to invest only in certificates of deposit/Treasuries/super-safe fixed income vehicles undertaking leverage to do so will be a money-losing proposition.

I would only consider undertaking this endeavor if you have sufficient liquidity far in excess of the recommended 6-12 months, a secure job or another stockpile of assets somewhere. In the event your bet sours, you won't lose the home to foreclosure. Markets can and do turn south, sometimes for lenghts of time far in excess of what you might expect. Could you hold onto your home if you lose your employement, could not find another job for 3 to 5 years? That is the question, many people have been answering in this economic downturn and the results have not been favorable.

You know the saying "don't bet the house", well it has real meaning behind it.
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Re: No Mortgage/Debt

Postby Calm Man » Tue Dec 18, 2012 11:00 am

OP, I suspect there are many bogleheads and people who are not at this site who have no debt even if by crunching numbers one can convince oneself that he/she would be better off with debt and more investments. The one thing that is certain about debt is that you are receiving and interest rate equal to what the cost of the debt would be. And you do not need to even consider possible alterations in the tax laws that would affect deductibility. You indicate that debt makes you anxious. It never made me anxious but I hated it. I have no debt of any type now except paying off credit cards monthly as you do. There are others who believe one should take a large mortgage and never prepay it and that might work for them. I applaud what you have done and I suggest you not think twice about it nor have any remorse but feel free every day that you owe nobody anything.
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Re: No Mortgage/Debt

Postby hand » Tue Dec 18, 2012 11:04 am

"Tax reasons", specifically the opportunity to maximize contributions to tax deferred / tax free accounts each year are a good reason to use debt in my opinion, though at today's rates I do anticipate some sort of long term investment gain on borrowing as well. For many people annual tax deferred savings opportunities are >= $45k/ yr including 2 401(k)'s, 2 Backdoor Roths, exclusive of pension, HSA & company match - this is not always easy to achieve from cash flow early career and the tax deferred opportunity is lost if not used each year.

As others have noted, keys to using debt safely are 1) keeping an eye on cash flow / debt service requirements and 2) having adequate reserves to keep out of trouble.
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Re: No Mortgage/Debt

Postby Default User BR » Tue Dec 18, 2012 11:53 am

Amazingly, with historically low interest rates, I have never seen the drumbeat of mortgage payoff so loud on this site.

Besides leverage, which pretty good in my view, investors get terrific and cheap hedging against future increases in interest rates and inflation.


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Re: No Mortgage/Debt

Postby Watty » Tue Dec 18, 2012 12:07 pm

From what I have read on the forums (and from talking to coworkers), I see that most people choose not to pay of these debts


If you Google it you will find that about 30% of US homes are owned without a mortgage.

Many, if not most, people that have a paid off house have found that when they are at a party or the office and people start talking about mortgages and interest rate the best thing to do is to nod politely and wait for the topic of conversation to change.

Having a mortgage can add a lot more risk to your portfolio than you might think since in a lot of ways a mortgage is like a negative bond in your asset allocation. For example if you want an asset allocation of 80% stocks and 20% bonds and you have a $500K portfolio then you would have $400K in stocks and $100K in bonds. If you also have a $100K mortgage then in some ways(it is not exact) the mortage offsets the bond and your portfolio is in effect $400K in stocks and zero in bonds so your asset allocation is more like 100% stocks. Looking at it this way people with large mortgages can easily have over a 100% stock asset allocation which is adding a lot of risk.

It would be good to calculate what your home equity is as a percentage of your net worth to see if you have a diversification issue. There is not a magic number but I would be very comfortable af my home equity was less than about a third of my net worth.

There can be some special situations where having a mortgage might make sense for investing purposes but unless you can come up with some compelling numbers then I don't see any reason add the additional risk. Even though it would likely work out well a high percentage of the time there will be some percentage of the time it will cause major problems.
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Re: No Mortgage/Debt

Postby hand » Tue Dec 18, 2012 12:19 pm

Default User BR wrote:Amazingly, with historically low interest rates, I have never seen the drumbeat of mortgage payoff so loud on this site.

Besides leverage, which pretty good in my view, investors get terrific and cheap hedging against future increases in interest rates and inflation.


Brian


To amplify this point, my understanding is that borrowing costs for 30 year fixed rates are loosely based on the 10 year risk-free rate (plus mark-up for risk & costs), because the bank's pricing models assume a 7-10 year duration for the average 30 year mortgage. If you are able to stay in your home for > 10 years and/or hold the loan to term, it seems likely that borrowing costs for years 11 - 30 are mispriced the borrower's favor - from a pure financial standpoint, why wouldn't you take advantage of this mispricing?

My most recent refi locked at 3.25% for a 30 year fixed (with a lower effective rate due to taxes). The thirty year Treasury was yielding 2.93% on the same day ("risk free" rate). For 32 bps, I get all of the good stuff Default User BR mentions and I have the option to pay off the loan whenever I want should the leverage no longer be needed or if deflation strikes.
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Re: No Mortgage/Debt

Postby davidlukewilcox » Tue Dec 18, 2012 1:01 pm

Investing is better than paying off a mortgage by your tax deduction only when you are putting the investment in a tax-preferred account.

Let us assume for simplicity that you have two options: 1) Pay down your mortgage. 2) Buy a share of your mortgage in a brokerage account, so that you are now the creditor. This isn't as crazy as you might think as it is easy to buy GMNAs from Vanguard for very cheap. As well, in this second case, you are rather diversified since you cancel out a negative bond (your mortgage) by buying the same bond on the other end. It is the exact same portfolio, but with a bookkeeping difference.

First, your effective interest rate (the rate you are actually paying on your mortgage) is your interest rate * (1 - tax rate). If I assume your case is a 3.25% mortgage and a 25% tax bracket, after your tax deduction, you are only paying 2.4375%. This is because you get money back from the mortgage interest tax deduction.

Let's assume that you get a pre-tax windfall of $100. After taxes, that will be $75. You can then pay down $75 of your mortgage. On this $75, you are saving 2.4375%. So, in the first year, you are saving $75 * 2.4375% = $1.82. The return on your $100 is actually $1.82, or is 1.82% of the $100 you started with after all taxes are said and done.

Let's say instead that you are investing the money in a taxable account in your own mortgage. After taxes, the portion to invest will be $75. On this, the interest rate you are getting is 3.25%, but after taxes, is much lower at 2.4375%. You get $1.82 per year. So, the effective return of investing the $100 in a taxable account is 1.82% per year, which is the same return you get from investing in the mortgage. There is no gain (or loss, except for risk of the security you are taking on) from investing in a taxable account, except for potential liquidity from selling the securities.

Let's say that instead, you are investing your money in a taxable Roth IRA account. After taxes, the portion to invest will be $75. You will receive an interest rate of 3.25%. The earnings are not taxed, so this is the after-tax interest rate. This means that you get $75*3.25%=$2.4375. On the $100, you are now making 2.4375%, quite a bit more than you get from paying down your mortgage.

If you instead invest your money in a taxable IRA (or 401k) account, you will see similar results to if you invest in a Roth IRA. You invest the whole $100 pre-tax. The effective interest rate after taxes you receive will be 2.4375%. This is the same result as with the Roth IRA.

Lastly, let's say you put your money in an HSA and use it in retirement on some health problem you develop. You get to put the whole $100 into your investment pre-tax. As well, the investment is not taxed when it comes out, nor are the proceeds from investment. This means that the 3.25% interest rate on your mortgage is the real interest rate on the $100 you are investing. This is by far the best scenario, since your return here is more than double what you would get from paying down your mortgage or investing in a taxable account. To get the most from your money, invest in the HSA.
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Re: No Mortgage/Debt

Postby epilnk » Tue Dec 18, 2012 1:17 pm

ronk wrote:From what I have read on the forums (and from talking to coworkers), I see that most people choose not to pay of these debts and instead have the money in liquid cash/invested. Is the idea that you can make more money by investing the reason people don't pay off their debts or is it for tax reasons.

Neither. For us it was financial stability.

In our industry layoffs can happen unexpectedly, job searches are long, and a new job often requires relocation. A house under those conditions is no security - you can't eat your house, and it's not portable. The amount sufficient to pay off principal could have supported the family (including mortgage payment) for several years if necessary, buying time to get back on our feet, move, or downsize. And with mortgage rates low it is cheap insurance.
Last edited by epilnk on Tue Dec 18, 2012 2:11 pm, edited 1 time in total.
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Re: No Mortgage/Debt

Postby 325e » Tue Dec 18, 2012 1:41 pm

It seems to me that a lot of people that are focused on paying off the mortgage or have paid off the mortgage don't substitute investing in the market for paying their house. What they do is spend less. Smaller house, cash for cars, etc. If you want to pay off the mortgage, you can't over-buy your house.

So the real argument for me - is a luxury car, a bigger house, or a fancy vacation a better return than 3%?

I believe that my 401k is the best investment to make so we try to max that out every year. When we made the decision to start paying down the mortgage on top of the 401k, I remember immediately stopping complaining about the small size of our house and now love it's perfect size. I think the temptation to upsize would be there if we didn't mind having lots of debt.

Now, if you are really focused and disciplined, you could have the small house, old car, and take all of that savings and invest. It's just not as exciting or motivating to me. So in my case, it is just a spending deterrent with a small return.
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Re: No Mortgage/Debt

Postby harikaried » Tue Dec 18, 2012 2:41 pm

What would you do if you were looking for a new $40,000 car with 0% 60-month financing assuming you had stable income and savings to pay for the car? If you can get a ~4.5% return on $40k over 5 years, you would end up with $50k. Is that $10k worth the extra work/uneasiness?

What if you no longer have the stable income or have an emergency? Would you rather have the car or investments to work with?

What if the investments go down? Will you have enough to make minimums in the mean time?

A thing to note is that just because 0% 60-month financing is available doesn't mean a more expensive car should be bought.
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Re: No Mortgage/Debt

Postby mptfan » Tue Dec 18, 2012 3:04 pm

STC wrote:If you take a 3% mortgage and assume a 25% marginal tax rate, your effective rate on that mortgage becomes 2.25%.

Not necessarily. This is only true if you itemize deductions, and only if the sum of your itemized deductions, excluding mortgage interest, is greater than your standard deduction. Otherwise, your effective rate is 3%.

viewtopic.php?f=10&t=31456&hilit=+mortgage
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Re: No Mortgage/Debt

Postby rr2 » Tue Dec 18, 2012 3:11 pm

Like a number of others, our focus has been on maximizing our tax advantaged accounts each year. We can contribute $34k to two 401k plans and a further 10k to two Roth IRAs. If instead we were to eliminate our 401k contributions, we would pay extra taxes of 33% on the 401k which comes out roughly to 11k. Thus the money available to pay off the mortgage is only 23k. It does not seem to be a good move to not defer the taxes.
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Re: No Mortgage/Debt

Postby mptfan » Tue Dec 18, 2012 3:17 pm

davidlukewilcox wrote:First, your effective interest rate (the rate you are actually paying on your mortgage) is your interest rate * (1 - tax rate). If I assume your case is a 3.25% mortgage and a 25% tax bracket, after your tax deduction, you are only paying 2.4375%. This is because you get money back from the mortgage interest tax deduction.

This is not necessarily true. It's amazing to me how so many people cite this as a fact, with no qualifications, when it is simply not true for many people, including me. See the link in my previous post.
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Re: No Mortgage/Debt

Postby Jay69 » Tue Dec 18, 2012 3:20 pm

ronk wrote:
The idea of having debt is nerve racking for me.



I would ask, what is it worth to you to be debt free?

btw, I'm in the, I hate debt crowd.
"Out of clutter, find simplicity” Albert Einstein
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Re: No Mortgage/Debt

Postby Default User BR » Tue Dec 18, 2012 3:32 pm

Jay69 wrote:I would ask, what is it worth to you to be debt free?

Zero. That's an emotional response and I try to keep emotion out of finances.


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Re: No Mortgage/Debt

Postby SkierMom » Tue Dec 18, 2012 3:41 pm

Hi Ronk;
My thinking on this may be too simplistic. Personally, I don't get the urge to pay off mortgages early with fixed 30-year rates at 3.5 %. Money is so cheap right now and the future holds a pretty definative chance of inflation. My husband and I, with secure jobs, recently purchased a new home and maxed out the mortgage amount that we qualified for. We put the maximum amounts into our 457's each year, and add $10,000 into our Roth IRAs - I would much rather do that saving than have a lower mortgage principal.

I also agree with the posters that warned of paying off mortgages results in an unbalanced portfolio and net worth entirely skewed towards real estate. Should there be another 40% drop in real estate values, these are the folks that will feel catastrophic effects.

During the depression, many banks "called" mortgages, that is demanded full payment because of the run on money. To my grandparents, there was nothing that gave them more psychological security than burning the mortgage note and owning their home outright. But the laws changed; as long as you make your payments on time the Banks can no longer "call" the note. However to some, that psychological security that comes with being mortgage-free is worth more than any return on investment they may make.

You don't sound like this type, but people who cannot mange their finances well paying off a mortgage with a windfall or savings is likely a very sound financial decision to make.
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Re: No Mortgage/Debt

Postby HardKnocker » Tue Dec 18, 2012 3:54 pm

Being debt free is a great feeling. It's freedom!

No debt (usually) means more cash flow which can be directed into savings.
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Re: No Mortgage/Debt

Postby jsl11 » Tue Dec 18, 2012 3:59 pm

A mortgage is generally a long term situation. As I understand it, the Federal Reserve target for inflation is 2% to 2.5% going forward. If so, the real cost of a 3% mortgage is only .5% to 1%. Furthermore, if/when interest rates return to more normal levels, you should be able to earn 4% to 6% in CD interest, without any investment risk. Clearly, holding a 3% mortgage and 5% CDs at the same time is advantageous. In addition, if inflation should rise higher, the advantage increases, because interest rates will be even higher for your investing opportunities. Back in the early 1980's I was paying on a 6.75% mortgage and earning more than 15% in a money market fund. At that time my bank made me an offer to lend me a lot of money at the bargain rate of only 14% if I would only refinance my mortgage. The going rate was 18%. Needless to say, I did not accept their offer.

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Re: No Mortgage/Debt

Postby Clearly_Irrational » Tue Dec 18, 2012 6:09 pm

Default User BR wrote:Zero. That's an emotional response and I try to keep emotion out of finances.


I don't think that's a completely fair assessment. Paying off your mortgage is a guaranteed return while investing is merely a probability.
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Re: No Mortgage/Debt

Postby umfundi » Tue Dec 18, 2012 7:26 pm

mptfan wrote:
STC wrote:If you take a 3% mortgage and assume a 25% marginal tax rate, your effective rate on that mortgage becomes 2.25%.

Not necessarily. This is only true if you itemize deductions, and only if the sum of your itemized deductions, excluding mortgage interest, is greater than your standard deduction. Otherwise, your effective rate is 3%.

viewtopic.php?f=10&t=31456&hilit=+mortgage


And then only if you do the mental accounting that all of your mortgage interest is excess above your standard deduction. Instead of some other item.

Spending money to get some kind of tax "benefit" is rarely a good idea. (Saving money to get a tax benefit is a great idea.)

Moving expenses are deductible: You should move more often!

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Re: No Mortgage/Debt

Postby ryuns » Tue Dec 18, 2012 7:27 pm

rr2 wrote:Like a number of others, our focus has been on maximizing our tax advantaged accounts each year. We can contribute $34k to two 401k plans and a further 10k to two Roth IRAs. If instead we were to eliminate our 401k contributions, we would pay extra taxes of 33% on the 401k which comes out roughly to 11k. Thus the money available to pay off the mortgage is only 23k. It does not seem to be a good move to not defer the taxes.


Agreed--we're solidly LBYM, but there are still too many things to put money towards before the mortgage (at a mostly deductible 3.5%) seems to us like the best option. IRA, 401k, plus my 403b. On top of that, a bigger emergency fund always seems like a good idea, want to save up for when we replace the car, a couple minor upgrades to the house, next year's vacations, etc. Even then, I'd have to debate myself for a while to see how aggressively I'd really want to pay off my mortgage given the low rates, but it's not something I really have to figure out anyway.
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Re: No Mortgage/Debt

Postby NYBoglehead » Tue Dec 18, 2012 7:35 pm

The bottom line is, it is never a bad thing to not have any debt.

With absolutely zero debt, in your 40s, you will be able to put any money that would have gone to a mortgage payment into retirement savings or use it to fund the lifestyle of your choosing.

Leverage/tax/investment/whatever else aside, you are completely debt free and there is absolutely nothing wrong with that.
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Re: No Mortgage/Debt

Postby downshiftme » Tue Dec 18, 2012 7:52 pm

My job is not particularly "safe" and there have been considerable upheavals in both my personal employment and my industry in the last ten years. I don't expect it to be "safe" in the foreseeable future.

In theory, if I took out a maximum mortgage on my house, I could invest those funds and I will probably do better investing than what the mortgage will cost, especially with today's very low rates. But it also means that my regular monthly required expenses are significantly higher to service that debt. Maybe this could all work out in my favor, in fact it probably would. But I find considerable value in the possibility that my required monthly expenses can be very very low with no house payment and I have the ability to ride out dislocations in employment, investments, housing markets and many unexpected and possibly correlated scenarios because I do not have to make debt payments on a regular basis. The extra liquidity of money I could borrow might be helpful, but it isn't worth it to me to risk getting caught out owing it if adverse events could work against such a scheme. I believe that I reduce my risk, but still achieve my goals, by not taking on that leverage.

Years ago, when I had accumulated less liquid savings, I did take some large loans and invested the money. At that time, the added liquidity gave me options and security I wouldn't have otherwise. At some risk, of course, but I didn't suffer from it. Now that I have built up my retirement savings to a useful level, I no longer believe I need the extra liquidity, and would prefer the option of having a lower monthly expense rate.

Each individual may have different reasons to prefer to take or not take the low-cost loan. In my case, the reasons changed over time and my desire to pay off or not pay off the mortgage changed with them.
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Re: No Mortgage/Debt

Postby DiscoBunny1979 » Tue Dec 18, 2012 8:03 pm

In my particular situation, having some debt is a good thing. For instance in CA, the Homestead exemption only exempts 100,000 from lawsuits. Therefore, anything above that in equity can be determined to be available assets. But another reason for having a loan is that while one is still relatively young, maintaining a credit history with a payment schedule over time improves your credit. This might not be important for folks with a big stash of cash, but for the average person, the ability for me, lets say, to go to Lowes like I had to over the weekend and be able to increase my credit limit to cover the purchase of a new washer and dryer was a piece of cake. If I didn't have a credit history by making payments on something, I doubt I would have gotten a credit limit increase. The increase in credit enabled me to take advantage of an additional 5% off my purchase price by placing the order on the store card. No other card would have given that 5% additional discount.

I have enough $$ in the bank to pay off my mortgage. Even though it's at 5.5%, I think the extra $400 a month payments being made makes up for any benefit of refinancing to a lower rate - as the note will be paid off in about 2 1/2 years from now. But the loan like I said earlier, allows me to maintain some history of being a good credit risk, so if I need financing for something in the future, like buying another house, or getting a HELOC to repair the roof, or anything, I won't have to be wondering about why I've been denied.

The reason I believe having credit is a good thing is because you don't want to end up like my Mom. All the 'credit' of VISA cards or the mortgage was in my Dad's name. Now at age 76, she's wondering how to 'apply' for her first VISA card. I honestly doubt any bank will give her the type of credit limit she'd like without having any personal credit history or being 'retired' for about 10 years now. You can take your chances and live outside the credit world, but for me, I'll play the game and live with some just so I have a history of still being active in the world. You can't leverage off of IRA accounts, only liquid savings. And most would rather have their 'retirement funds' in an IRA/ROTH shielded from the tax man anyway.
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Re: No Mortgage/Debt

Postby Default User BR » Tue Dec 18, 2012 8:20 pm

Clearly_Irrational wrote:
Default User BR wrote:Zero. That's an emotional response and I try to keep emotion out of finances.

I don't think that's a completely fair assessment. Paying off your mortgage is a guaranteed return while investing is merely a probability.

The question was, "what is it worth to be debt-free?", not "what is the return on paying down the mortgage?"


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Re: No Mortgage/Debt

Postby umfundi » Tue Dec 18, 2012 8:30 pm

As this thread transitions to high earth orbit, I might note that the OP has made but one post in total.

Whose, or which, question are we answering?

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Re: No Mortgage/Debt

Postby zebrafish » Tue Dec 18, 2012 9:25 pm

Default User BR wrote:
Clearly_Irrational wrote:
Default User BR wrote:Zero. That's an emotional response and I try to keep emotion out of finances.

I don't think that's a completely fair assessment. Paying off your mortgage is a guaranteed return while investing is merely a probability.

The question was, "what is it worth to be debt-free?", not "what is the return on paying down the mortgage?"


I think he did answer both questions.

I find that many investors w/o "emotion" also have reduced ability to measure risk, and debt is risk.

So, personally, I'm maxing out my 401k-equivalents but taking all my extra income and paying down my mortgage. I will be completely debt-free in about 3 years.
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Re: No Mortgage/Debt

Postby jsl11 » Tue Dec 18, 2012 9:40 pm

zebrafish wrote: and debt is risk.

If you have the cash to pay off the debt any time you wish, there is not much risk involved.
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Re: No Mortgage/Debt

Postby rr2 » Tue Dec 18, 2012 11:45 pm

What I am curious is about those who pay off their mortgage instead of maxing out tax advantaged accounts? To me it seems that once you lose the tax advantaged space, it is gone for good.
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Re: No Mortgage/Debt

Postby CloveLeaf » Wed Dec 19, 2012 1:36 am

Boglenaut wrote:
STC wrote: If you take a 3% mortgage and assume a 25% marginal tax rate, your effective rate on that mortgage becomes 2.25%. This is the rate of return for paying down the mortgage early.


Not quite. As you said, it gets complicated.

To get the deduction, you must itemize. So you lose the standard deductions. You also have various fees associated with getting the mortgage.

And if you do take out the mortgage and invest the money elsewhere, you need to pay tax on gains there.


For people hit by AMT, the mortgage interest rate should definitely be computed that way. They don't get standard deduction.
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Re: No Mortgage/Debt

Postby SimonJester » Wed Dec 19, 2012 1:56 am

rr2 wrote:What I am curious is about those who pay off their mortgage instead of maxing out tax advantaged accounts? To me it seems that once you lose the tax advantaged space, it is gone for good.


Why does it have to be an either or situation, why not do both.... Or even a little of both...
"They who can give up essential liberty to obtain a little temporary safety, deserve neither liberty nor safety." - Benjamin Franklin
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Re: No Mortgage/Debt

Postby umfundi » Wed Dec 19, 2012 2:26 am

rr2 wrote:What I am curious is about those who pay off their mortgage instead of maxing out tax advantaged accounts? To me it seems that once you lose the tax advantaged space, it is gone for good.


The OP said:
I see that most people choose not to pay of these debts and instead have the money in liquid cash/invested. Is the idea that you can make more money by investing the reason people don't pay off their debts or is it for tax reasons.

Balance.

Most people have some element of paying off debt, and of saving in tax advantaged accounts for retirement. In my opinion, after you have a few months cash equivalent for an emergency fund:

1. Debt other than a mortgage and student loans is not acceptable, and should be paid off before everything else with the highest priority. Car loans are evil. A car is simply a transportation expense, and you should minimize monthly cash flow for that.
2. Student loans should be paid off asap.
3. If you have a mortgage, it should be scheduled so it is paid off by your late 50s, before you retire. The value of your house is preferably 2x your annual income, not more than 5x.
4. Fund anything you can towards a Defined Benefit pension. Rare, these days.
5. Fund a 401(k) plan at least to the extent you get the employer match. Free money.
6. Fund these IRAs to the max you can: Roth first, if not then traditional deductible, in that order.
7. Fund the rest of your 401(k) to the extent that contributions are not taxable.
8. Fund kids' 529s at least $200 and up to $300 every month of their lives through high school.
9. If not 6, then fund a non-deductible IRA to the max allowed.
10. Last, max out your 401(k) contribution, even if with after-tax contributions.

If you do not have a long-term job with a predictable, stable, income, take 1, 2, 3 off the table asap.

Remember, the biggest determinant of success in saving for retirement is your savings rate.

Keith
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Re: No Mortgage/Debt

Postby Jay69 » Wed Dec 19, 2012 12:53 pm

Default User BR wrote:
Jay69 wrote:I would ask, what is it worth to you to be debt free?

Zero. That's an emotional response and I try to keep emotion out of finances.


Brian



Not sure I agree with that, if this was the case everyone would have same fixed AA.

You took my comment out of context as clearly the OP did state “The idea of having debt is nerve racking for me.” As I quoted in my original post.

I think it’s a fair statement to say that the OP does have some emotions tied to investing, the question the OP should be asking is what is it worth to not be feeling “nerve racking”.

I would be more than happy to give up 1% to happy rather than feeling “nerve racking”, but thats just me.

I do however agree that leaving emotions out of investing is the most correct thing to do if possible.
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Re: No Mortgage/Debt

Postby JupiterJones » Wed Dec 19, 2012 1:17 pm

Default User BR wrote:
Jay69 wrote:I would ask, what is it worth to you to be debt free?

Zero. That's an emotional response and I try to keep emotion out of finances.


Not possible. All financial decisions are based on assessment of value, and "value" is largely an emotional response.

If you kept emotion completely out of finance, you'd live in the smallest house capable of keeping you warm and dry and sanitary. It would be undecorated.

There probably wouldn't be any TV, radio, or books--and if there were, they would only be there to the extent that they imparted useful learning that would help you provide things necessary for your survival.

You wouldn't have kids unless you work on a farm and need the free labor. Otherwise, you could only derive emotion-based value from them.

If you don't value being debt free (or rather, assign a low value to it--I doubt that it's actually zero), that's simply because you derive value differently. It no more means you're keeping emotion out of finance than you not valuing ballet tickets or rutabagas.

JJ
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Re: No Mortgage/Debt

Postby DVMResident » Wed Dec 19, 2012 1:32 pm

Read this: http://financialmentor.com/financial-advice/pay-off-mortgage-early-or-invest/7478

Paying off the mortgage early is almost always a "good choice", with these exceptions:
(1) you're not maxing your matching 401k contributions first-you can't beat an instant 50-100% return
(2) there is unexceptionally high inflation (70's-80's style)

Paying off the mortgage early can be the "best choice", but almost always a "good choice" and therefore is the safer of the two options. It's highly dependent on individual factors, including marginal tax rates, tax-advantage account options, mortgage rates, emergency funds, job security, remaining years to retirement, life factors and personality, how long you plan to live in the house, etc.
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Re: No Mortgage/Debt

Postby rr2 » Wed Dec 19, 2012 2:12 pm



From the blog post that you mentioned:
Maximize Tax Deferral: Even if your company doesn’t offer a 401(k) plan it may make sense to maximize tax deferred and tax free retirement savings before paying off your mortgage. Granted, tax issues are complex and vary based on individual circumstances so it’s impossible to make a blanket statement, but every tax deferred savings opportunity you don’t use is lost forever and can never be recovered because annual limitations apply. In other words, use it now or lose it forever. The investment math often tilts in favor of maximizing every tax deferred investing opportunity available… before paying off the mortgage.

This is what I do. My 401k deferrals would be taxed at my marginal rate which is about 33% including state and federal. In retirement my withdrawals would likely be taxed at an average rate of about 13%. This implies a net saving of about 20% of 34k (two 401k plans) which is about 7k. This is the price I would have to pay per year if I were to decide to pay off the mortgage before maxing out the 401k.

PS: I do not get any matching contributions from my employer. Instead my employer makes a defined contribution to a retirement plan which is independent of how much I put in. This is tax deferred as well.
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Re: No Mortgage/Debt

Postby Default User BR » Wed Dec 19, 2012 2:42 pm

JupiterJones wrote:
Default User BR wrote:Zero. That's an emotional response and I try to keep emotion out of finances.


Not possible. All financial decisions are based on assessment of value, and "value" is largely an emotional response.

As I said, I try. Luckily I have virtually no emotional response to mortgage debt. If anything, I enjoy it a bit.


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Re: No Mortgage/Debt

Postby mptfan » Wed Dec 19, 2012 2:48 pm

rr2 wrote:From the blog post that you mentioned:
Maximize Tax Deferral: Even if your company doesn’t offer a 401(k) plan it may make sense to maximize tax deferred and tax free retirement savings before paying off your mortgage. Granted, tax issues are complex and vary based on individual circumstances so it’s impossible to make a blanket statement, but every tax deferred savings opportunity you don’t use is lost forever and can never be recovered because annual limitations apply. In other words, use it now or lose it forever. The investment math often tilts in favor of maximizing every tax deferred investing opportunity available… before paying off the mortgage.

This is what I do. My 401k deferrals would be taxed at my marginal rate which is about 33% including state and federal. In retirement my withdrawals would likely be taxed at an average rate of about 13%. This implies a net saving of about 20% of 34k (two 401k plans) which is about 7k. This is the price I would have to pay per year if I were to decide to pay off the mortgage before maxing out the 401k.

I agree with this. :thumbsup

I think it is a mistake to pay off a mortgage early, especially at these low interest rates, if you haven't maxed out your pretax retirement accounts.
I eat risk for breakfast. :)
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Re: No Mortgage/Debt

Postby MathWizard » Wed Dec 19, 2012 2:59 pm

One word: cashflow.

I can max out my ROTH or pay down the mortgage, but I can't do both.
The ROTH space is limited each year, hence valuable.
The ROTH contributions could alwasy be extracted in case some major
disaster hits.

I could forego the ROTH for 4 years and pay off the mortgage, but then for the
next 4 years , I'd have freed up now twice the ROTH maximum (since I'd

Consider the options: (Ignore the interest for ease of discussion)
1) Don't pay off mortgage early
1A) Pay 12K on mortgage per year for 8 years
1B) Pay 12K for 2 IRAs (husband/wife over 50) for 8 years

2) Pay of mortgage early:
2A) Pay 24K per year on mortgage for 4 years, 0 for next 4 years
2B) Pay 0 into ROTH for 4 years, pay 12K into ROTH for 4 years (12K left each year must go into taxable)
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Re: No Mortgage/Debt

Postby umfundi » Wed Dec 19, 2012 3:01 pm

mptfan wrote:I agree with this. :thumbsup

I think it is a mistake to pay off a mortgage early, especially at these low interest rates, if you haven't maxed out your pretax retirement accounts.

I do not disagree, but: "early" is a subjective term.

Would you increase your mortgage to max. out your pretax retirement accounts?

Keith
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Re: No Mortgage/Debt

Postby reggiesimpson » Wed Dec 19, 2012 3:08 pm

Having no debts...........priceless.
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Re: No Mortgage/Debt

Postby rr2 » Wed Dec 19, 2012 3:09 pm

MathWizard wrote:One word: cashflow.

I can max out my ROTH or pay down the mortgage, but I can't do both.
The ROTH space is limited each year, hence valuable.
The ROTH contributions could alwasy be extracted in case some major
disaster hits.

I could forego the ROTH for 4 years and pay off the mortgage, but then for the
next 4 years , I'd have freed up now twice the ROTH maximum (since I'd

Consider the options: (Ignore the interest for ease of discussion)
1) Don't pay off mortgage early
1A) Pay 12K on mortgage per year for 8 years
1B) Pay 12K for 2 IRAs (husband/wife over 50) for 8 years

2) Pay of mortgage early:
2A) Pay 24K per year on mortgage for 4 years, 0 for next 4 years
2B) Pay 0 into ROTH for 4 years, pay 12K into ROTH for 4 years (12K left each year must go into taxable)

Exactly. Do the calculation for a TIRA and you will come out significantly better if in retirement you will be in a considerably lower tax bracket.
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Re: No Mortgage/Debt

Postby rr2 » Wed Dec 19, 2012 3:12 pm

reggiesimpson wrote:Having no debts...........priceless.

It isn't priceless. See my calculations above if you have access to considerable tax deferred space that you are forgoing by prepaying the mortgage.
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Re: No Mortgage/Debt

Postby mptfan » Wed Dec 19, 2012 5:59 pm

umfundi wrote:Would you increase your mortgage to max. out your pretax retirement accounts?

Keith

Yes, especially at these historic low rates. But if I had to do that, my mortgage is probably too big to begin with.
I eat risk for breakfast. :)
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Re: No Mortgage/Debt

Postby scrabbler1 » Wed Dec 19, 2012 6:17 pm

Intresting how the standard versus itmized deuction has arisen so often here. For me, the tipping point toward paying off my mortgage back in 1998 was being able to take the standard deduction on just my state income tax return, while still itemizing on my federal return. Switching to the SD on my state income tax return reduced the difference between the effective after-tax interest rate and the pretax one.

Paying off my mortgage back then helped cause my savings rate to soar in the next 3 years while greatly lowering my expenses, enabling me to switch to working part-time and eventually retire early in 2008.
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Re: No Mortgage/Debt

Postby sscritic » Wed Dec 19, 2012 6:35 pm

I guess I am missing something on a basic level. If you don't believe in mortgage debt, pay cash for your house. Paying off a mortgage you took out is a cop out; obviously you liked mortgage debt or you wouldn't have had a mortgage in the first place.

I recently bought a house; I didn't pay cash, I took out a mortgage. Why would I then turn around six months later and sell $200k of stocks to pay it off? I didn't want to pay cash; I wanted to keep the $200k invested. It's really simple. Do or don't, but don't do and then turn around and say you didn't really want to.
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