Do I pay towards my mortgage or invest?

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mech_tower
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Do I pay towards my mortgage or invest?

Post by mech_tower » Thu May 17, 2018 12:45 pm

Hi everyone,

I got a good tax refund this year - a little over $10k. I have a mortgage of $480k @ 3.875% (30 yr fixed).

I am thinking about putting this 10k towards the mortgage, and from my calculations, I save about 20k in interest over 30 years.

Other options are - build a deck, take care of some other issue wife wants in the house (not high priority, but nice to have).

Another option is to invest the 10k for hopefully higher returns - higher than 20k I get in 30 years from paying mortgage.

Looking for suggestions on how to best utilize the 10k. If investing, where would you suggest I invest in - I already have brokerage and IRA accounts in Vanguard.

Thank you very much. :happy

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9-5 Suited
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Re: Do I pay towards my mortgage or invest?

Post by 9-5 Suited » Thu May 17, 2018 1:03 pm

mech_tower wrote:
Thu May 17, 2018 12:45 pm
Hi everyone,

I got a good tax refund this year - a little over $10k. I have a mortgage of $480k @ 3.875% (30 yr fixed).
Here's one way you may have already (accidentally) answered this question for yourself. At any point since you get your mortgage, you likely had the option to borrow $10K against it on a HELOC to invest in the market or buy a new deck. Since you did not do that, why not?

This is reversing the question: if you had a $470K mortgage instead of $480K, would you borrow the additional $10K to increase your debt and do X? If not, the answer is easy. You pay down the mortgage. It is 100% irrational cognitive dissonance not to do so.

The only allowable exception is if you otherwise don't have a sufficient amount of liquid cash around to meet your emergency needs.

strafe
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Re: Do I pay towards my mortgage or invest?

Post by strafe » Thu May 17, 2018 1:27 pm

9-5 Suited wrote:
Thu May 17, 2018 1:03 pm
mech_tower wrote:
Thu May 17, 2018 12:45 pm
Hi everyone,

I got a good tax refund this year - a little over $10k. I have a mortgage of $480k @ 3.875% (30 yr fixed).
Here's one way you may have already (accidentally) answered this question for yourself. At any point since you get your mortgage, you likely had the option to borrow $10K against it on a HELOC to invest in the market or buy a new deck. Since you did not do that, why not?

This is reversing the question: if you had a $470K mortgage instead of $480K, would you borrow the additional $10K to increase your debt and do X? If not, the answer is easy. You pay down the mortgage. It is 100% irrational cognitive dissonance not to do so.

The only allowable exception is if you otherwise don't have a sufficient amount of liquid cash around to meet your emergency needs.
The "reversal" scenario comes up in most threads on this topic. It has some merit as a rhetorical tool intended to persuade people that they should prioritize paying off debt.

But I disagree that it's "100% irrational cognitive dissonance" not to pay off a debt that you wouldn't choose to obtain afresh in some counterfactual world.

Beyond all the behavioral considerations, there's the issue of hysteresis. Taking on new debt involves all sorts of frictional costs. These costs simply do not apply to paying off a debt. Anyone who has ever applied for a HELOC, a mortgage or even a credit card understands this.

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goingup
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Re: Do I pay towards my mortgage or invest?

Post by goingup » Thu May 17, 2018 1:31 pm

Unless you want to prepay your mortgage (meaning you have a strong inclination and a strategy), I'd skip that option.

Are you on track with your savings goals? If so, then build the deck.

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9-5 Suited
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Re: Do I pay towards my mortgage or invest?

Post by 9-5 Suited » Thu May 17, 2018 1:34 pm

strafe wrote:
Thu May 17, 2018 1:27 pm
Anyone who has ever applied for a HELOC, a mortgage or even a credit card understands this.
A lot of people lean on this to justify not paying down debt because it doesn't feel as good as leveraging into stocks. But the transaction costs to take out a $10K loan are simply not that high. Of course there are slight differences in interest rate and such that make it not entirely exact, but it's a good way for 99% of people to get out of the Endowment Effect that occurs when the $10K is already in cash. The decision isn't THAT different.

I'll agree with you though that the 100% irrational statement applies only to the hypothetical world that removes all differences in transaction costs and interest rates. That was an overstatement, but not a dramatic one in this case.
Last edited by 9-5 Suited on Thu May 17, 2018 1:40 pm, edited 1 time in total.

strafe
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Re: Do I pay towards my mortgage or invest?

Post by strafe » Thu May 17, 2018 1:35 pm

mech_tower wrote:
Thu May 17, 2018 12:45 pm
Hi everyone,

I got a good tax refund this year - a little over $10k. I have a mortgage of $480k @ 3.875% (30 yr fixed).

I am thinking about putting this 10k towards the mortgage, and from my calculations, I save about 20k in interest over 30 years.

Other options are - build a deck, take care of some other issue wife wants in the house (not high priority, but nice to have).

Another option is to invest the 10k for hopefully higher returns - higher than 20k I get in 30 years from paying mortgage.

Looking for suggestions on how to best utilize the 10k. If investing, where would you suggest I invest in - I already have brokerage and IRA accounts in Vanguard.

Thank you very much. :happy
We can't really help you decide whether to save or spend it. But since you asked, I'd say doing what your wife wants should be a high priority.

If you decide to save it, whether you use it to reduce a liability (pay off the mortgage) or invest depends on your tolerance for risk and your needs for accessible savings. You won't realize the benefit of paying down the mortgage until you either sell the house or make your final payment. I prefer liquidity and would invest it. It's human nature to struggle with decisions of little consequence. The choices are similar enough that in the end it doesn't really matter what you do.

delamer
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Re: Do I pay towards my mortgage or invest?

Post by delamer » Thu May 17, 2018 1:36 pm

I am assuming that you don’t get to make this decision unilaterally; that is, that your wife gets a vote?

You can always split the $10,000 among multiple objectives. Some to the mortgage, some to investing, some to house projects, for example.

strafe
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Re: Do I pay towards my mortgage or invest?

Post by strafe » Thu May 17, 2018 1:45 pm

9-5 Suited wrote:
Thu May 17, 2018 1:34 pm
strafe wrote:
Thu May 17, 2018 1:27 pm
Anyone who has ever applied for a HELOC, a mortgage or even a credit card understands this.
A lot of people lean on this to justify not paying down debt because it doesn't feel as good as leveraging into stocks. But the transaction costs to take out a $10K loan are simply not that high. Of course there are slight differences in interest rate and such that make it not entirely exact, but it's a good way for 99% of people to get out of the Endowment Effect that occurs when the $10K is already in cash. The decision isn't THAT different.
I still disagree. The frictional costs are not strictly monetary. it's primarily time & hassle. For example, last time I took out a mortgage I spent more than 10hrs gathering documents, preparing P&L statements for a tiny side business, signing paperwork. I had a similar experience refinancing a student loan. Unless your time isn't worth much, the opportunity costs are very real.

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9-5 Suited
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Re: Do I pay towards my mortgage or invest?

Post by 9-5 Suited » Thu May 17, 2018 1:51 pm

strafe wrote:
Thu May 17, 2018 1:45 pm
I still disagree. The frictional costs are not strictly monetary. it's primarily time & hassle. For example, last time I took out a mortgage I spent more than 10hrs gathering documents, preparing P&L statements for a tiny side business, signing paperwork. I had a similar experience refinancing a student loan. Unless your time isn't worth much, the opportunity costs are very real.
Speaking of opportunity cost, perhaps the point of agreement would be in recognizing that if OP chooses to use this money to build a deck, he is in effect financing the deck? Would you agree with that? The 10K could go to paying down debt, so all the interest he is paying (and not saving) is the shadow financing of that deck building project.

On the value of one's time and the difficulty of obtaining a loan, I think that's an agree to disagree. But your point is a good one to add additional context to the thread for the OP. I'm pretty dead set on this one :sharebeer

delamer
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Re: Do I pay towards my mortgage or invest?

Post by delamer » Thu May 17, 2018 2:06 pm

9-5 Suited wrote:
Thu May 17, 2018 1:51 pm
strafe wrote:
Thu May 17, 2018 1:45 pm
I still disagree. The frictional costs are not strictly monetary. it's primarily time & hassle. For example, last time I took out a mortgage I spent more than 10hrs gathering documents, preparing P&L statements for a tiny side business, signing paperwork. I had a similar experience refinancing a student loan. Unless your time isn't worth much, the opportunity costs are very real.
Speaking of opportunity cost, perhaps the point of agreement would be in recognizing that if OP chooses to use this money to build a deck, he is in effect financing the deck? Would you agree with that? The 10K could go to paying down debt, so all the interest he is paying (and not saving) is the shadow financing of that deck building project.

On the value of one's time and the difficulty of obtaining a loan, I think that's an agree to disagree. But your point is a good one to add additional context to the thread for the OP. I'm pretty dead set on this one :sharebeer
Financing the deck? Taken to the extreme, that means every non-necessity purchase is being “financed” if you have debt. Because you could be using the money to pay off the debt.

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9-5 Suited
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Re: Do I pay towards my mortgage or invest?

Post by 9-5 Suited » Thu May 17, 2018 2:29 pm

delamer wrote:
Thu May 17, 2018 2:06 pm
9-5 Suited wrote:
Thu May 17, 2018 1:51 pm
strafe wrote:
Thu May 17, 2018 1:45 pm
I still disagree. The frictional costs are not strictly monetary. it's primarily time & hassle. For example, last time I took out a mortgage I spent more than 10hrs gathering documents, preparing P&L statements for a tiny side business, signing paperwork. I had a similar experience refinancing a student loan. Unless your time isn't worth much, the opportunity costs are very real.
Speaking of opportunity cost, perhaps the point of agreement would be in recognizing that if OP chooses to use this money to build a deck, he is in effect financing the deck? Would you agree with that? The 10K could go to paying down debt, so all the interest he is paying (and not saving) is the shadow financing of that deck building project.

On the value of one's time and the difficulty of obtaining a loan, I think that's an agree to disagree. But your point is a good one to add additional context to the thread for the OP. I'm pretty dead set on this one :sharebeer
Financing the deck? Taken to the extreme, that means every non-necessity purchase is being “financed” if you have debt. Because you could be using the money to pay off the debt.
That’s a mathematical fact. Whether one chooses to acknowledge that or whether one is ok with it for their life goals is another story. Financing purchases is a perfectly acceptable thing to do. But it isn’t really in dispute unless you don’t believe in opportunity cost.
Last edited by 9-5 Suited on Thu May 17, 2018 2:31 pm, edited 1 time in total.

Jags4186
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Re: Do I pay towards my mortgage or invest?

Post by Jags4186 » Thu May 17, 2018 2:29 pm

OP,

I would be in no rush to pay down a 3.875% fixed loan. You may soon be able to purchase intermediate duration CDs paying more than 3.875%.

Look at your overall financial situation:

1) Do you have adequate cash reserves/emergency fund?
2) Are you fully funding your 401k/403b/457/IRA/Roth IRAs?
3) Are you hitting your savings goals?

If the answer to all 3 of those is yes, then go ahead and spend the money on the deck. If not, use the $10k achieve the above in that order. Also, consider increasing your W4 allowances so you don’t get $10k refunds.

delamer
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Re: Do I pay towards my mortgage or invest?

Post by delamer » Thu May 17, 2018 2:51 pm

9-5 Suited wrote:
Thu May 17, 2018 2:29 pm
delamer wrote:
Thu May 17, 2018 2:06 pm
9-5 Suited wrote:
Thu May 17, 2018 1:51 pm
strafe wrote:
Thu May 17, 2018 1:45 pm
I still disagree. The frictional costs are not strictly monetary. it's primarily time & hassle. For example, last time I took out a mortgage I spent more than 10hrs gathering documents, preparing P&L statements for a tiny side business, signing paperwork. I had a similar experience refinancing a student loan. Unless your time isn't worth much, the opportunity costs are very real.
Speaking of opportunity cost, perhaps the point of agreement would be in recognizing that if OP chooses to use this money to build a deck, he is in effect financing the deck? Would you agree with that? The 10K could go to paying down debt, so all the interest he is paying (and not saving) is the shadow financing of that deck building project.

On the value of one's time and the difficulty of obtaining a loan, I think that's an agree to disagree. But your point is a good one to add additional context to the thread for the OP. I'm pretty dead set on this one :sharebeer
Financing the deck? Taken to the extreme, that means every non-necessity purchase is being “financed” if you have debt. Because you could be using the money to pay off the debt.
That’s a mathematical fact. Whether one chooses to acknowledge that or whether one is ok with it for their life goals is another story. Financing purchases is a perfectly acceptable thing to do. But it isn’t really in dispute unless you don’t believe in opportunity cost.

I don’t disagree. But the poster who made the comment implied that somehow the situation with the deck specifically meant it was being financed if the refund was used for that purpose. My point was that that woukd be true with lots of purchases, not just the deck.

MDCrab
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Re: Do I pay towards my mortgage or invest?

Post by MDCrab » Thu May 17, 2018 3:10 pm

I like diversification. And since I already have a decent amount of equity in my home, I'd put the money in the market. 3.875 isn't a bad rate and I could probably beat that in equity returns over time.

The other option is to put money into the home through renovations. A deck in nice, but you get more "bang for your buck" with a kitchen or bathroom renovation. Then you'd get enjoyment and increased equity in your home. You can't go wrong, though. A deck would definitely add value to the house.

Nutmeg
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Re: Do I pay towards my mortgage or invest?

Post by Nutmeg » Thu May 17, 2018 3:12 pm

Jags4186 wrote:
Thu May 17, 2018 2:29 pm
OP,

I would be in no rush to pay down a 3.875% fixed loan. You may soon be able to purchase intermediate duration CDs paying more than 3.875%.

Look at your overall financial situation:

1) Do you have adequate cash reserves/emergency fund?
2) Are you fully funding your 401k/403b/457/IRA/Roth IRAs?
3) Are you hitting your savings goals?

If the answer to all 3 of those is yes, then go ahead and spend the money on the deck. If not, use the $10k achieve the above in that order. Also, consider increasing your W4 allowances so you don’t get $10k refunds.
These are the questions i would have recommended if another poster hadn’t beat me to it! I agree that one should monitor W4 allowance amounts, but should add that you should estimate your 2018 taxes under the new tax laws before making any changes. We had a large refund this year, but it resulted from one-time actions such as prepaying real property taxes and contributing to a DAF, so I don’t expect a large refund next year.

We put our tax refund in a Vanguard money market fund for now. There is nothing in particular I would like to spend the money on, and we already have a deck!

I disagree with the idea that you must consider whether you would take out a loan to finance a deck or your wife’s project in order to make this decision. I don’t borrow for anything but a house or, in the distant past, education, so if I followed that theory, I would never buy anything!

If the answer to each of the three questions listed above is yes, I suggest you strongly consider your wife’s project or a deck. Questions I would ask myself would be: Would both add to the resale value of your house? Which would she prefer? Which would benefit most family members?

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flamesabers
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Re: Do I pay towards my mortgage or invest?

Post by flamesabers » Thu May 17, 2018 3:38 pm

I think the best way to utilize the money really depends on what your highest priorities are.

What is most important to you?

-Being debt-free?
-Maximizing the earnings potential of your money?
-Having a nicer house?

Being free of debt is very important to me, so I would put the $10k towards the mortgage. I prefer the guarantee of paying less interest on the mortgage over the uncertainty of the stock market. Plus, the savings in interest costs from the mortgage won't be taxed while your returns from investing might be.

I think the rationale for the other two options are valid. The stock market will probably beat the interest rate in future years. Building a deck makes sense if it's very important to you and your wife as there is more to life then just money.

Nate79
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Re: Do I pay towards my mortgage or invest?

Post by Nate79 » Thu May 17, 2018 3:59 pm

The age old invest vs pay off debt certainly brings out the opinions in the topic that is almost brought up daily on BH. Which was the right choice in the end can't be known until after the fact. From a balance sheet perspective any outstanding debt can be looked at as taking out debt to invest.

Will a guaranteed 3.875% tax free return beat the market? Who knows but it certainly could. Especially considering the low market returns being forecasted by many experts. Even worse it is certainly possible that the market may return nothing over the next 10-15 years, especially if we have major market downturn.

As long as you know the positives and negatives make your choice and go with it. Maybe split the difference. That's what we do.

Jags4186
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Re: Do I pay towards my mortgage or invest?

Post by Jags4186 » Thu May 17, 2018 4:36 pm

I don’t think we’re in a payoff or invest conundrum. Unless there is a another meltdown interest are going to continue to rise and you soon be able to buy CDs paying more than 3.875%. If and when that is the case it will never make sense to accelerate payments.

indexonlyplease
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Re: Do I pay towards my mortgage or invest?

Post by indexonlyplease » Thu May 17, 2018 4:44 pm

Do you have other debt. If you do pay it off.

Do you have a plan to pay off the mortgage early. Like a 30 yr loan paid in 15 years. If not 10 grand will not do much and you will most likely move and get a whole new 30 year mortgage.

What is your age. Do you plan to have a mortgage paid off before you retire (smart move).


I believe in paying off the mortgage as soon as possible along the way while still investing. Nothing like having your house paid for. What a stress relief especially if changes occur in life like loss of job, less paying job, wife stays home to take care of kids ect.

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ruralavalon
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Re: Do I pay towards my mortgage or invest?

Post by ruralavalon » Thu May 17, 2018 5:05 pm

mech_tower wrote:
Thu May 17, 2018 12:45 pm
Hi everyone,

I got a good tax refund this year - a little over $10k. I have a mortgage of $480k @ 3.875% (30 yr fixed).

I am thinking about putting this 10k towards the mortgage, and from my calculations, I save about 20k in interest over 30 years.

Other options are - build a deck, take care of some other issue wife wants in the house (not high priority, but nice to have).

Another option is to invest the 10k for hopefully higher returns - higher than 20k I get in 30 years from paying mortgage.

Looking for suggestions on how to best utilize the 10k. If investing, where would you suggest I invest in - I already have brokerage and IRA accounts in Vanguard.

Thank you very much. :happy
The deductible 3.875% mortgage note does not cry out for an accelerated payoff, and $10k will not make much of dent in the $480k balance. You are 37, about 30 years to retirement age, and a low interest long-term fixed rate mortgage hedges against inflation. So I do not suggest putting the $10k on the mortgage note. I say this although being debt free is important to me.

If you are still making the maximum contributions to your tax-advantaged accounts, then my suggestion is to use the $10k for the home improvements. (This is really a matter of personal lifestyle preference, rather than an issue of investing strategy.)

If you invest the $10k, then contribute to your taxable account and buy very tax-efficient stock index funds. Examples include Vanguard Total Stock Market Index Fund Admiral Shares (VTSAX) ER 0.04% or Vanguard Total International Stock Index Fund Admiral Shares (VTIAX) ER 0.11%. Given your federal tax bracket of 28%, and New Jersey residence, you could also consider Vanguard NJ Long-term Tax-Exempt Admiral Shares (VNJUX) ER 0.09%.
Last edited by ruralavalon on Thu May 17, 2018 5:26 pm, edited 1 time in total.
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mortfree
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Re: Do I pay towards my mortgage or invest?

Post by mortfree » Thu May 17, 2018 5:25 pm

Jags4186 wrote:
Thu May 17, 2018 4:36 pm
I don’t think we’re in a payoff or invest conundrum. Unless there is a another meltdown interest are going to continue to rise and you soon be able to buy CDs paying more than 3.875%. If and when that is the case it will never make sense to accelerate payments.
what else does your crystal ball say?

sorry, lots of people get ripped for saying a stock crash is coming so how is this claim different?

i'm being serious... the second sentence; not the first.

harvestbook
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Re: Do I pay towards my mortgage or invest?

Post by harvestbook » Thu May 17, 2018 7:45 pm

My wife had a goal of kitchen reno with granite counter tops when we met a specific savings goal (half of our projected retirement needs.) I reluctantly agreed, since I am a simple guy who doesn't like change but also wanted to keep her motivated with savings. Now that we're almost there, she says, "This kitchen is good enough, let's keep saving."

That said, I'd always pay off debt but I accept that it's purely a psychological benefit and the math isn't necessarily favorable for it. I paid off my house five years into a 15-year mortgage of about your rate. The math now says I would've come out ahead--to date--by investing in the market, but on the other hand, now I have a house.

As long as you don't buy lottery tickets with it, you'll probably be fine.
I'm not smart enough to know, and I can't afford to guess.

chicagoperson78
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Re: Do I pay towards my mortgage or invest?

Post by chicagoperson78 » Thu May 17, 2018 11:28 pm

I have personally thought about this ad nauseam for myself. What I have understood about myself is even though I work in a corp. and have a good job, it's hard for me to work and deal with BS sometimes. For me to be free to say and do the right thing, I have to take a risk that maybe someday I may have to say just walk away from my job. Knowing that about myself, over the past years every time I get $$ -- say as a bonus or something -- i put half towards my mortgage (3% fixed btw) and half into my Vanguard funds. That's how I have rationalized it for myself. If you have an emergency fund, decent savings, maxing out your retirement accounts, do what makes you sleep better. That accounts for something, right?

hth

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Re: Do I pay towards my mortgage or invest?

Post by gotester2000 » Fri May 18, 2018 12:57 am

mech_tower wrote:
Thu May 17, 2018 12:45 pm
Hi everyone,


Other options are - build a deck, take care of some other issue wife wants in the house (not high priority, but nice to have).

I vote for some other issue wife wants in the house - that will keep your life peaceful :D

CurlyDave
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Re: Do I pay towards my mortgage or invest?

Post by CurlyDave » Fri May 18, 2018 2:18 am

9-5 Suited wrote:
Thu May 17, 2018 1:03 pm

...This is reversing the question: if you had a $470K mortgage instead of $480K, would you borrow the additional $10K to increase your debt and do X? If not, the answer is easy. You pay down the mortgage. It is 100% irrational cognitive dissonance not to do so...
Well, I am not the OP, and I have never done anything like that with as small a sum as $10K, but with much greater amounts I have: taken out HELOCs to upgrade my residence, done cash out refinances to make down payments on rental properties, and used the proceeds from other cash out refinances to invest in equities.

Believe it or not, all 3 activities (6 or 7 instances over my life) have benefitted DW and me greatly.

Personally, I would invest an extra $10k in an index fund or ETF in a heartbeat instead of paying down a mortgage. Start thinking like a business and your net worth will grow.

A fixed rate mortgage is the most beneficial kind of debt imaginable. No matter what happens to real estate values, interest rates, my personal employment situation, or the economy as a whole, if I can keep up the payments the mortgage can not be called.

If the money is in a brokerage account it has historically grown at 10-11% per year. And, if some very bad thing happens and I need to draw on it to make my mortgage payment it is available to me. If I pay down the mortgage and that very same bad thing happens, the mortgage company will still want their payments right on schedule.

tampaite
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Re: Do I pay towards my mortgage or invest?

Post by tampaite » Fri May 18, 2018 11:23 am

mech_tower wrote:
Thu May 17, 2018 12:45 pm
Hi everyone,

I got a good tax refund this year - a little over $10k. I have a mortgage of $480k @ 3.875% (30 yr fixed).

I am thinking about putting this 10k towards the mortgage, and from my calculations, I save about 20k in interest over 30 years.
Pay down the mortgage. No brainer. Nothing guarantees you a 3.875% return on investment.

Suggest that you do this every year with tax refund. You will be happy your mortgage is being paid off sooner.

tedgeorge
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Re: Do I pay towards my mortgage or invest?

Post by tedgeorge » Fri May 18, 2018 12:11 pm

I'd say do the home improvement if all your other finance buckets are on autopilot. I've waited to fix/improve things on my last two places right before I sold them and both times thought, I should have done this way earlier so I could have enjoyed it.

If you're outdoor people and you want the deck, then do it! If your wife wants to replace the last remnants of your pre-wedding furniture then make your peace and let it go! :D

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grabiner
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Re: Do I pay towards my mortgage or invest?

Post by grabiner » Sun May 20, 2018 10:17 am

mech_tower wrote:
Thu May 17, 2018 12:45 pm
I have a mortgage of $480k @ 3.875% (30 yr fixed).
See Paying down loans versus investing on the wiki.

At these rates, the marginal payment is probably still tax-deductible; you are paying over $14K in interest, so if you have $10K in state and local taxes and no other deductions, any additional payment will reduce deductible interest.

Therefore, paying down the mortgage is equivalent to buying a long-term taxable bond yielding 3.875%; you won't get any benefit until the mortgage is gone. If you are in the 24% bracket, the after-tax yield is 2.95%, which isn't a particularly good return for a long-term bond. If you are going to invest, you could buy long-term municipal bonds with the same after-tax yield (2.93% on Vanguard Long-Term Tax-Exempt, or a fund for your state) and better liquidity.

As a separate issue, you shouldn't be getting a $10K tax refund; file a new W-4 to change your withholding. The issue isn't just that the $10K is an interest-free loan to the IRS, but that you might have a long delay in getting it if something goes wrong. (I have three times had state tax refunds held up by errors.)
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Nate79
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Re: Do I pay towards my mortgage or invest?

Post by Nate79 » Sun May 20, 2018 10:48 am

grabiner wrote:
Sun May 20, 2018 10:17 am
mech_tower wrote:
Thu May 17, 2018 12:45 pm
I have a mortgage of $480k @ 3.875% (30 yr fixed).
See Paying down loans versus investing on the wiki.

At these rates, the marginal payment is probably still tax-deductible; you are paying over $14K in interest, so if you have $10K in state and local taxes and no other deductions, any additional payment will reduce deductible interest.

Therefore, paying down the mortgage is equivalent to buying a long-term taxable bond yielding 3.875%; you won't get any benefit until the mortgage is gone. If you are in the 24% bracket, the after-tax yield is 2.95%, which isn't a particularly good return for a long-term bond. If you are going to invest, you could buy long-term municipal bonds with the same after-tax yield (2.93% on Vanguard Long-Term Tax-Exempt, or a fund for your state) and better liquidity.

As a separate issue, you shouldn't be getting a $10K tax refund; file a new W-4 to change your withholding. The issue isn't just that the $10K is an interest-free loan to the IRS, but that you might have a long delay in getting it if something goes wrong. (I have three times had state tax refunds held up by errors.)
When you calculate the after tax yield do you use the value only above the standard deduction?

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Re: Do I pay towards my mortgage or invest?

Post by grabiner » Sun May 20, 2018 11:10 am

Nate79 wrote:
Sun May 20, 2018 10:48 am
grabiner wrote:
Sun May 20, 2018 10:17 am
mech_tower wrote:
Thu May 17, 2018 12:45 pm
I have a mortgage of $480k @ 3.875% (30 yr fixed).
See Paying down loans versus investing on the wiki.

At these rates, the marginal payment is probably still tax-deductible; you are paying over $14K in interest, so if you have $10K in state and local taxes and no other deductions, any additional payment will reduce deductible interest.

Therefore, paying down the mortgage is equivalent to buying a long-term taxable bond yielding 3.875%; you won't get any benefit until the mortgage is gone. If you are in the 24% bracket, the after-tax yield is 2.95%, which isn't a particularly good return for a long-term bond. If you are going to invest, you could buy long-term municipal bonds with the same after-tax yield (2.93% on Vanguard Long-Term Tax-Exempt, or a fund for your state) and better liquidity.

As a separate issue, you shouldn't be getting a $10K tax refund; file a new W-4 to change your withholding. The issue isn't just that the $10K is an interest-free loan to the IRS, but that you might have a long delay in getting it if something goes wrong. (I have three times had state tax refunds held up by errors.)
When you calculate the after tax yield do you use the value only above the standard deduction?
A partial payment should be adjusted in full by your marginal tax rate. The reason is that any additional payment will reduce deductible interest; $1000 less in interest means $240 more in taxes. The OP is not capable of paying enough extra on the mortgage to get rid of non-deductible interest.

If you are considering paying off an entire loan, then it makes sense to use an average tax rate. If you have $34K in itemized deductions including $20K in interest, and you pay off the whole mortgage, you save $10K in deductible interest and $10K in non-deductible interest, so you are effectively deducting the interest at only half your marginal tax rate.
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Re: Do I pay towards my mortgage or invest?

Post by 9-5 Suited » Thu May 24, 2018 2:31 pm

CurlyDave wrote:
Fri May 18, 2018 2:18 am
Well, I am not the OP, and I have never done anything like that with as small a sum as $10K, but with much greater amounts I have: taken out HELOCs to upgrade my residence, done cash out refinances to make down payments on rental properties, and used the proceeds from other cash out refinances to invest in equities.

Believe it or not, all 3 activities (6 or 7 instances over my life) have benefitted DW and me greatly.
Just to be clear, I'm not advocating one choice or the other, as I agree with you that leverage is a tool for building wealth if one is willing to accept the risks. I do the same since I have about $300K in debt supporting about $1M in assets.

But the point is that for any individual, they can use this thought process to help understand what they should do. If you wouldn't borrow to invest, you should pay down debt. If you would borrow to invest, then do so. People can easily forget about the choice they are really making when the cash happens to be in-hand already.

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Re: Do I pay towards my mortgage or invest?

Post by CurlyDave » Thu May 24, 2018 3:06 pm

9-5 Suited wrote:
Thu May 24, 2018 2:31 pm
... I agree with you that leverage is a tool for building wealth if one is willing to accept the risks. I do the same since I have about $300K in debt supporting about $1M in assets...
I feel quite strongly that one is very unlikely to build much wealth if he is unwilling to use leverage.

Sure, we get a few people who have very high earnings and can save enough to represent real wealth, but there are a lot more of us who can only achieve wealth by taking some risk along the way.

Now I am not talking about irrational risk-taking -- I know people who have gone from riches to rags by taking too many risks. But, the judicious use of leverage is one of the tools that all of my personal acquaintances who have made the two comma club have used along the way. I always did an analysis on the worst-case scenario before increasing leverage and have turned down some opportunities. In hindsight, we could be much further ahead if I had taken those chances, but we also avoided a few which would have caused disaster, so judicious is the key word.

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Re: Do I pay towards my mortgage or invest?

Post by cherijoh » Thu May 24, 2018 3:43 pm

9-5 Suited wrote:
Thu May 24, 2018 2:31 pm
CurlyDave wrote:
Fri May 18, 2018 2:18 am
Well, I am not the OP, and I have never done anything like that with as small a sum as $10K, but with much greater amounts I have: taken out HELOCs to upgrade my residence, done cash out refinances to make down payments on rental properties, and used the proceeds from other cash out refinances to invest in equities.

Believe it or not, all 3 activities (6 or 7 instances over my life) have benefitted DW and me greatly.
Just to be clear, I'm not advocating one choice or the other, as I agree with you that leverage is a tool for building wealth if one is willing to accept the risks. I do the same since I have about $300K in debt supporting about $1M in assets.

But the point is that for any individual, they can use this thought process to help understand what they should do. If you wouldn't borrow to invest, you should pay down debt. If you would borrow to invest, then do so. People can easily forget about the choice they are really making when the cash happens to be in-hand already.
I wouldn't borrow to invest, but I would definitely hold off on paying down my mortgage if (1) I wasn't currently maxing out my tax advantaged space (i.e., tax-deferred compounding potential not wasted) OR (2) if my interest rate was low enough that I thought there was a better than decent chance that I'd be able to get a safe return higher than the interest rate on my mortgage in the near future (i.e., use it as a potential inflation hedge).

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Re: Do I pay towards my mortgage or invest?

Post by Nate79 » Thu May 24, 2018 4:36 pm

CurlyDave wrote:
Thu May 24, 2018 3:06 pm
9-5 Suited wrote:
Thu May 24, 2018 2:31 pm
... I agree with you that leverage is a tool for building wealth if one is willing to accept the risks. I do the same since I have about $300K in debt supporting about $1M in assets...
I feel quite strongly that one is very unlikely to build much wealth if he is unwilling to use leverage.

Sure, we get a few people who have very high earnings and can save enough to represent real wealth, but there are a lot more of us who can only achieve wealth by taking some risk along the way.

Now I am not talking about irrational risk-taking -- I know people who have gone from riches to rags by taking too many risks. But, the judicious use of leverage is one of the tools that all of my personal acquaintances who have made the two comma club have used along the way. I always did an analysis on the worst-case scenario before increasing leverage and have turned down some opportunities. In hindsight, we could be much further ahead if I had taken those chances, but we also avoided a few which would have caused disaster, so judicious is the key word.

People get wealthy all the time on BH without using any leverage on their balance sheet (or at least very minimal). They are called renters. Sure they may have a car loan here and there but the main form of leverage is a mortgage for most people.

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Re: Do I pay towards my mortgage or invest?

Post by rich126 » Thu May 24, 2018 5:01 pm

Depending on how long you will stay in a house, I'd be careful of upgrading it too much. No matter what stuff you see on the Internet, you aren't going to get back anything close to 100% of your expenses on home upgrades. It is more important to keep the structure sound but spending a lot on improvements don't end up paying back when you sell it.

I guess I've seen too many people "house poor". Mortgages, home equity loans, etc. take up so much of their pay check they don't have enough to save or weather financial issues (health, temp loss of income, etc.). I'm far from someone who lives frugally but I try to avoid the big mistakes which I consider expensive cars, too much house, etc. I think you need to enjoy your money but do it selectively. In my case I'd rather have a nice vacation every so often instead of paying an extra $20-40K+ on a car.

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Re: Do I pay towards my mortgage or invest?

Post by shipwreck » Thu May 24, 2018 8:22 pm

mech_tower wrote:
Thu May 17, 2018 12:45 pm

I got a good tax refund this year - a little over $10k.
Why ? I would say that is a bad refund. Unless I missed it, you don't explain the details. I would worrying more on how to avoid that happening again.
I shoot for $0 . I like the money being in my hands and not waiting for a refund of my money. I don't mind even paying a little.

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Re: Do I pay towards my mortgage or invest?

Post by Bacchus01 » Fri May 25, 2018 7:18 am

A) You're doing it wrong if you got a refund

B) I'm never a fan of paying off low-interest loans of any type. The environment right now (I know, timing) is especially true. It's unlikely that you won't be able to at least break even on investing versus paying down that debt over the 30 year horizon of your mortgage term.

A better approach would be to have to PAY into your taxes at the end, thus investing not only YOUR $10K through the year, but the government's $10K through the year.

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Re: Do I pay towards my mortgage or invest?

Post by 9-5 Suited » Fri May 25, 2018 9:31 am

cherijoh wrote:
Thu May 24, 2018 3:43 pm
I wouldn't borrow to invest, but I would definitely hold off on paying down my mortgage if (1) I wasn't currently maxing out my tax advantaged space (i.e., tax-deferred compounding potential not wasted) OR (2) if my interest rate was low enough that I thought there was a better than decent chance that I'd be able to get a safe return higher than the interest rate on my mortgage in the near future (i.e., use it as a potential inflation hedge).
I realize this is venturing into boring semantic debate territory :) But anyone who has both debt and assets simultaneously has a leveraged position (i.e. is borrowing to invest). So if you have a mortgage and investments you can't really say "I wouldn't borrow to invest" because you're doing that right now. The moment you took out a mortgage and didn't liquidate all your assets you made that choice and you make that choice again every day you don't pay it off (almost definitely a smart choice given a whole range of factors favoring that strategy!).

If you mean you wouldn't invest via margin loans but you would invest (at least in certain things) with a mortgage because of it's unique properties, I completely agree and I do that as well.

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Re: Do I pay towards my mortgage or invest?

Post by cherijoh » Sat May 26, 2018 9:47 am

9-5 Suited wrote:
Fri May 25, 2018 9:31 am
cherijoh wrote:
Thu May 24, 2018 3:43 pm
I wouldn't borrow to invest, but I would definitely hold off on paying down my mortgage if (1) I wasn't currently maxing out my tax advantaged space (i.e., tax-deferred compounding potential not wasted) OR (2) if my interest rate was low enough that I thought there was a better than decent chance that I'd be able to get a safe return higher than the interest rate on my mortgage in the near future (i.e., use it as a potential inflation hedge).
I realize this is venturing into boring semantic debate territory :) But anyone who has both debt and assets simultaneously has a leveraged position (i.e. is borrowing to invest). So if you have a mortgage and investments you can't really say "I wouldn't borrow to invest" because you're doing that right now. The moment you took out a mortgage and didn't liquidate all your assets you made that choice and you make that choice again every day you don't pay it off (almost definitely a smart choice given a whole range of factors favoring that strategy!).

If you mean you wouldn't invest via margin loans but you would invest (at least in certain things) with a mortgage because of it's unique properties, I completely agree and I do that as well.
The problem with your strict interpretation is that most people think of "borrowing to invest" in terms of an unsecured loan - a margin loan, a personal loan from a bank or a family member, etc. Therefore, suggesting as you did that "If you wouldn't borrow to invest, you should pay down debt" is likely to push people to pay down debt when in fact it could put them at risk of having too much home equity vs. liquid assets. I would go with the common definition vs. the narrowly semantic one that you have proposed if you want to use your proposed question effectively.

A mortgage is a rather unique type of debt. If you didn't have a mortgage, in most circumstances you would still have to pay for rent. If you prudently purchase no more house than you need, you are NOT adding substantially to your cash flow burden and IMO taking out a mortgage is the right decision for just about all first-time homebuyers and many others as well.

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Re: Do I pay towards my mortgage or invest?

Post by hightower » Sat May 26, 2018 9:53 am

mech_tower wrote:
Thu May 17, 2018 12:45 pm
Hi everyone,

I got a good tax refund this year - a little over $10k. I have a mortgage of $480k @ 3.875% (30 yr fixed).

I am thinking about putting this 10k towards the mortgage, and from my calculations, I save about 20k in interest over 30 years.

Other options are - build a deck, take care of some other issue wife wants in the house (not high priority, but nice to have).

Another option is to invest the 10k for hopefully higher returns - higher than 20k I get in 30 years from paying mortgage.

Looking for suggestions on how to best utilize the 10k. If investing, where would you suggest I invest in - I already have brokerage and IRA accounts in Vanguard.

Thank you very much. :happy
Don't know if anyone else mentioned this yet, but why did you get such a large tax refund? You want to make sure you have your withholdings set up so that you don't give the government a free loan every year. Ideally you should either owe a little or break even. Big tax returns means you're withholding too much from your paychecks and thus giving the government a free loan;)

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Re: Do I pay towards my mortgage or invest?

Post by grabiner » Sat May 26, 2018 4:28 pm

cherijoh wrote:
Sat May 26, 2018 9:47 am
A mortgage is a rather unique type of debt. If you didn't have a mortgage, in most circumstances you would still have to pay for rent. If you prudently purchase no more house than you need, you are NOT adding substantially to your cash flow burden and IMO taking out a mortgage is the right decision for just about all first-time homebuyers and many others as well.
This is relevant to the decision whether to take out the debt, but not whether to pay it down. Mortgages and student loans are considered "good debt" by many financial advisors, because taking out those debts allows you to pay for valuable things, a home and a college degree. But once you have taken out a loan, it is all money (unless you default), and the only differences between loans are rate and term. Paying down $1000 on any 5-year, 4% loan will give you $1217 more in five years, so you need to decide whether that is the best use of the $1000, whether the loan was good or bad to take out.

Therefore, when I post on decisions whether to pay down a mortgage or invest, I always look at the terms of the mortgage, and at where the investment is going; it is more attractive to invest in a 401(k) or IRA rather than a taxable account, so it often makes sense to max out a 401(k) or IRA and then put extra money towards a mortgage.

The OP has a very low long-term rate, with a 30-year loan at the market rate for 15-year loans, with deductible interest, and thus has a better use of the money. (I am in a similar situation; my 11-year loan is at 2.625%, which is also well below the market rate, and I can still deduct the interest, so I don't pay it down.)
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Re: Do I pay towards my mortgage or invest?

Post by merdahl » Sun May 27, 2018 9:13 am

I think it is imperative to have no mortgage going into retirement. I say this because the expense of servicing the loan will have to be added to your planned savings withdrawals. This would not only require you to have a larger savings to pull from but it may also have a negative impact on your tax rate in retirement. In addition, the recent tax changes minimize the tax advantage of a mortgage.
With a mortgage the size of the OP, it would take some time to get it paid off. It looks like he has that time but he should be focused on getting it done with.

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Re: Do I pay towards my mortgage or invest?

Post by tainted-meat » Sun May 27, 2018 10:15 am

Financially, chances are you will come ahead by investing for the long-term than paying off that mortgage early.

Debt is a tool, and if used properly can help make you wealthy.

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Re: Do I pay towards my mortgage or invest?

Post by grabiner » Sun May 27, 2018 1:08 pm

merdahl wrote:
Sun May 27, 2018 9:13 am
I think it is imperative to have no mortgage going into retirement. I say this because the expense of servicing the loan will have to be added to your planned savings withdrawals. This would not only require you to have a larger savings to pull from but it may also have a negative impact on your tax rate in retirement. In addition, the recent tax changes minimize the tax advantage of a mortgage.
If you keep a mortgage into retirement, but invest the money instead, you will automatically have more savings, because your investments will become that savings.

The tax concern is important, but the potential increase in tax rate is not likely to be the issue. If you pay from a traditional account (the most common situation), you contributed more to your 401(k) in your later working years, and you probably deducted the 401(k) contributions at an equal or higher tax rate than you pay on the withdrawals. If you pay your mortgage in retirement from your taxable account, you pay no tax on bond sales and a fixed tax on stock sales. If you pay from a Roth account, you pay no tax on withdrawals.

If you lose the deductibility of your mortgage interest when you retire, then it is likely to be a good deal to pay it off at that time, unless the rate is so low that the mortgage is worth keeping even with non-deductible interest.
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Re: Do I pay towards my mortgage or invest?

Post by dknightd » Sun May 27, 2018 1:44 pm

merdahl wrote:
Sun May 27, 2018 9:13 am
I think it is imperative to have no mortgage going into retirement.
I intend to carry my mortgage into retirement. I'm paying 3.25%. This year the interest will no longer be deductible. It matures about 7 years after I plan to retire. When it is paid off that will be a nice COLA ;) Of course I could change my mind . . .

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Re: Do I pay towards my mortgage or invest?

Post by Kaktus » Mon May 28, 2018 5:46 am

10k is a lot for a deck, no? I built one for something like 1k. Just curious.

I have the reflex to pay off debt when i stumple on a windfall. I have made up my mind to instead buy stocks. I mean the speed you have set up for paying of mortgage should be in control. Which neans that if one has money over one can invest it to higher risk. Thats where I am now.

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