mortgage pre payment, why?

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danwhite77
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Re: mortgage pre payment, why?

Post by danwhite77 » Sun Apr 17, 2016 5:53 pm

boglebill2015 wrote:
For those who support it, when does it make financial sense?


I bought my house for cash in 2012. No matter what happens in the financial markets or with my job a bank will never foreclose on my house.

I view any potential foregone investment income as an expense I'm happy to pay for the ultimate in peace of mind.
"While some mutual fund founders chose to make billions, he chose to make a difference." - Dedication to Jack Bogle in 'The Bogleheads' Guide to Investing'.

Ron Ronnerson
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Re: mortgage pre payment, why?

Post by Ron Ronnerson » Sun Apr 17, 2016 8:18 pm

orca91 wrote:
It is obviously a situational thing, area dependent, and a personal preference deal. But, paying down debt certainly isn't a "mistake" for 90% of the people that choose to do so. Is it the optimal choice? We will know in 20 - 30 years, I guess. But, it is a safe and smart way to use extra money for most. There are certainly much worse ways to use or spend extra money... speed boats, penny stocks, black jack, etc.


I think this sums it up nicely.

Here's my situation. I have a 3.25% 30 year fixed-rate mortgage. I'm in the Bay Area and my property taxes and state income taxes alone take me to the standard deduction level so all the interest on the mortgage is deductible, rendering my current effective interest rate closer to 2.5%. After accounting for inflation, I'm not sure I'm really even paying much interest at all. I'm unable to max my tax-advantaged space as I happen to have a lot of it (10% of my gross income goes toward a teacher's pension, and I also have available a 403b, 457b, and IRA). I'm still a couple of decades from retirement and am expecting a pension that will pretty much cover my expenses when I do retire. Personally, in my situation, I am taking as long as I possibly can to pay off the mortgage.

However, if my interest rate was 4%, itemization didn't factor in because the standard deduction was higher, was closer to retirement, wasn't expecting a pension, had my tax-advantaged accounts maxed out, and extra money left over, that would certainly change things and I'd seriously consider paying off the mortgage faster than scheduled.

Basically, it really does depend on the situation. Personal preference shouldn't be discounted either. I don't mind having low-interest debt. However, other people feel much better knowing they own their home outright. They may feel it reduces stress and that is a wonderful thing. It's the reason many people go on vacation and sit by the beach. If having no debt helps lift one's spirits and gives them added security, that is worth something. While a calculator can't place a value on it, that doesn't mean that it has no worth.

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segfault
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Re: mortgage pre payment, why?

Post by segfault » Sun Apr 17, 2016 8:29 pm

Here is a fairly comprehensive article I found on the subject:
http://financialmentor.com/financial-ad ... nvest/7478

tbradnc
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Re: mortgage pre payment, why?

Post by tbradnc » Sun Apr 17, 2016 8:36 pm

Not only do I not have a mortgage but I overpay our utilities with my credit card $2000 at time - so not only am I not going to be homeless I'm going to have lights, water, sewer, internet and natural gas. :)

Our utility lets you pay with a credit card for a $3.95 convenience fee. I pay $2000 at a time with my Citi Double cash. 2% of $2000 is $40, less $3.95 convenience fee for a net profit of $36.05 for paying with a credit card vs bank draft with no discount. The $2,000 lasts approximately 6 months so I figure that's a pretty good ROI compared to say... a CD.

ControlContentment
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Re: mortgage pre payment, why?

Post by ControlContentment » Sun Apr 17, 2016 8:40 pm

tbradnc wrote:Not only do I not have a mortgage but I overpay our utilities with my credit card $2000 at time - so not only am I not going to be homeless I'm going to have lights, water, sewer, internet and natural gas. :)

Our utility lets you pay with a credit card for a $3.95 convenience fee. I pay $2000 at a time with my Citi Double cash. 2% of $2000 is $40, less $3.95 convenience fee for a net profit of $36.05 for paying with a credit card vs bank draft with no discount. The $2,000 lasts approximately 6 months so I figure that's a pretty good ROI compared to say... a CD.


Only a Boglehead....

tumbleweedsusan
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Re: mortgage pre payment, why?

Post by tumbleweedsusan » Mon Apr 18, 2016 1:12 am

We paid off our mortgage 2 years ago. What a feeling.
We are saving 10 years of interest. No insignificant sum of money.

Since then..
I have lost 1 of my 4 clients. They went out of business.
My husband's company is being bought now. He may lose his job.
No one is taking our home from us.
Our neighborhood is FULL of homes on foreclosure...people who once asked the same question you are asking...I guess life got in their way. Or bad math. False hope.

But we lost the mortgage interest deduction on our taxes! Oh woo is us!

I will take the saved interest and the guarantee we will have a roof over our head in a year any day over a deduction. Keep your deduction.

Do the math. The mortgage deduction is not worth the interest you save. All I can tell you, without doing the math....our investment accounts have skyrocketed since we no longer have $2,000 a month to pay...and invest that instead. I see the #s before my eyes. It is overwhelming.

I get a lot of people looking at us like we are crazy for paying off our mortgage. Most people only know a life of debt and don't understand another way. We found another way. It is wonderful. Truly. I promise you.

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Fieldsy1024
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Re: mortgage pre payment, why?

Post by Fieldsy1024 » Mon Apr 18, 2016 6:34 am

I get the "huge weight off my shoulders feel". My int rate is 3.25% I made the mistake by putting very little money down. I used to pay extra principal until learning that investing that extra money is a better idea. Our home is only 12% paid off, so I am paying an extra 170ish monthly for MIP.

We are looking to buy a house and selling this one in about 2-3 years. If you had extra income after matching 401/maxing roth at 31 yrs old, would paying extra principal beat putting more in 401k or savings (beef up the emergency fund after putting down 20% on a new home)?

The Wizard
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Re: mortgage pre payment, why?

Post by The Wizard » Mon Apr 18, 2016 7:15 am

In my third year of retirement, I still have a modest HELOC balance at 3.25% APR.
My various investments have generally done better than that rate which is why I've not been in a rush to pay this off.
The required monthly payment is about 5% of my monthly income, so not a burdensome amount.

Now having said all that, I have started working part-time this year, a slip into semi-retirement, and have decided to put about half of my net W-2 pay toward additional principal reduction of my HELOC.
The other half will go into my Roth IRA and then my taxable account...
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rai
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Re: mortgage pre payment, why?

Post by rai » Mon Apr 18, 2016 8:07 am

What about the phase out in the tax code? High earners can have up to 80% of their tax deduction phased out.
"Life is what happens to you while you're busy making other plans" - John Lennon. | | "You say that money, isn't everything | But I'd like to see you live without it." - Silverchair

orca91
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Re: mortgage pre payment, why?

Post by orca91 » Mon Apr 18, 2016 10:11 am

Fieldsy1024 wrote:I get the "huge weight off my shoulders feel". My int rate is 3.25% I made the mistake by putting very little money down. I used to pay extra principal until learning that investing that extra money is a better idea. Our home is only 12% paid off, so I am paying an extra 170ish monthly for MIP.

We are looking to buy a house and selling this one in about 2-3 years. If you had extra income after matching 401/maxing roth at 31 yrs old, would paying extra principal beat putting more in 401k or savings (beef up the emergency fund after putting down 20% on a new home)?


If you have more room in the 401k to contribute, utilizing that space is probably a better idea.

After that, paying down the principal or stashing extra in savings for a couple years is probably close to a wash. The lower balance would get you that much more after the sale, or pay on schedule, take what you get after the sale, and have a chunk in savings. Probably not a huge difference either way in that time frame.

psystal
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Re: mortgage pre payment, why?

Post by psystal » Mon Apr 18, 2016 10:30 am

While the numbers vary according to taxes and loan rates, there's always going to be a mathematically optimal solution to this question.

Personally, I'd almost always advocate for making the most profitable decision, unless it's a very close call, in which case I'd say the psychological value of being debt free is worth a fraction of a percent in gains. Otherwise, I don't understand the obsession with being debt-free. Of course, I'm 31 and of the generation that will basically be in debt for life.

frugalecon
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Re: mortgage pre payment, why?

Post by frugalecon » Mon Apr 18, 2016 10:40 am

I go back and forth on this question. I am currently paying several hundred dollars per month extra, which is the amount that will zero out the mortgage at my earliest possible retirement date. But that represents less than ten percent of the amount that I am putting into tax-deferred and taxable investments. It really wouldn't move the needle that much on my overall liquid assets to direct these funds into other investments. Obviously, if comparably dated fixed income instruments were available that offered a better return, I would reallocate to that. But given current interest rates and my timeline I am not sure that will ever happen.

In the past I had implemented a program of acquiring zero coupon Treasuries, building a ladder that would offset the mortgage payments from a date certain until the end of the mortgage. Since I live in a state with a high marginal tax rate that can be beneficial, since mortgage interest is deductible but the implied interest on the zero coupon bonds is not taxable by the state. Interest rates would need to rise before I could pursue that again. (This strategy does not have the negative liquidity implications of pre-paying a mortgage, which itself is akin to buying zero coupon bonds.)

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Re: mortgage pre payment, why?

Post by investnoob » Mon Apr 18, 2016 10:44 am

Normally, I wouldn't borrow money to invest it. I see a mortgage, while making investments at the same time, as leverage.

I would like to change that. Until now, I've accelerated payments.

In Canada, mortgage lending seems to be a lot different. We do not get 30 year fixed mortgages. Instead we normally get 5 year terms with either a fixed or variable interest rate. Every 5 years we have to "renew" our mortgage. So there is greater "interest rate risk," I think. Also, the interest on our mortgages is not tax deductible.

mptfan
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Re: mortgage pre payment, why?

Post by mptfan » Mon Apr 18, 2016 11:22 am

blueberry wrote:Also, I found that paying off the house locks up money so you are less tempted to do a $100k kitchen remodel.

This is such an important point. Having a mortgage frees up money that can be (and usually is) spent elsewhere. When people get so accustomed to having debt, they do not realize how much using debt makes it psychologically so much easier to spend. It is so much easier to get a $300,000 mortgage by putting $60,000 down and financing the rest with money provided by a bank, as compared to paying $300,000 for the house with your own money. The same thing is true for cars, and remodeled kitchens, and a variety of other purchases.

If you change the way you think and stop accepting debt as a normal part of life, you may find that you no longer get yourself into situations where you have large mortgages to pay off.
I eat risk for breakfast. :)

AnonJohn
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Re: mortgage pre payment, why?

Post by AnonJohn » Mon Apr 18, 2016 12:15 pm

jsapiandante wrote:
Texas Radio wrote:Split the difference. Pay extra on the mortgage but leave yourself money to invest each month as well. Net worth rises each month and options remain open. Mortgage deduction still in play.


This is what I'm doing. After maxing out our retirement accounts, we split any leftover money between paying down mortgage and investing. Everyone has their own opinions, and everyone's situation is always going to be different. Let alone their views on finances. No one is wrong here. It'll be a never ending debate.

I choose to keep my mortgage because what's more important to me right now is to build wealth towards the future in case I plan to retire early. It just helps me sleep at night knowing my cash flow is good. I would hate for the bulk of monthly cash flow go towards debt instead of beefing up a catastrophic emergency fund should the need arise (I'm talking years of unemployment). It just gives me piece of mind. If I decide to put all leftover money to pay down my mortgage within 10 years, I'm also missing 10 years of investing. And for me, those are years I can't get back. No matter what happens in the market. Half full versus half empty.


This makes a lot of sense to me and mirrors my approach. I see it as managing risk. Holding, rather than pre-paying helps me reduce inflationary risks, gain a tool to manage tax bracket uncertainty, and avoids tying up a lot of my portfolio in an illiquid asset. But I do this by taking on increased market risk.

I think this gives me flexibility in future real-estate transactions (e.g. I hope to cover a second down payment to avoid a sales contingency if we move). My loose ambition is to have enough liquid assets to pay off the mortgage when the tax benefit becomes too small.

But a lot of this is situational. Much has been covered, but one more point: LTCG tax rate of zero (in the 15% bracket) helps make it appealing to have taxable investments in addition to the mortgage deduction. I am trying to play the double game of harvesting both losses and gains in different years.

jay22
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Re: mortgage pre payment, why?

Post by jay22 » Mon Apr 18, 2016 12:33 pm

We were struggling with this question when we bought our home. We decided the optimal way to handle this is go 50/50. Now, any extra money we have at the end of the month is split between extra payments on the mortgage the following month, and investing in a taxable account. At the current rate, we'll probably pay off our mortgage in 15-17 years instead of 30 - not a bad deal.

psystal
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Re: mortgage pre payment, why?

Post by psystal » Mon Apr 18, 2016 12:43 pm

blueberry wrote:Having a house paid off is golden in the event of a job loss. Also, I found that paying off the house locks up money so you are less tempted to do a $100k kitchen remodel. Paying my house off early has given me peace of mind, but priority was emergency fund, 401k, roth, then mortgage principal.


This is probably the best (simplest) assessment to apply if you're considering mortgage payoff. If you savings, 401k, and IRAs are padded filled, then it's going to make a lot more sense to make those double mortgage payments. For most people, though, one or more of those accounts is likely neglected.

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Re: mortgage pre payment, why?

Post by Lindrobe » Mon Apr 18, 2016 1:15 pm

I have 2 years to go on a 10 year mortgage. My mortgage will be paid off when I am 36. For me, it is an emotional decision. I feel like being debt free will allow me to "work to live" instead of "living to work." I am a CPA and I don't really like what I do now. My work schedule is tedious, little flexibility, no vacation from December-May. I work 50-60 hours a week February-April. When my mortgage is paid off, I feel like I will be able to either cut back to part time in the miserable career I have now, or have the freedom to try a new career path.

mptfan
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Re: mortgage pre payment, why?

Post by mptfan » Mon Apr 18, 2016 1:46 pm

Here is another often overlooked factor...you have to earn that much more money at your marginal tax rate to pay the mortgage.

Consider this...let's say you have a mortgage payment of $2,000 per month for a nice round number, and let's say you are in the 25% marginal tax bracket, that means you have to pay 25% income tax plus 6.2% social security tax plus 1.45% medicare tax which equals a 32.65% marginal tax rate for each marginal dollar that you earn. (I am aware that the social security tax is capped at $118,500 income) This means you will have to earn $35,634 dollars each year to pay your mortgage payment each month as compared to not having that mortgage payment each month. Stated differently, paying off your mortgage will give you an instant $35,635 pay raise.
I eat risk for breakfast. :)

conlius
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Re: mortgage pre payment, why?

Post by conlius » Mon Apr 18, 2016 2:00 pm

I've never understood the extreme comparisons for invest vs pay down mortgage. We have no idea what market returns, inflation/defaltion, future rates, or tax laws surrounding mortgage interest are going to be in the future. So why not just do a bit of both? Figure your excess money after 401k/IRA/HSA/EF/expenses. Take a chunk of that amount and put it into your mortgage (find a % that works for you). Take another chunk and put it in your taxable investment portfolio (again, find another % that works for you). Take the leftover and either continue to put it into your mortgage/portfolio or put it toward vacation/hobbies/projects/etc. Eventually, you will have both a well-funded taxable portfolio on top of your fully funded 401k/IRA/HSA/EF and a mortgage that has been paid off early all while being satisfied with your vacation/hobbies/projects/etc...right?

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ray.james
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Re: mortgage pre payment, why?

Post by ray.james » Mon Apr 18, 2016 2:17 pm

mptfan wrote:Here is another often overlooked factor...you have to earn that much more money at your marginal tax rate to pay the mortgage.

Consider this...let's say you have a mortgage payment of $2,000 per month for a nice round number, and let's say you are in the 25% marginal tax bracket, that means you have to pay 25% income tax plus 6.2% social security tax plus 1.45% medicare tax which equals a 32.65% marginal tax rate for each marginal dollar that you earn. (I am aware that the social security tax is capped at $118,500 income) This means you will have to earn $35,634 dollars each year to pay your mortgage payment each month as compared to not having that mortgage payment each month. Stated differently, paying off your mortgage will give you an instant $35,635 pay raise.


Somewhere I read the quote - "A Nickel saved is a Dime earned".

Apart from psychological factors, this point warrants some thinking. It is very hard to keep risk same and equate bond yields after taxes+costs to same amount as mortgage return(with tax deduction). I feel much safer with large portfolio but only up to a point. After hitting 5x my income/some magic number like that I would prefer to payoff mortgage and have peace of mind.
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whatusername?
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Re: mortgage pre payment, why?

Post by whatusername? » Mon Apr 18, 2016 2:19 pm

I'm a single income household with potentially limited options for leaving my job in a company that is doing well at present but has structural long-term issues. I could invest funds to pay the mortgage in case I lose my job/career, but it would need to be in lower-risk investments. Over the last 5 years I could not find any such investment that matched the rate of return in just paying off the mortgage. So that's what I did. That it feels good is just a bonus.

I figured out pretty early on that I would be able to pay the house in full in about 5 years without foregoing other savings goals, so I decided NOT to refinance a year into the mortgage when rates dropped because the transaction costs would not be recouped before paying it off. That psychologically "locked" me into an early payoff strategy fairly early but definitely made following through on the decision more attractive as rates rose again.

boglesmind
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Re: mortgage pre payment, why?

Post by boglesmind » Tue Apr 19, 2016 12:27 am

I think the factors determining pre-pay vs invest include: income level, stability of income, state of residence (property & state income taxes), AMT threshold and AMT exemption phaseout limits, and after-tax returns on alternative investments. These are all unique to each person and I'd suggest generalizations are not useful.

1. I live in CA, HCOL, high state income tax and property taxes. These have always exceeded federal std deduction and I have used itemized deductions always. Hence the mortgage interest gets the full benefit of 40% to 45% savings in federal and state income taxes based on the marginal tax rate in a given year. My interest rate started at 5.75 % for 30 year fixed and currently down to 2.5% for 10 year fixed, giving me an after tax rate of 3.45% at the beginning to 1.375% now. I went through a couple of refinancing -- 5/1 ARMs at pre-tax rate of 4 and 3.5 and after tax rate of 2.2 and 1.925%.

2. California tax exempt intermediate bond fund (VCADX) has provided after tax returns of 4.17%, 3.82%, 5.63%, and 4.63% for 1/2/5/10 year periods ending 3/31/2016. Note that I haven't sold VCADX and so didn't incur any capital gains taxes. The dividend distributions quoted above are exempt from federal and state income taxes. These returns have exceeded the after-tax interest rate of my mortgage by a considerable margin. To me personally, it makes no financial sense to pre-pay.

3. AMT doesn't reduce the value of my mortgage interest deduction since the AMT exemption limit is larger than the sum of personal exemptions + state income tax + property tax.

Can pay off the mortgage by selling of the bonds but I feel no need/compulsion/emotional pull to do so. Enough emergency savings to tide over 2 years of living exp including mortgage and the house has appreciated a lot and is in a desirable area, 30 minutes of driving to high tech companies. Houses in my area were selling within a month even during 2008-09 melt down. No foreclosures in my neighborhood.

ray.james wrote:
It is very hard to keep risk same and equate bond yields after taxes+costs to same amount as mortgage return(with tax deduction).

Depends on individual circumstances and it is possible to do so. Many of my friends are in a similar situation as me, very low mortgage interest rate and better returns from bonds.
mptfan wrote:
Here is another often overlooked factor...you have to earn that much more money at your marginal tax rate to pay the mortgage.

What if one's income is stable and/or rising so that this is not an issue even remotely? Job is great and working is fun and great company to work for.

boglesmind
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Re: mortgage pre payment, why?

Post by boglesmind » Tue Apr 19, 2016 12:56 am

grabiner wrote:
wrongfunds wrote:Are CA residents exempt from AMT? I am still having hard time believing that high mortgage, high real estate taxes and high state taxes and high income has not put OP in the AMT. Once AMT hits, all the rules are different. Or may be I am the one who has misunderstood AMT.


CA residents are subject to the AMT, but this may actually make mortgage deductions more valuable. ...


+1

alfaspider
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Re: mortgage pre payment, why?

Post by alfaspider » Tue Apr 19, 2016 9:07 am

As discussed above, I think whether pre-paying is a good idea is highly impacted by personal situation. A few factors with considering:

1) Property taxes. In some areas, property taxes can be an appreciable fraction of the mortgage. My property taxes are roughly half of my mortgage payments. Even if I paid off my mortgage, I would still have to pay a substantial sum each month to prevent my house from being taken from me.

2) Marginal tax rates and itemization. My property taxes swallow the standard deduction, so I can deduct all of my mortgage interest at my top marginal rate. No state income tax, however. Others may get an even bigger benefit from the mortgage interest deduction, or close to none at all.

3) Cash on hand and other investments. I'm prioritizing tax-advantaged retirement savings right now, but 5-10 years down the line, I could be in the position of having enough in taxable accounts that the mortgage could be a consideration as an alternative "investment" to the equity and debt markets. You also need to consider real estate as part of your overall portfolio. Is your home increasing your diversification or putting you too lopsided into one asset class?

4) Future plans. It's possible we may want to up-size sometime in the next 10 years to accommodate family. Paying off the mortgage is less compelling when you are planning on selling the house anyways- it ties up capital you could otherwise use as a down payment for the next house.

5) Other expenses and access to capital. I know people who are so attached to the idea of a paid-off house that they pay dearly for the privilege. For example, they took out parent plus loans at 8% interest to pay for a child's college when they had a paid-off house. They could have taken out a home equity loan at a much lower rate, but couldn't bear the thought of being in mortgage debt again.

6) Pre-payment vs paying off. One issue with pre-paying is it doesn't reduce the amount you are required to pay each month, and it could be many years until you are paid off. You actually increase the risk of foreclosure after a loss of income if you pre-pay. If you are pre-paying rather than just paying off, it may make more sense to just refinance to a shorter term.

Big Dutch
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Re: mortgage pre payment, why?

Post by Big Dutch » Tue Apr 19, 2016 10:47 am

OP,

As you note, many on this forum are big savers - i.e. they max out tax advantaged space. If this is the case, although the mortgage interest (may be) tax deductible, the marginal funds you would invest are also taxable. You might net out some savings through TLH but your investment would likely need to exceed your post-deduction mortgage interest rate (I believe you used 3.875% reduced to 2% in your example). Comparing your return on investing that money to 2% your after-tax mortgage wouldn't be an apples-to-apples comparison.

~Big Dutch

Nowizard
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Re: mortgage pre payment, why?

Post by Nowizard » Tue Apr 19, 2016 11:36 am

Convenience and simplification financially are reasons. However, we are retired with a mortgage. We invest carefully and have done so successfully. One of the keys in the past was to take advantage when we felt interest rates were low enough to leverage through loans and attempt to receive returns greater than interest costs which is a fairly complex assessment depending on other financial circumstances. We have continued to do that due to the historically low mortgage rates though we could pay off our mortgages even though we are quite probably earning for our heirs at this point of our retirement. Just as annuities are appropriate for some people and thought to be about the worst possible investment by others, there are reasons to not pay off a mortgage and general formulas do not apply to everyone.

Tim

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Re: mortgage pre payment, why?

Post by NoVa Lurker » Tue Apr 19, 2016 11:56 am

Nowizard wrote: Just as annuities are appropriate for some people and thought to be about the worst possible investment by others, there are reasons to not pay off a mortgage and general formulas do not apply to everyone.


+1. There are lots of threads on Bogleheads like this one, which amount to OP saying, "I have concluded this approach is right for me, therefore it must be right for everyone, unless they are making decisions for emotional reasons." But preferring lower risk and/or a simplified overall investment strategy are not just "emotional" decisions. They can be entirely rational, depending on one's circumstances.

My wife and I have actually taken an approach that is different than any suggested previously in this thread. We do not partially prepay our mortgage, but we have a significant surplus in our taxable savings, after fully funding our retirement accounts (and a small amount in 529s). Once our taxable savings is enough to completely repay the mortgage, we will prepay the mortgage with one payment. This is because we want to preserve liquidity as long as we are stuck with a monthly mortgage payment; once we can eliminate the monthly mortgage payment entirely, it will make sense for us to repay. This is because we don't need (or want) to take risk with our taxable savings. Although our mortgage interest rate is low (2.625% on a 15-year), it's still higher than the return on a medium-term Treasury.

This approach makes sense for us, though we wouldn't necessarily recommend it for others. And we certainly don't mention it to anyone else in our families, who would have other ideas on how we could use our taxable savings!

doon
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Re: mortgage pre payment, why?

Post by doon » Tue Apr 19, 2016 2:28 pm

As many of have opined that it is a very personal decision. What works for me is not gonna work for someone else.
I think someone else referred to a really good article on this topic which talks about all the pros & cons.

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

I live in a HCOL area with high property taxes and have a historically low fixed rate mortgage for 25 years. So it works for me to keep the mortgage. But personally one of the most important reason for NOT paying off mortgage debt is my today's Savings Are in Cheap Dollars.

Plus I get to stay in the market longer compared to if I decide to pre-pay or accelerate mortgage payments and not put that money towards future savings.

lack_ey
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Re: mortgage pre payment, why?

Post by lack_ey » Tue Apr 19, 2016 2:53 pm

A mortgage just offers long-term leverage with a lot of complicated embedded options. You can get lower effective rates with leverage elsewhere, just generally not locked in at a fixed rate for the long term.

After a certain point of utility for additional liquidity, if the rate on the leverage is too high in general then for a given level of overall financial risk it's probably not worth taking. And as such you should prepay.

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FelixTheCat
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Re: mortgage pre payment, why?

Post by FelixTheCat » Tue Apr 19, 2016 3:03 pm

To me this is an emotional topic not a financial discussion. I paid off my mortgage and it provides financial serenity. I took my mortgage payment and I invest it in my BH portfolio. I ran my numbers and discovered I could retire 15 years early. :D
Felix is a wonderful, wonderful cat.

MathWizard
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Re: mortgage pre payment, why?

Post by MathWizard » Tue Apr 19, 2016 3:06 pm

For me, once I can maintain a decent first tier EF and pay off the entire mortgage balance, I will.

Before I can pay off the entire balance, I could prepay part to save interest, but then my cashflow would stay the
same until the loan is paid off. This means more short-term risk for a long term gain.

In my current situation, I will pay the (low rate) interest for two more years, and then be able to
completely pay off the loan, ad still have a decent EF in case of job loss.

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ray.james
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Re: mortgage pre payment, why?

Post by ray.james » Tue Apr 19, 2016 3:19 pm

MathWizard wrote:For me, once I can maintain a decent first tier EF and pay off the entire mortgage balance, I will.

Before I can pay off the entire balance, I could prepay part to save interest, but then my cashflow would stay the
same until the loan is paid off. This means more short-term risk for a long term gain.

In my current situation, I will pay the (low rate) interest for two more years, and then be able to
completely pay off the loan, ad still have a decent EF in case of job loss.


I have read about the option to recast the mortgage. Although I have no idea how easy it is in real life. The interest rate will not stay same or favorable if one refinances.
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Re: mortgage pre payment, why?

Post by Exige » Tue Apr 19, 2016 3:50 pm

ControlContentment wrote:Why I paid cash for my house:

- guaranteed 3% return
- lock in stability, schools, ect for family
- allow me and my wife to take risks and pursue passions. She is now a successful photographer and realtor. She makes more money now and is happier. She would not have done that with higher monthly expenses. I am about 5-10 years from going after running sales for a tech startup. If my expenses were higher I would not consider going after that potential home run



this is exactly why we are pushing ours. I would rather have that money to invest or save, or quit and do something we want to do hell with our low expenses and no mortgage we could go part time and still save and invest haha.
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Re: mortgage pre payment, why?

Post by BW1985 » Thu Apr 21, 2016 2:43 pm

alfaspider wrote:As discussed above, I think whether pre-paying is a good idea is highly impacted by personal situation. A few factors with considering:

2) Marginal tax rates and itemization. My property taxes swallow the standard deduction, so I can deduct all of my mortgage interest at my top marginal rate. No state income tax, however. Others may get an even bigger benefit from the mortgage interest deduction, or close to none at all.


Can you deduct state income tax when itemizing? I didn't think you could.

I thought we could deduct our loan interest but now knowing std deduction is 12,600 we're not even close to that in property tax + interest. At 3.375 I'm more tempted to pay it off.
"Squirrels figured out how to save eons ago. They buried acorns. Some, they dug up, for food. Others, they let to sprout, in new oak trees. We could learn from squirrels." -john94549

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Re: mortgage pre payment, why?

Post by michaeljc70 » Thu Apr 21, 2016 3:17 pm

I agree with the OP on just about all the points.

If it makes you feel better paying it off, go ahead. Financially, unless you have horrible timing or invest extremely conservatively, I think you won't come out ahead pre-paying the mortgage. That is with where rates are now.

My mortgage is 3.375% and I thought about prepaying, but figured it wasn't really worth it. Since the market seems a little lofty to me now, I have opted to prepay extra $$ toward my mortgage once in a while rather than invest it lately.

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Re: mortgage pre payment, why?

Post by michaeljc70 » Thu Apr 21, 2016 3:21 pm

tumbleweedsusan wrote:We paid off our mortgage 2 years ago. What a feeling.
We are saving 10 years of interest. No insignificant sum of money.

Since then..
I have lost 1 of my 4 clients. They went out of business.
My husband's company is being bought now. He may lose his job.
No one is taking our home from us.
Our neighborhood is FULL of homes on foreclosure...people who once asked the same question you are asking...I guess life got in their way. Or bad math. False hope.

But we lost the mortgage interest deduction on our taxes! Oh woo is us!

I will take the saved interest and the guarantee we will have a roof over our head in a year any day over a deduction. Keep your deduction.

Do the math. The mortgage deduction is not worth the interest you save. All I can tell you, without doing the math....our investment accounts have skyrocketed since we no longer have $2,000 a month to pay...and invest that instead. I see the #s before my eyes. It is overwhelming.

I get a lot of people looking at us like we are crazy for paying off our mortgage. Most people only know a life of debt and don't understand another way. We found another way. It is wonderful. Truly. I promise you.


But wouldn't having that extra cash help you if your income is dropping?? I get your expenses are lower, but as the OP said, that money is now tied up in the house and not easy to get out, especially with no job/lower income.

The biggest issue I see on this topic all the time is ignoring the opportunity cost of paying off the mortgage. If the question is pay extra on the mortgage or spend the money on junk, then yes, pay the extra principal. But usually people are talking about paying extra principal vs saving/investing the money.

Pre-paying your mortgage makes zero change to your net worth. It will save you interest, but will that be more than you could have earned if you saved/invested that money?

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Re: mortgage pre payment, why?

Post by Late2theParty » Sat Apr 23, 2016 9:58 am

Entire thread seems to assume same mortgage (so living in same house) for duration of loan. Given that the national average is about 7 years in a given home (average 30 y.o. moves five more times and average 50 y.o. twice, per FiveThirtyEight), for many of us the issue is not merely the emotional fuzzy of being debt-free, but a pure number crunch of a guarantee of 3-4% (depending on mortgage interest rate) versus similar guarantee in bonds yielding < 2%.

Early mortgage pay-off can, as noted above, create liquidity issues if one has inadequate savings already. And some people may be very certain that they will not be moving, or that similar interest rates will exist when they need to finance a new house. For folks who are maxing sheltered accounts, have adequate cash available, and think they have an average chance of moving in the future, paying off a mortgage can be objectively the better choice for money that would be invested in very low risk fixed income vehicles otherwise.

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Re: mortgage pre payment, why?

Post by alfaspider » Mon Apr 25, 2016 3:26 pm

BW1985 wrote:
alfaspider wrote:As discussed above, I think whether pre-paying is a good idea is highly impacted by personal situation. A few factors with considering:

2) Marginal tax rates and itemization. My property taxes swallow the standard deduction, so I can deduct all of my mortgage interest at my top marginal rate. No state income tax, however. Others may get an even bigger benefit from the mortgage interest deduction, or close to none at all.


Can you deduct state income tax when itemizing? I didn't think you could.

I thought we could deduct our loan interest but now knowing std deduction is 12,600 we're not even close to that in property tax + interest. At 3.375 I'm more tempted to pay it off.


You can deduct state income taxes.

https://www.irs.gov/taxtopics/tc503.html

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Re: mortgage pre payment, why?

Post by BW1985 » Tue Apr 26, 2016 8:48 am

alfaspider wrote:
BW1985 wrote:
alfaspider wrote:As discussed above, I think whether pre-paying is a good idea is highly impacted by personal situation. A few factors with considering:

2) Marginal tax rates and itemization. My property taxes swallow the standard deduction, so I can deduct all of my mortgage interest at my top marginal rate. No state income tax, however. Others may get an even bigger benefit from the mortgage interest deduction, or close to none at all.


Can you deduct state income tax when itemizing? I didn't think you could.

I thought we could deduct our loan interest but now knowing std deduction is 12,600 we're not even close to that in property tax + interest. At 3.375 I'm more tempted to pay it off.


You can deduct state income taxes.

https://www.irs.gov/taxtopics/tc503.html


Thanks, I've never itemized before.
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Re: mortgage pre payment, why?

Post by ensign » Tue Apr 26, 2016 9:10 am

Paying off the mortgage is only about half the cost of owning a home. Property taxes, insurance, and maintenance often exceed the mortgage payment. I lived mortgage-free for 15 years and never felt any richer for it. In fact, writing big checks once a year for taxes and interest made me feel poor on those days. :(

I agree with OP. I'd rather have $500k in cash and a $500k mortgage (given today's ultra-low rates) than no cash and no mortgage.

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Re: mortgage pre payment, why?

Post by kenyan » Tue Apr 26, 2016 9:37 am

investnoob wrote:
In Canada, mortgage lending seems to be a lot different. We do not get 30 year fixed mortgages. Instead we normally get 5 year terms with either a fixed or variable interest rate. Every 5 years we have to "renew" our mortgage. So there is greater "interest rate risk," I think. Also, the interest on our mortgages is not tax deductible.


That's part of the reason I'm paying down my mortgage. I don't live in Canada, but I have a 5/5 ARM that acts in the same manner you've described (fixed for each 5 years), and paying extra now reduces the risk of interest rate rises later. Granted, I do have the option of refinancing into a fixed-rate mortgage, but another issue is paying enough extra to get the principal balance below the "high-cost conforming" level it's currently at, and into fully conforming territory.

Even if I had a fixed rate, I believe that my inclination would be to pay down the mortgage over investing, once all retirement accounts are maxed. 30-year mortgage rate right now is ~3.75% vs. a 2.60% 30-year treasury. Equivalent at a itemizing marginal tax rate of just over 30%, which is close to where we are (25% bracket + 9.3% state taxes, which works out to about 32% considering deductibility of state taxes). Given that your earnings on the treasury are federally taxed, the balance tips in favor of mortgage payoff. Once you reach the standard deduction threshold, mortgage payoff becomes much more attractive as well.
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Re: mortgage pre payment, why?

Post by grabiner » Tue Apr 26, 2016 6:12 pm

rai wrote:What about the phase out in the tax code? High earners can have up to 80% of their tax deduction phased out.


If you pay state income taxes, the amount of itemized deductions which are phased out is almost always less than your state tax, so the phase-out behaves just as if it were an increase in your federal tax rate; it doesn't affect the marginal deductibility of anything else. Even if you don't pay state income taxes, most high earners have a lot of other deductions, such as state sales taxes and property taxes.

It can be an issue for state taxes; in New York, for example, all itemized deductions are only partly deductible for high-income taxpayers, with a large income range for which half of itemized deductions are deducted.
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Re: mortgage pre payment, why?

Post by randomguy » Tue Apr 26, 2016 6:37 pm

Late2theParty wrote:Entire thread seems to assume same mortgage (so living in same house) for duration of loan. Given that the national average is about 7 years in a given home (average 30 y.o. moves five more times and average 50 y.o. twice, per FiveThirtyEight), for many of us the issue is not merely the emotional fuzzy of being debt-free, but a pure number crunch of a guarantee of 3-4% (depending on mortgage interest rate) versus similar guarantee in bonds yielding < 2%.




House stays are really bimodal. You get a lot of people with short stays (don't like the area after a transfer, bought a condo, go married and want a house...) and a lot with long stays (30+ years). You need to decide which group you are in. If you are likely in the first one, renting is probably a better move (yeah if the house appreciates a ton you lose, but with normal rates and 3-4 year stays you end up breaking even after paying commisions).

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Re: mortgage pre payment, why?

Post by FoolStreet » Tue Apr 26, 2016 11:08 pm

boglesmind wrote:
grabiner wrote:
wrongfunds wrote:Are CA residents exempt from AMT? I am still having hard time believing that high mortgage, high real estate taxes and high state taxes and high income has not put OP in the AMT. Once AMT hits, all the rules are different. Or may be I am the one who has misunderstood AMT.


CA residents are subject to the AMT, but this may actually make mortgage deductions more valuable. ...


+1


I don't understand. Can you elaborate please? I read Kitces article on AMT and it seemed like MFJ is in the AMT hump up until something like $500k income. AMT is incredibly confusing.

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Re: mortgage pre payment, why?

Post by emoore » Tue Apr 26, 2016 11:25 pm

ensign wrote:Paying off the mortgage is only about half the cost of owning a home. Property taxes, insurance, and maintenance often exceed the mortgage payment. I lived mortgage-free for 15 years and never felt any richer for it. In fact, writing big checks once a year for taxes and interest made me feel poor on those days. :(

I agree with OP. I'd rather have $500k in cash and a $500k mortgage (given today's ultra-low rates) than no cash and no mortgage.


+1
Paying off my mortgage would reduce my expenses but not significantly. I go back and forth if I should pay it off early but I usually decide against it.

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Re: mortgage pre payment, why?

Post by HomerJ » Wed Apr 27, 2016 11:02 am

ensign wrote:I'd rather have $500k in cash and a $500k mortgage (given today's ultra-low rates) than no cash and no mortgage.


I'd rather have $500k invested and no mortgage instead of $1 million invested and a $500k mortgage.

If the money was in bonds or CDs, you'd probably get just as good a return paying off the mortgage.
If the money was in stocks, you risk a crash happening and now you only have $600k invested but that $500k mortgage is still there. Hope you don't lose your job at the same time the market crashes (those two events are correlated for most of us though).

My expenses are about $6000 a month... They used to be $8000 a month, when I had a mortgage. That's a pretty big change for me.

My wife was able to quit a job she hated because it was easy to cover expenses, and still have extra savings on my salary alone... If the mortgage wasn't paid off, it would have been tight.

Sure, if we had $1 million and $500k mortgage, we could have just pulled money each month out of our investments.

But I would have a real problem pulling money out each month from my retirement savings to cover living expenses. That would feel like I was failing. Plus, it's risky... I don't want to be pulling money out of my retirement accounts that could drop at any time. Instead of putting more in during a crash, I'd be pulling money out, locking in losses.

Mortgage free was a great day. I have near-zero financial worries now.

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Re: mortgage pre payment, why?

Post by grabiner » Wed Apr 27, 2016 6:16 pm

FoolStreet wrote:
boglesmind wrote:
grabiner wrote:CA residents are subject to the AMT, but this may actually make mortgage deductions more valuable. ...


+1


I don't understand. Can you elaborate please? I read Kitces article on AMT and it seemed like MFJ is in the AMT hump up until something like $500k income. AMT is incredibly confusing.


If you are not paying AMT, you are probably in the 33% tax bracket, and your CA tax of 9.3% is deductible from federal tax, so it only costs you 6.2%. Your combined marginal tax rate is 39.2%; that is, $1000 of mortgage interest saves you $392 in tax.

If you are paying AMT and are in the exemption phase-out, your marginal AMT tax rate is 35%, and your CA tax of 9.3% is not deductible from federal AMT. Your combined marginal tax rate is 44.3%.
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Re: mortgage pre payment, why?

Post by stemikger » Thu Apr 28, 2016 12:08 am

In my case, it was purely emotional. I'm not a numbers guy, I just like keeping my life simple.

The bottom line is it gave me great piece of mind and that is worth the extra percent I could possibly get from other investments.
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Re: mortgage pre payment, why?

Post by FoolStreet » Thu Apr 28, 2016 12:26 am

grabiner wrote:
FoolStreet wrote:
boglesmind wrote:
grabiner wrote:CA residents are subject to the AMT, but this may actually make mortgage deductions more valuable. ...


+1


I don't understand. Can you elaborate please? I read Kitces article on AMT and it seemed like MFJ is in the AMT hump up until something like $500k income. AMT is incredibly confusing.


If you are not paying AMT, you are probably in the 33% tax bracket, and your CA tax of 9.3% is deductible from federal tax, so it only costs you 6.2%. Your combined marginal tax rate is 39.2%; that is, $1000 of mortgage interest saves you $392 in tax.

If you are paying AMT and are in the exemption phase-out, your marginal AMT tax rate is 35%, and your CA tax of 9.3% is not deductible from federal AMT. Your combined marginal tax rate is 44.3%.


Thank you for replying David.

In the second scenario, does that mean $1k of mortgage interest saves $443 in tax? I am having a hard time understanding if I lose my mortgage interest deduction while paying AMT or not. Also, in the 2nd example, the top AMT rate is 28%(not 35%).

I think I need to read Kitces articles a few more times through. :-)

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