Reduce roth 401(k) to just match to prepay mortgage?

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B4Xt3r
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Reduce roth 401(k) to just match to prepay mortgage?

Post by B4Xt3r » Wed Oct 23, 2019 5:48 am

Hi All,

I am deciding whether contributions beyond the company match to a roth 401(k) are worthwhile when one has a mortgage. Am I thinking through things correctly?

Prepaying mortgage:
  • Equivalent to a bond with after tax risk free return of the mortgage rate (~4%)
  • That bond is reasonably illiquid, its "redeemable" on a 6-9 month timeframe by selling the house. So one should have an e-fund that covers this period.
Contributing beyond 401(k) match:
  • Best after tax risk free rate is ~2-3%, so on a risk-adjusted basis the mortgage is a clear winner
  • Historically can get better than mortgage rate of return by taking more risk
  • These investments are far more liquid
My feelings at the moment are leading me to prepaying mortgage:
  • After tax guaranteed return of mortgage rate is better on a risk adjusted basis than anything I can purchase in my 401(k)
  • I derive some (but I am not fixated) on being debt free
  • I have an e-fund so the illiquidity doesn't bother me
  • It seems most people bogle's formula & current valuations have historically predicted low stock returns for this particular mortgage period (yes, this is soft market-timing)
-b4xt3r
Last edited by B4Xt3r on Thu Oct 24, 2019 7:18 am, edited 1 time in total.

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JoeRetire
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by JoeRetire » Wed Oct 23, 2019 8:06 am

B4Xt3r wrote:
Wed Oct 23, 2019 5:48 am
After tax guaranteed return of mortgage rate is better on a risk adjusted basis than anything I can purchase in my 401(k)
Are you extremely risk-intolerant?

Risk-adjusted basis means nothing. Compare your imagined prepay "returns" to the returns you anticipate with your current asset allocation (which I assume is how you actually invest within your 401(k).)
Don't be a lemming.

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teen persuasion
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by teen persuasion » Wed Oct 23, 2019 8:15 am

Details are important. How much is "to the match"? For that matter, how good is the match (1 to 1, or .25)? How high is your income, relative to the 401k max? How long until you expect to retire the mortgage? How much do you already have in retirement accounts, growing even if you drop contributions? Any refundable credits which you might be foregoing by skipping tax deferred saving? Why Roth 401k instead of pre-tax?

We were only contributing to the match, and chose to aggressively pay down our mortgage, but we had an ugly 9.75% mortgage rate. We also had a single income of ~$35k for a family of 7, so not lots leftover to save. DH wasn't much of a saver, but at least recognized that capturing the match was a no brainer. When his employer decided to drop the match (during the recession), his instinct was to stop contributing altogether - while I wanted to try to replace the lost match by doubling our contribution. I tweaked his withholdings to keep take home nearly the same, so it was painless. Then I learned something - the more we contributed to the 401k (not Roth), the larger our tax refunds were, not simply because of reduced taxable income, but mainly because of increased refundable credits like EITC. It was compounded because our state partially matches refundable credits, so that refund was also larger. Those refunds were our main mortgage prepayment avenue. So I tweaked things again, and doubled his contribution again. Student loans got paid off, doubled contributions again, etc. So I was INCREASING our 401k contributions to pay off the mortgage faster (and make up for lost time).

For us, the EITC phaseout rate is 21%, so $1k more to 401k is an increase of $210 in our refundable federal credits. NYS matches at 30%, so another $63 increase. We avoid $10% federal tax and 4% state tax, so an additional $140. That's a total of $413, or 41.3% on contributions.

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by Spirit Rider » Wed Oct 23, 2019 9:12 am

Tax-advantaged contribution space has value. Failure to use it has a significant lost opportunity cost.

Using taxable income/investments to pre-pay a mortgage, maybe. I would never pre-pay a 4% mortgage when I had tax-advantaged contribution space available.

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by JW-Retired » Wed Oct 23, 2019 9:17 am

B4Xt3r wrote:
Wed Oct 23, 2019 5:48 am
I am deciding whether contributions beyond the company match to a roth 401(k) are worthwhile when one has a mortgage. Am I thinking through things correctly?
What's your tax bracket? Unless it's very low wouldn't it be better to have a traditional 401(k) and then apply all the tax money you save to the mortgage?
JW
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mhalley
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by mhalley » Wed Oct 23, 2019 10:45 am

Absolutely not. Mortgage interest rates are at the lowest they have been in decades. Max out retirement accounts and pay the mortgage as agreed.

Admiral
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by Admiral » Wed Oct 23, 2019 10:57 am

Why are you saving in Roth and not pre-tax? What are your incomes and marginal tax rate, and when do you plan to retire? What is your current portfolio?

Pre-tax is better for the vast majority of people. And pre-tax vs pre-paying a 4% mortgage is a no-brainer.

DSInvestor
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by DSInvestor » Wed Oct 23, 2019 11:06 am

Unless you're in low tax brackets fed and state, I'd suggest maxing out Traditional 401(k) and then Roth IRA before making extra mortgage principal payments.
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by Grt2bOutdoors » Wed Oct 23, 2019 11:10 am

OP - How old are you? Are you retired?
There is no way I would prepay the mortgage in lieu of pre-tax retirement savings. The amount of tax-deferred or tax-free retirement space is limited each year by law, you should seek to fill that bucket first before prepayment of your mortgage. If you have to make the choice, the retirement plan wins. If you follow Dave Ramsey, then I can see why you are asking this question, but I still recommend your retirement plan coming first.
"One should invest based on their need, ability and willingness to take risk - Larry Swedroe" Asking Portfolio Questions

lakpr
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by lakpr » Wed Oct 23, 2019 11:18 am

Coming late into this thread, and I agree with all the points being made above.
- Unless you are in the 12% bracket, Roth 401(k) does not make sense
- Contribute to a traditional 401k on a tax-deferred basis, up to the max. Assuming a state tax rate of 5% and federal tax rate of 22%, deferring $19k into traditional 401k will net you $5130. Add just $870 more ($36 per paycheck), you can max out the Roth IRA.
- 4% mortgage rate can be beat easily in the stock market, with a little bit of risk. It's not guaranteed, but if you have a reasonably long horizon (> 7 years), 4% rate can be beat even on an after-tax basis. So no hurry to repay.
- You CAN view the mortgage as a negative bond, and if you have bond allocations in your portfolio, you may view prepaying the mortgage as increasing your bond allocation.
- Always max out the 401k and IRA space every year. Once given up, it can NEVER be claimed back.

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Brianmcg321
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by Brianmcg321 » Wed Oct 23, 2019 11:22 am

No. Bad idea.

Max 401k
Max Roth IRA
Anything left over can go to mortgage.
Rules to investing: | 1. Don't lose money. | 2. Don't forget rule number 1.

wolf359
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by wolf359 » Wed Oct 23, 2019 11:24 am

Can you do both?

You're currently contributing to the Roth 401(k).
1) If instead you contributed to a traditional 401(k), your taxable income would drop, reducing your taxes.
2) Use the tax savings to pay down your principal.

Neither your 401(k) nor your house are liquid assets. Your only true liquid funds are the aftertax investments and your emergency fund.

You may also want to invest in a Roth IRA after you get the company match. The Roth IRA contributions may also be withdrawn without penalty. That will also give you some liquidity if you need it. (It's a last resort, because once the money is out, you can't get it back in.)

barnaclebob
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by barnaclebob » Wed Oct 23, 2019 11:25 am

How about doing a refi to low 3% rates with a shorter term and keeping the 401k contributions up? That would accomplish both goals.

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by MotoTrojan » Wed Oct 23, 2019 2:17 pm

+1 to the questions asking why Roth 401k when you could do traditional and then have a chunk of change to toss at the mortgage at the same time.

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by retiredjg » Wed Oct 23, 2019 3:38 pm

mhalley wrote:
Wed Oct 23, 2019 10:45 am
Absolutely not. Mortgage interest rates are at the lowest they have been in decades. Max out retirement accounts and pay the mortgage as agreed.
Head scratcher. They don't seem to be as low as when I bought 5 years ago.

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by retiredjg » Wed Oct 23, 2019 3:39 pm

DSInvestor wrote:
Wed Oct 23, 2019 11:06 am
Unless you're in low tax brackets fed and state, I'd suggest maxing out Traditional 401(k) and then Roth IRA before making extra mortgage principal payments.
In general, I think this is the way to go. But we don't know much about your situation.

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B4Xt3r
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by B4Xt3r » Wed Oct 23, 2019 6:00 pm

Let's assume for the moment that I'm sticking with roth 401(k).

mhalley
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by mhalley » Wed Oct 23, 2019 6:03 pm

I'm talking about in general. Sure, they were a little lower sev years ago, but still much lower than they used to be.

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by retiredjg » Wed Oct 23, 2019 6:15 pm

mhalley wrote:
Wed Oct 23, 2019 6:03 pm
I'm talking about in general. Sure, they were a little lower sev years ago, but still much lower than they used to be.
I think we would agree that paying off low interest debt, does not have a financial advantage. I was wondering if I was missing something about current interest rates.

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B4Xt3r
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by B4Xt3r » Wed Oct 23, 2019 7:52 pm

Spirit Rider wrote:
Wed Oct 23, 2019 9:12 am
Tax-advantaged contribution space has value. Failure to use it has a significant lost opportunity cost.

Using taxable income/investments to pre-pay a mortgage, maybe. I would never pre-pay a 4% mortgage when I had tax-advantaged contribution space available.
Yes, I'm trying to value it.

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B4Xt3r
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by B4Xt3r » Wed Oct 23, 2019 7:53 pm

mhalley wrote:
Wed Oct 23, 2019 10:45 am
Absolutely not. Mortgage interest rates are at the lowest they have been in decades. Max out retirement accounts and pay the mortgage as agreed.
Could you explain why you have such a strong opinion?

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by B4Xt3r » Wed Oct 23, 2019 7:53 pm

Grt2bOutdoors wrote:
Wed Oct 23, 2019 11:10 am
OP - How old are you? Are you retired?
There is no way I would prepay the mortgage in lieu of pre-tax retirement savings. The amount of tax-deferred or tax-free retirement space is limited each year by law, you should seek to fill that bucket first before prepayment of your mortgage. If you have to make the choice, the retirement plan wins. If you follow Dave Ramsey, then I can see why you are asking this question, but I still recommend your retirement plan coming first.
Could you explain why the retirement plan wins?

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by mhalley » Wed Oct 23, 2019 9:10 pm

The average stock market returns are around 10%. The average mortgage these days is around 4. Couple that with years of tax free compound interest, and it’s not much of a contest imho.
You might check out WCI post on invest vs pay off debt.

https://www.whitecoatinvestor.com/pay-o ... or-invest/

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by Grt2bOutdoors » Wed Oct 23, 2019 9:23 pm

B4Xt3r wrote:
Wed Oct 23, 2019 7:53 pm
Grt2bOutdoors wrote:
Wed Oct 23, 2019 11:10 am
OP - How old are you? Are you retired?
There is no way I would prepay the mortgage in lieu of pre-tax retirement savings. The amount of tax-deferred or tax-free retirement space is limited each year by law, you should seek to fill that bucket first before prepayment of your mortgage. If you have to make the choice, the retirement plan wins. If you follow Dave Ramsey, then I can see why you are asking this question, but I still recommend your retirement plan coming first.
Could you explain why the retirement plan wins?
1) Each year the amount you can contribute to a retirement plan on either a pre-tax or after-tax basis is capped. If you fail to contribute in 2019, you can not make up for the missed contribution amount in 2020. Let's say in 2019 you are on track to contribute $10K but you instead choose to take a holiday and make up for it in 2020. The max you can contribute is again $19K in 2020 - you fail to play catch-up due to the limitation. You are short $1K.

2) If invested as a traditional pension plan might be, a 60/40 fund might return 7%, this year they are actually returning quite a bit more, but for this example we will use 7%. Your mortgage costs you, 3.5% and part of it is tax-deductible, so let's say your net cost is 2.75%. By funding the retirement plan, your money is growing at a faster rate of return with zero tax implications. The net spread between the fund's return and your after-tax cost is 4.25%. At the end of year 1, retirement account is worth $10,700. In year 2, account is worth $10.700 + another $10,000 in contributions, plus growth. Each subsequent year, compounding will continue to grow, slowly at first, but by year 20-30 you will be surprised just how much it has grown.

3) A dollar saved in a pre-tax or after-tax retirement account today could be worth $7.61, leave it in for 50 years its worth $29.46. Chances are you are not going to withdraw all of your retirement balances on day 1 of retirement.

4) You could choose to invest part of your money in a taxable account, but you would lose tax deferral benefits on reinvested dividends. That could be your mortgage pre-payment fund, if and when you ultimately decide to pay off the mortgage in full.

5) If you pre-pay your mortgage on a monthly basis, you give up a semi-accessible value in exchange for an illiquid asset (your house). Borrowing from a retirement plan should be considered semi accessible because of the tax implications that could result from having a employer retirement plan loan at the time of job loss. IMO would only recommend pre-paying the mortgage if you are sufficiently liquid and are already able to save for retirement first. Sufficiently liquid - you have a significant pool of readily accessible funds in the event of an economic downturn or emergency without having to resort to taking out leverage (debt) or you have a large amount of monthly disposable income after expenses and your livelihood is secure.
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by Grt2bOutdoors » Wed Oct 23, 2019 9:30 pm

B4Xt3r wrote:
Wed Oct 23, 2019 5:48 am
Hi All,

I am deciding whether contributions beyond the company match to a roth 401(k) are worthwhile when one has a mortgage. Am I thinking through things correctly?


My feelings at the moment are leading me to prepaying mortgage:
  • After tax guaranteed return of mortgage rate is better on a risk adjusted basis than anything I can purchase in my 401(k)
  • I derive some (but I am not fixated) on being debt free
  • I have an e-fund so the illiquidity doesn't bother me
  • It seems most people predict low stock returns for this particular mortgage period (yes, this is soft market-timing)
-b4xt3r
List your available fund choices in your 401k with expense ratios.
Don't base your financial success or failures on "most people". Most people have zero clue including the talking heads on CNBC. Most people are just repeating or regurgitating known news, they have no idea what tomorrow brings as their crystal ball is as cloudy, if not cloudier than mine. Most active investment managers think they are doing just fine, that's why 80% of them underperform the market.

Are you comparing your 401K bond funds to that of your mortgage? How are you currently allocated in your retirement plan?
"One should invest based on their need, ability and willingness to take risk - Larry Swedroe" Asking Portfolio Questions

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by grabiner » Wed Oct 23, 2019 9:39 pm

mhalley wrote:
Wed Oct 23, 2019 9:10 pm
The average stock market returns are around 10%. The average mortgage these days is around 4. Couple that with years of tax free compound interest, and it’s not much of a contest imho.
Bond yields are 2.22% (Vanguard Total Bond Market) or 1.58% in a taxable account (Admiral shares of Vanguard Intermediate-Term Tax-Exempt). This makes an even stronger argument that you should sell all your bonds to buy stocks.

But most investors don't do this, because they have some level of risk aversion; they would prefer to hold some bonds yielding 2.22% to stocks, and thus should more strongly prefer paying down a mortgage for a 4% risk-free return to buying more stocks. (But if you can refinance the mortgage to 3.25% and it is deductible in a 22% tax bracket, for an after-tax rate of 2.53%, maxing out a 401(k) is probably worth the 0.31% loss in yield.)
Wiki David Grabiner

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by B4Xt3r » Thu Oct 24, 2019 7:14 am

mhalley wrote:
Wed Oct 23, 2019 9:10 pm
The average stock market returns are around 10%. The average mortgage these days is around 4. Couple that with years of tax free compound interest, and it’s not much of a contest imho.
You might check out WCI post on invest vs pay off debt.

https://www.whitecoatinvestor.com/pay-o ... or-invest/
Just out of curiosity, did you notice that the WCI article does reference my pov, "The higher the valuations, the lower expected returns may be. 8 years into a bull market? Maybe you should pay off your mortgage."

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by B4Xt3r » Thu Oct 24, 2019 7:17 am

Grt2bOutdoors wrote:
Wed Oct 23, 2019 9:30 pm
B4Xt3r wrote:
Wed Oct 23, 2019 5:48 am
...
List your available fund choices in your 401k with expense ratios.
Don't base your financial success or failures on "most people". Most people have zero clue including the talking heads on CNBC. Most people are just repeating or regurgitating known news, they have no idea what tomorrow brings as their crystal ball is as cloudy, if not cloudier than mine. Most active investment managers think they are doing just fine, that's why 80% of them underperform the market.

Are you comparing your 401K bond funds to that of your mortgage? How are you currently allocated in your retirement plan?
I shouldn't have said most people, I meant Bogle's formula & current valuations and have edited the first post to clarify that. All my 401(k) options are boglehead approved and with the next marginal dollar into it I could set an AA that I want.

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by B4Xt3r » Thu Oct 24, 2019 7:21 am

grabiner wrote:
Wed Oct 23, 2019 9:39 pm
mhalley wrote:
Wed Oct 23, 2019 9:10 pm
The average stock market returns are around 10%. The average mortgage these days is around 4. Couple that with years of tax free compound interest, and it’s not much of a contest imho.
Bond yields are 2.22% (Vanguard Total Bond Market) or 1.58% in a taxable account (Admiral shares of Vanguard Intermediate-Term Tax-Exempt). This makes an even stronger argument that you should sell all your bonds to buy stocks.

But most investors don't do this, because they have some level of risk aversion; they would prefer to hold some bonds yielding 2.22% to stocks, and thus should more strongly prefer paying down a mortgage for a 4% risk-free return to buying more stocks. (But if you can refinance the mortgage to 3.25% and it is deductible in a 22% tax bracket, for an after-tax rate of 2.53%, maxing out a 401(k) is probably worth the 0.31% loss in yield.)
^ Paying off mortgage is equivalent to tax free growth, right? So isn't it just comparing the interest rate to the expected returns of the investment.

10% nominal is fair, but a little high. Simbas backtesting sheet puts it at between 8&9%.

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by B4Xt3r » Thu Oct 24, 2019 7:28 am

Grt2bOutdoors wrote:
Wed Oct 23, 2019 9:23 pm
B4Xt3r wrote:
Wed Oct 23, 2019 7:53 pm
Grt2bOutdoors wrote:
Wed Oct 23, 2019 11:10 am
OP - How old are you? Are you retired?
There is no way I would prepay the mortgage in lieu of pre-tax retirement savings. The amount of tax-deferred or tax-free retirement space is limited each year by law, you should seek to fill that bucket first before prepayment of your mortgage. If you have to make the choice, the retirement plan wins. If you follow Dave Ramsey, then I can see why you are asking this question, but I still recommend your retirement plan coming first.
Could you explain why the retirement plan wins?
1) Each year the amount you can contribute to a retirement plan on either a pre-tax or after-tax basis is capped. If you fail to contribute in 2019, you can not make up for the missed contribution amount in 2020. Let's say in 2019 you are on track to contribute $10K but you instead choose to take a holiday and make up for it in 2020. The max you can contribute is again $19K in 2020 - you fail to play catch-up due to the limitation. You are short $1K.

True, in the case that I have enough free cash flow to max out my retirement account.

2) If invested as a traditional pension plan might be, a 60/40 fund might return 7%, this year they are actually returning quite a bit more, but for this example we will use 7%. Your mortgage costs you, 3.5% and part of it is tax-deductible, so let's say your net cost is 2.75%. By funding the retirement plan, your money is growing at a faster rate of return with zero tax implications. The net spread between the fund's return and your after-tax cost is 4.25%. At the end of year 1, retirement account is worth $10,700. In year 2, account is worth $10.700 + another $10,000 in contributions, plus growth. Each subsequent year, compounding will continue to grow, slowly at first, but by year 20-30 you will be surprised just how much it has grown.

If one deducts, it does make the case stronger against prepaying the mortgage. This comment made me think of something, aren't mortgages simple interest but investments are compound interest? If that is true, I may have to rethink things.

3) A dollar saved in a pre-tax or after-tax retirement account today could be worth $7.61, leave it in for 50 years its worth $29.46. Chances are you are not going to withdraw all of your retirement balances on day 1 of retirement.
A dollar saved on a mortage compounds too.

4) You could choose to invest part of your money in a taxable account, but you would lose tax deferral benefits on reinvested dividends. That could be your mortgage pre-payment fund, if and when you ultimately decide to pay off the mortgage in full.

5) If you pre-pay your mortgage on a monthly basis, you give up a semi-accessible value in exchange for an illiquid asset (your house). Borrowing from a retirement plan should be considered semi accessible because of the tax implications that could result from having a employer retirement plan loan at the time of job loss. IMO would only recommend pre-paying the mortgage if you are sufficiently liquid and are already able to save for retirement first. Sufficiently liquid - you have a significant pool of readily accessible funds in the event of an economic downturn or emergency without having to resort to taking out leverage (debt) or you have a large amount of monthly disposable income after expenses and your livelihood is secure.
I do agree that prepaying a mortgage is likely unwise unless one has ~ 1 year of liquidity.

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by Admiral » Thu Oct 24, 2019 10:51 am

Decisions about pre-paying a mortgage cannot be made in a vacuum. This is why I (and many others) are asking why you have chosen to use Roth, how close you are to retirement, and what your portfolio looks like. Without such information, the advice you will get will only be the most general kind.

When you note that we should assume you're "sticking with Roth for now" but don't explain why, that tells me you either have not thought through the implications, or don't understand them. When you ask why saving for retirement is better than pre-paying a mortgage (and Grt2bOutdoors explained it well) that tells me you don't have a complete understanding of the tax implications or the nature of compound interest in retirement accounts.

There are very, very few situations where paying down a low-interest, fixed rate mortgage is preferable to ANY retirement savings (pre- or after tax) with the possible exception of someone who is very close to retirement and wants to get rid of a mortgage, or someone who has more than enough saved and can forego further savings. That's why you've been asked, repeatedly, to provide some detail.

If you don't care to, then you should just carry on. But you did post the question in the first place.

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by B4Xt3r » Thu Oct 24, 2019 5:32 pm

Admiral wrote:
Thu Oct 24, 2019 10:51 am
Decisions about pre-paying a mortgage cannot be made in a vacuum. This is why I (and many others) are asking why you have chosen to use Roth, how close you are to retirement, and what your portfolio looks like. Without such information, the advice you will get will only be the most general kind.

When you note that we should assume you're "sticking with Roth for now" but don't explain why, that tells me you either have not thought through the implications, or don't understand them. When you ask why saving for retirement is better than pre-paying a mortgage (and Grt2bOutdoors explained it well) that tells me you don't have a complete understanding of the tax implications or the nature of compound interest in retirement accounts.

There are very, very few situations where paying down a low-interest, fixed rate mortgage is preferable to ANY retirement savings (pre- or after tax) with the possible exception of someone who is very close to retirement and wants to get rid of a mortgage, or someone who has more than enough saved and can forego further savings. That's why you've been asked, repeatedly, to provide some detail.

If you don't care to, then you should just carry on. But you did post the question in the first place.
I think you can be a bit more generous, I am asking questions because I don't understand things. I can create a low ER 3/4 fund portfolio in my Roth 401(k), which I'm sticking with for reasons unrelated to this thread.

My question is this, if I have $1 that I can invest today @ 4% or pay extra to the mortgage which is also 4%, at the end of the 30 year mortgage, is my NW the same or different? I don't know the answer; I'm curious if someone here does.

Admiral
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by Admiral » Fri Oct 25, 2019 5:29 am

B4Xt3r wrote:
Thu Oct 24, 2019 5:32 pm
Admiral wrote:
Thu Oct 24, 2019 10:51 am
Decisions about pre-paying a mortgage cannot be made in a vacuum. This is why I (and many others) are asking why you have chosen to use Roth, how close you are to retirement, and what your portfolio looks like. Without such information, the advice you will get will only be the most general kind.

When you note that we should assume you're "sticking with Roth for now" but don't explain why, that tells me you either have not thought through the implications, or don't understand them. When you ask why saving for retirement is better than pre-paying a mortgage (and Grt2bOutdoors explained it well) that tells me you don't have a complete understanding of the tax implications or the nature of compound interest in retirement accounts.

There are very, very few situations where paying down a low-interest, fixed rate mortgage is preferable to ANY retirement savings (pre- or after tax) with the possible exception of someone who is very close to retirement and wants to get rid of a mortgage, or someone who has more than enough saved and can forego further savings. That's why you've been asked, repeatedly, to provide some detail.

If you don't care to, then you should just carry on. But you did post the question in the first place.
I think you can be a bit more generous, I am asking questions because I don't understand things. I can create a low ER 3/4 fund portfolio in my Roth 401(k), which I'm sticking with for reasons unrelated to this thread.

My question is this, if I have $1 that I can invest today @ 4% or pay extra to the mortgage which is also 4%, at the end of the 30 year mortgage, is my NW the same or different? I don't know the answer; I'm curious if someone here does.
Trying to be generous, as we all are, but if you want the best explanations it helps to have more detail on your situation. Or is this just a theoretical question? You now seem to be asking about net worth, which is irrelevant. Yes, if the investing return and the mortgage rate are the same, then it's a wash. But having a paid off house worth $500k or a retirement account worth $500k results in the same net worth, but a much different situation financially.

dalbright
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by dalbright » Fri Oct 25, 2019 6:27 am

Without your exact numbers for mortgage rate and debt to equity its hard to say for sure. That being said have you run calculators to see how much you would save over the remaining years of the mortgage as well as how much sooner the payoff period would be? Another factor is how long you plan to spend in the house. If you move frequently then its easier to have money out of the house whereas if its for the long haul, owning outright is rather nice! This thread is similar to the leveraged investing topics that come up, since the mortgage is being leveraged to fill the roth. If you find yourself despising those people/topics then paying the mortgage down may be the right way to go. My wife and I personally fill our roth IRA's and then are putting some in a 401k but focusing strongly on the house mortgage. Running the extra payments calculator's can be rather eye opening! Also in a 401k there is no guarantee unless you have a stable value like fund (or MM) as even a quality bond fund can lose money if rates go up, since you cannot purchase bonds/bills directly.

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CyclingDuo
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by CyclingDuo » Fri Oct 25, 2019 6:45 am

B4Xt3r wrote:
Wed Oct 23, 2019 6:00 pm
Let's assume for the moment that I'm sticking with roth 401(k).
Okay, we'll assume that.

Looks like you are about age 29-30 based on searching some of your early posts.

If you did cut back on your contributions to the 401k to the point of only receiving the employer match and redirected that cut money to the mortgage principal - what percentage of your gross income would that leave going towards all savings (401k, HSA, Roth IRA, taxable accounts)? What is the percentage of your gross income that is now going to your overall savings before contemplating a cut to your 401k contributions?

With your current mortgage and net income (take home pay) budget, what percentage of the take home pay is currently going towards PITI? What amount - or percentage - currently is available in your take home pay that could be redirected towards additional mortgage payments before considering a cut in your 401k contributions? In other words, do you have any wiggle room to cut some of your discretionary wants?

What about the prospects of you (and your spouse) increasing your incomes through overtime, extra shifts/hours, second job(s), etc...? Are there any potential inheritances coming in the future from either set of parents (or grandparents)? What are the prospects of a bonus for any of your employers?

What are your own thoughts on the power of time and compounding regarding your equity/bond assets?

Here's an excellent read...

https://humbledollar.com/2019/09/show-me-the-money/

That brings us to a perverse conclusion—one I’m almost reluctant to mention: Because savings are so crucial, and because they’re the key driver of your ultimate nest egg, how you invest is somewhat less important.
"Everywhere is within walking distance if you have the time." ~ Steven Wright

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by brianH » Fri Oct 25, 2019 9:49 am

grabiner wrote:
Wed Oct 23, 2019 9:39 pm
But most investors don't do this, because they have some level of risk aversion; they would prefer to hold some bonds yielding 2.22% to stocks, and thus should more strongly prefer paying down a mortgage for a 4% risk-free return to buying more stocks.
This is my basic logic.

Many people that would comment that prepaying a mortgage locks up the principal (illiquid) forget about recasting. With a recast, the money used to prepay a mortgage (assuming low-cost recasting is available - it usually is) can easily be turned into higher cash flows later if one feels the need to 'rebalance' or shift their investments based on risk calcs.

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by B4Xt3r » Sat Oct 26, 2019 7:14 am

Admiral wrote:
Fri Oct 25, 2019 5:29 am
B4Xt3r wrote:
Thu Oct 24, 2019 5:32 pm
Admiral wrote:
Thu Oct 24, 2019 10:51 am
...
...
Trying to be generous, as we all are, but if you want the best explanations it helps to have more detail on your situation. Or is this just a theoretical question? You now seem to be asking about net worth, which is irrelevant. Yes, if the investing return and the mortgage rate are the same, then it's a wash. But having a paid off house worth $500k or a retirement account worth $500k results in the same net worth, but a much different situation financially.
I suppose I was ambiguous, this is a semi-theoretical question (but I plan to have a mortgage in the near future).

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B4Xt3r
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by B4Xt3r » Sat Oct 26, 2019 7:15 am

dalbright wrote:
Fri Oct 25, 2019 6:27 am
Without your exact numbers for mortgage rate and debt to equity its hard to say for sure. That being said have you run calculators to see how much you would save over the remaining years of the mortgage as well as how much sooner the payoff period would be? Another factor is how long you plan to spend in the house. If you move frequently then its easier to have money out of the house whereas if its for the long haul, owning outright is rather nice! This thread is similar to the leveraged investing topics that come up, since the mortgage is being leveraged to fill the roth. If you find yourself despising those people/topics then paying the mortgage down may be the right way to go. My wife and I personally fill our roth IRA's and then are putting some in a 401k but focusing strongly on the house mortgage. Running the extra payments calculator's can be rather eye opening! Also in a 401k there is no guarantee unless you have a stable value like fund (or MM) as even a quality bond fund can lose money if rates go up, since you cannot purchase bonds/bills directly.
Yeah, I guess I am trying to understand the math better before I make my choice.

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by B4Xt3r » Sat Oct 26, 2019 7:19 am

CyclingDuo wrote:
Fri Oct 25, 2019 6:45 am
B4Xt3r wrote:
Wed Oct 23, 2019 6:00 pm
Let's assume for the moment that I'm sticking with roth 401(k).
Okay, we'll assume that.

Looks like you are about age 29-30 based on searching some of your early posts.

If you did cut back on your contributions to the 401k to the point of only receiving the employer match and redirected that cut money to the mortgage principal - what percentage of your gross income would that leave going towards all savings (401k, HSA, Roth IRA, taxable accounts)? What is the percentage of your gross income that is now going to your overall savings before contemplating a cut to your 401k contributions?

With your current mortgage and net income (take home pay) budget, what percentage of the take home pay is currently going towards PITI? What amount - or percentage - currently is available in your take home pay that could be redirected towards additional mortgage payments before considering a cut in your 401k contributions? In other words, do you have any wiggle room to cut some of your discretionary wants?

What about the prospects of you (and your spouse) increasing your incomes through overtime, extra shifts/hours, second job(s), etc...? Are there any potential inheritances coming in the future from either set of parents (or grandparents)? What are the prospects of a bonus for any of your employers?

What are your own thoughts on the power of time and compounding regarding your equity/bond assets?

Here's an excellent read...

https://humbledollar.com/2019/09/show-me-the-money/

That brings us to a perverse conclusion—one I’m almost reluctant to mention: Because savings are so crucial, and because they’re the key driver of your ultimate nest egg, how you invest is somewhat less important.
Mind if I ask a question beforehand, because I'm confused why such details matter. Why isn't the question just with my next dollar, where should I place it to maximize my net-worth at the end of the mortgage or perhaps at the beginning of retirement)?

(I'm not trying to be difficult, sorry if its coming off that way.)

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by gr7070 » Sat Oct 26, 2019 7:43 am

OP it simply comes down to this...

If you are saving enough for retirement in your retirement accounts you may make whatever reasonable financial decision you wish after that.

None of us have a crystal ball. There is good reason to believe the stock and bond markets will outperform your mortgage.

There is no definitive answer without a crystal ball. Even the historical answer is a bit convoluted and less clear, because of varying asset allocations, investor returns as opposed to market returns (something very important that all these threads ignore!), life decisions, and many other unknowns.

Additionally, investment markets carry risk and your mortgage does not. A mortgage's rate, tax implications and risk-free nature do make it a very reasonable use of money that is not needed to invest for retirement.

Make whatever choice you prefer - so long as you are saving/investing enough to fund your retirement (outside of your mortgage).

I believe your mortgage loses this competition, but it's not a given and it's far from the obvious determination many make it out to be.

gr7070
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by gr7070 » Sat Oct 26, 2019 7:51 am

I'm big on paying off the mortgage - after one is saving enough for retirement.
B4Xt3r wrote:
Wed Oct 23, 2019 5:48 am

[*] After tax guaranteed return of mortgage rate is better on a risk adjusted basis than anything I can purchase in my 401(k)
However, I do not believe that is true.

I also absolutely think most Bogleheads do not adequately account for market risk when doing the mortgage v. financial markets comparison.

Market risk is a significant financial positive on the mortgage side.

In the end, though, the chance for a 19% return one year or a prolonged run of 14% ends with that risk/return in the market's favor. As stated in my reply above there's a lot more to it than that regarding the decision, but ultimately that looks to be the most likely answer.
Last edited by gr7070 on Sat Oct 26, 2019 9:24 am, edited 1 time in total.

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CyclingDuo
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by CyclingDuo » Sat Oct 26, 2019 7:57 am

B4Xt3r wrote:
Sat Oct 26, 2019 7:19 am
Mind if I ask a question beforehand, because I'm confused why such details matter. Why isn't the question just with my next dollar, where should I place it to maximize my net-worth at the end of the mortgage or perhaps at the beginning of retirement)?

(I'm not trying to be difficult, sorry if its coming off that way.)
That's cool. All the best.
"Everywhere is within walking distance if you have the time." ~ Steven Wright

Xrayman69
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by Xrayman69 » Sat Oct 26, 2019 8:33 am

B4Xt3r wrote:
Thu Oct 24, 2019 5:32 pm
Admiral wrote:
Thu Oct 24, 2019 10:51 am
Decisions about pre-paying a mortgage cannot be made in a vacuum. This is why I (and many others) are asking why you have chosen to use Roth, how close you are to retirement, and what your portfolio looks like. Without such information, the advice you will get will only be the most general kind.

When you note that we should assume you're "sticking with Roth for now" but don't explain why, that tells me you either have not thought through the implications, or don't understand them. When you ask why saving for retirement is better than pre-paying a mortgage (and Grt2bOutdoors explained it well) that tells me you don't have a complete understanding of the tax implications or the nature of compound interest in retirement accounts.

There are very, very few situations where paying down a low-interest, fixed rate mortgage is preferable to ANY retirement savings (pre- or after tax) with the possible exception of someone who is very close to retirement and wants to get rid of a mortgage, or someone who has more than enough saved and can forego further savings. That's why you've been asked, repeatedly, to provide some detail.

If you don't care to, then you should just carry on. But you did post the question in the first place.
I think you can be a bit more generous, I am asking questions because I don't understand things. I can create a low ER 3/4 fund portfolio in my Roth 401(k), which I'm sticking with for reasons unrelated to this thread.

My question is this, if I have $1 that I can invest today @ 4% or pay extra to the mortgage which is also 4%, at the end of the 30 year mortgage, is my NW the same or different? I don't know the answer; I'm curious if someone here does.
The mortgage payment benefit on the first 5 years is different compared to the last 5 years. First 5 nearly all interest and thus anything to lower the principle has greater downstream value than the last 5 years where the same mortgage payment is nearly all principles. Interest component potentially has significant tax benefit . Later the interest component may be low and have less contribution.

Warren buffet frequently states that he would love to be able to borrow money at these lower mortgage rates and invest in the market for the next 30 years.

gr7070
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by gr7070 » Sat Oct 26, 2019 8:37 am

CyclingDuo wrote:
Sat Oct 26, 2019 7:57 am
B4Xt3r wrote:
Sat Oct 26, 2019 7:19 am
Mind if I ask a question beforehand, because I'm confused why such details matter. Why isn't the question just with my next dollar, where should I place it to maximize my net-worth at the end of the mortgage or perhaps at the beginning of retirement)?

(I'm not trying to be difficult, sorry if its coming off that way.)
That's cool. All the best.
OP, it's a very, very reasonable question.

All the demands for personal finance disclosure are a little silly. While that information matters and may make for a *better* answer, it is perfectly reasonable to ask the question and desire results in a vacuum. Protestations otherwise are a little extreme and unnecessary.
Last edited by gr7070 on Sat Oct 26, 2019 9:22 am, edited 1 time in total.

noco-hawkeye
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by noco-hawkeye » Sat Oct 26, 2019 8:57 am

B4Xt3r wrote:
Wed Oct 23, 2019 5:48 am
...
  • It seems most people bogle's formula & current valuations have historically predicted low stock returns for this particular mortgage period (yes, this is soft market-timing)
This is much more than soft market timing, and I think you are kidding yourself. The best thing I ever did was to max out my 401k at the height of the dot com bubble (also the worst time to do so). The reason why this was such a good idea was that the following few years (the dot com crash) I was still maxing out my 401k and now those investments have multiplied a few times over. If I would have focussed on my mortgage that would only have improved my situation marginally.

gr7070
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by gr7070 » Sat Oct 26, 2019 9:13 am

noco-hawkeye wrote:
Sat Oct 26, 2019 8:57 am
The best thing I ever did was to max out my 401k at the height of the dot com bubble (also the worst time to do so). The reason why this was such a good idea was that the following few years (the dot com crash) I was still maxing out my 401k and now those investments have multiplied a few times over.
That is just faulty logic.

One decision (investing in stock prior) does not result in the other (investing in stocks post).

I'm not disagreeing with your greater point, but the reasoning used is wholly unsound.

playingwithfire
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by playingwithfire » Sat Oct 26, 2019 9:39 am

I find the question interesting and at the same time there are a ridiculous number of assumptions you have to make.

1) Tax situations in the US. For example many have said that interests are deductible, but with today's tax situation and cap on SALT, you'd have to pay quite a bit of interest or have enough tax deductible expenses to qualify. Even then, a large portion of the interest is not deductible with the JTJA2017.

2) Market returns. For example, the other threads talking about much lower expected returns over the 10 years, something like in the 3-5% range. This is vastly different from the 7-10% we've historically talked about. In this case, a 4% mortgage risk-free, with post-tax money sounds like a much better return. Again, huge assumption. Also, earnings growth apparently slowed down this quarter, so indeed slower earnings growth + higher than average P/E might indeed lead to a low market return.

3) When do you retire? In 10 years, then maybe the market assumption is more important. But in 30 years, the market expected returns should likely beat the mortgage rate.

Even simple assumptions change a lot of decisions, so there's no right answer. I think many people asking for the specific personal situation for this reason, to help build the actual hypothetical case. Fun thought experiment tho!

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by Spirit Rider » Sat Oct 26, 2019 9:47 am

gr7070 wrote:
Sat Oct 26, 2019 9:13 am
noco-hawkeye wrote:
Sat Oct 26, 2019 8:57 am
The best thing I ever did was to max out my 401k at the height of the dot com bubble (also the worst time to do so). The reason why this was such a good idea was that the following few years (the dot com crash) I was still maxing out my 401k and now those investments have multiplied a few times over.
That is just faulty logic.

One decision (investing in stock prior) does not result in the other (investing in stocks post).

I'm not disagreeing with your greater point, but the reasoning used is wholly unsound.
Way to miss the forrest for the trees.

The point of whole statement was that establishing the habit of 401k contributions at the peak enabled the continuation of the contributions. I know I could not convince any new employees to start 401k contributions in 2009 - 2011. They missed out on the tremendous bull market.

gr7070
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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by gr7070 » Sat Oct 26, 2019 9:56 am

Spirit Rider wrote:
Sat Oct 26, 2019 9:47 am
gr7070 wrote:
Sat Oct 26, 2019 9:13 am
noco-hawkeye wrote:
Sat Oct 26, 2019 8:57 am
The best thing I ever did was to max out my 401k at the height of the dot com bubble (also the worst time to do so). The reason why this was such a good idea was that the following few years (the dot com crash) I was still maxing out my 401k and now those investments have multiplied a few times over.
That is just faulty logic.

One decision (investing in stock prior) does not result in the other (investing in stocks post).

I'm not disagreeing with your greater point, but the reasoning used is wholly unsound.
Way to miss the forrest for the trees.

The point of whole statement was that establishing the habit of 401k contributions at the peak enabled the continuation of the contributions. I know I could not convince any new employees to start 401k contributions in 2009 - 2011. They missed out on the tremendous bull market.
It's still horrible and faulty logic. Just as those refusing to invest post 2011 were not using logic.

One could use the same argument you proposed as reason for *not* buying and be just as wrong logically - you essentially did offer that scenario up.
The worst thing I ever did was to max out my 401k at the height of the dot com bubble (also the worst time to do so). The reason why this was such a bad idea was that the following few years (the dot com crash) I was saying by maxing out my 401k I wouldn't invest.
It's not missing your greater point, in fact I explicitly acknowledged it. However, using faulty logic to make it didn't really make an argument; it simply clarified which side you're on.

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Re: Reduce roth 401(k) to just match to prepay mortgage?

Post by Spirit Rider » Sat Oct 26, 2019 10:20 am

gr7070 wrote:
Sat Oct 26, 2019 9:56 am
It's not missing your greater point, in fact I explicitly acknowledged it. However, using faulty logic to make it didn't really make an argument; it simply clarified which side you're on.
If you want to spend your energy nitpicking, that is your choice, but @noco-hawkeye's total point was entirely valid. It is entirely relevant to this thread that is based on a projection of future earnings.

What is irrelevant is what state the market is when you are are investing. Otherwise, you and the OP are market timing.

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