Should i pay off my 15 year 2.85% mortgage?

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Aged Maduro
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Should i pay off my 15 year 2.85% mortgage?

Post by Aged Maduro »

I am 41 years old with a net worth of approximately $2.3 million. I am debt free except for my home mortgage. My accountant tells me that i should not pay it off. Your advice is appreciated on how to proceed. An overview of my balance sheet:

Primary Residence (Valued at $255,000. Mortgage balance of $127,000 at 2.85% and 14 years remaining)
Rental House #1 (Valued at $185,000 and paid off)
Rental House #2 (Valued at $190,000 and paid off)
Taxable Brokerage with Fee Only Advisor ($1,700,000 recieved mainly through inheritance and withdrawing 2.5% for living expenses)
529 Plan ($61,000 for 1 child and contributing $300/month)
State Government Pension ($26,000 and will vest in 3 years. Full pension would be Age 65 but could potentially retire early)
Roth 457 Plan ($5,000 and currently contributing $300/month)
Personal Property ($90,000)
Wife is currently a stay at home mom and not working

With the large gains we have seen in the stock market it makes sense to me to just sell off $127,000 from the taxable account and pay off the mortgage. Then i could take an amount equal to my monthly mortgage payment ($1,050) and put it into my Roth 457 plan each month to max it out. If i do that, i think i may be able to retire as early as 55 and then use my taxable account and paid off rentals as a bridge for income until i start withdrawing pension and accumulated Roth funds at Age 65. However, my accountant tells me i should keep the mortgage. I would rather be debt free and keep my expenses low so in the event of future market crashes i can stop withdraws if need be. What would Bogleheads do in this situation?
Strayshot
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by Strayshot »

Is your accountant the one who does your taxes? What explanation did they give? I would find it hard to believe based on what you posted that you itemize, so there is no interest benefit. Perhaps they are of the logic that market returns will beat the 2ish percent of the mortgage and you are better off keeping the funds invested? Is your accountant the same person who takes your money to manage your taxable account? If so, and if they are compensated for making taxable trades and/or an AUM fee, then obviously they make more money if you leave more of your money in the account and so there is a conflict of interest in the advice.

I would pay it off.
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midareff
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by midareff »

The question at the end of the day is: Can you make more than 2.85%, with appropriate tax considerations and calculations, on that money over the next 15 years with a Boglehead type portfolio? My guess is yes, and easily.
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Aged Maduro
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by Aged Maduro »

Strayshot wrote: Mon Dec 28, 2020 9:29 am Is your accountant the one who does your taxes? What explanation did they give? I would find it hard to believe based on what you posted that you itemize, so there is no interest benefit. Perhaps they are of the logic that market returns will beat the 2ish percent of the mortgage and you are better off keeping the funds invested? Is your accountant the same person who takes your money to manage your taxable account? If so, and if they are compensated for making taxable trades and/or an AUM fee, then obviously they make more money if you leave more of your money in the account and so there is a conflict of interest in the advice.

I would pay it off.
The accountant does my tax return but has no connection to my brokerage account. His advice is based on the knowledge that i can make a better return than 2.85% on my investments. I am sure that he is right about that, but return is not my only concern. I do not have a high earned income so i want to keep my expenses low so i don't have to draw out of my investments.
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Aged Maduro
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by Aged Maduro »

midareff wrote: Mon Dec 28, 2020 9:40 am The question at the end of the day is: Can you make more than 2.85%, with appropriate tax considerations and calculations, on that money over the next 15 years with a Boglehead type portfolio? My guess is yes, and easily.
That is true but i also want to keep my expenses as low as possible so that in the event of future market crashes i won't have to withdrawl funds from my investments. Being completely debt free would accomplish that.
qwertyjazz
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by qwertyjazz »

What is in your taxable account? If you have bonds that pay less than 2.85%, it could make sense to sell them and pay off mortgage for definite return. If they are all stock, then maybe different story. But being debt free has its advantages
G.E. Box "All models are wrong, but some are useful."
mortfree
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by mortfree »

Depending on gains you’ll have to sell more than 127k to cover any taxes owed.
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Aged Maduro
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by Aged Maduro »

qwertyjazz wrote: Mon Dec 28, 2020 10:00 am What is in your taxable account? If you have bonds that pay less than 2.85%, it could make sense to sell them and pay off mortgage for definite return. If they are all stock, then maybe different story. But being debt free has its advantages
The taxable brokerage is 90% stocks and 10% bonds.
KlangFool
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by KlangFool »

Aged Maduro wrote: Mon Dec 28, 2020 9:55 am
midareff wrote: Mon Dec 28, 2020 9:40 am The question at the end of the day is: Can you make more than 2.85%, with appropriate tax considerations and calculations, on that money over the next 15 years with a Boglehead type portfolio? My guess is yes, and easily.

That is true but i also want to keep my expenses as low as possible so that in the event of future market crashes i won't have to withdrawl funds from my investments.
Being completely debt free would accomplish that.
Aged Maduro,


That 127K of investment generates at least 1% of dividend/interest every year even if the market crashes. So, the difference is only 2.85% - 1% = 1.85% of the 127K. Let's call this 2%. 2% of 127K ~ 2.5K per year.


This amount is too insignificant to matter. It would not reduce your expense significantly.

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Strayshot
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by Strayshot »

Aged Maduro wrote: Mon Dec 28, 2020 9:50 am
Strayshot wrote: Mon Dec 28, 2020 9:29 am Is your accountant the one who does your taxes? What explanation did they give? I would find it hard to believe based on what you posted that you itemize, so there is no interest benefit. Perhaps they are of the logic that market returns will beat the 2ish percent of the mortgage and you are better off keeping the funds invested? Is your accountant the same person who takes your money to manage your taxable account? If so, and if they are compensated for making taxable trades and/or an AUM fee, then obviously they make more money if you leave more of your money in the account and so there is a conflict of interest in the advice.

I would pay it off.
The accountant does my tax return but has no connection to my brokerage account. His advice is based on the knowledge that i can make a better return than 2.85% on my investments. I am sure that he is right about that, but return is not my only concern. I do not have a high earned income so i want to keep my expenses low so i don't have to draw out of my investments.
What makes you sure he is right? Can you name a guaranteed fixed income investment that makes more than 2.85%? I can’t.

I think on this issue your gut is correct. Also, if your income is low you should be able to manage capital gains when you sell your taxable investments to not create a large tax burden. You may want to consider that in your decision, such as sell enough this year (like literally this week) to keep your income under $80k such that your rate is 0% and then sell the remainder next year in January such that 2021 income is under the 0% capital gains rate. Mortgage gets paid off by mid-January but you split the capital gains between 2 tax years and don’t lose 15% or more to CG. This is all hypothetical because I don’t know your income, but you get the point!
LongRoad
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by LongRoad »

What is the asset allocation of your taxable account? Is it 100% stocks, or do you hold bonds there as well?

If you hold bonds, are they paying you a guaranteed 2.85% after taxes and AUM fees? If so, would you mind sharing what bonds/funds you hold?

If you hold bonds paying less than 2.85% after expenses, ask your accountant why you should borrow money charging you 2.85% interest, while simultaneously lending money through your bond holdings for less than 2.85%.
qwertyjazz
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by qwertyjazz »

So you have more bonds (170k) than owe on house (127k). Read up on thinking of mortgage as negative bond (Google it on this site)
You could get a definite return on selling just bonds and paying it off unless they are individual bonds paying more than 2.85%
What rate is your bonds/bond funds paying?
G.E. Box "All models are wrong, but some are useful."
lakpr
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by lakpr »

It has been mentioned in multiple posts on this forum, you should not compare the mortgage rate to stock market returns, but to bond funds. A mortgage is a negative bond. Consequently, paying down a mortgage is equivalent to buying a series of CDs that pay the mortgage rate for terms that decrease by one month each (15 years, 14 years 11 months, 14 years 10 months ....). Given that you don't itemize (or at least, looks unlikely that you itemize without large charitable contributions), it is actually better with that 2.85% bring an after tax return rate.

Given that none of the bond funds are yielding more than 1% or thereabouts, and taxable on top of it, paying off the mortgage and earning the 2.85% guaranteed (after tax?) return is a no-brainer. With $2 million in portfolio, I am sure you can rustle up $127k with minimal long term capital gains to pay off the mortgage. Definitely liquidate any bonds in taxable.

That said, your plan to invest the mortgage payment in a Roth 457 plan is also problematic. I am not sure that you realize, withdrawing from a Roth 457 plan prior to age 59.5 does NOT make those withdrawals tax free. They are penalty free, yes; but any withdrawals from the Roth 457 plan prior to being qualified (I mean, prior to age 59.5), will be treated as proportional withdrawals of contributions and gains. The gains are then taxed as ordinary income. In other words, you will lose the Roth nature, it functions more like a non-deductible traditional IRA.

You may therefore be mistaken in thinking that you can use your Roth 457 as a bridge from early retirement till start of Social Security. I mean, not without tax liability and increase in AGI that would affect various things such as ACA subsidy, etc.

If you will be making Roth 457 contributions, be committed to NOT withdrawing from it until you attain age 59.5, and all balances become qualified.

EDIT: noted that you are only contributing $300 per month to Roth 457. That is too insignificant, compared to what you can contribute. Max that out!!
Last edited by lakpr on Mon Dec 28, 2020 10:37 am, edited 4 times in total.
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vineviz
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by vineviz »

Aged Maduro wrote: Mon Dec 28, 2020 10:03 am
qwertyjazz wrote: Mon Dec 28, 2020 10:00 am What is in your taxable account? If you have bonds that pay less than 2.85%, it could make sense to sell them and pay off mortgage for definite return. If they are all stock, then maybe different story. But being debt free has its advantages
The taxable brokerage is 90% stocks and 10% bonds.
Selling the taxable bonds to pay off the mortgage is unquestionably a smart decision IMHO. Only bonds with significant credit risk are yielding more than the mortgage is costing you.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
jayk238
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by jayk238 »

Aged Maduro wrote: Mon Dec 28, 2020 9:24 am I am 41 years old with a net worth of approximately $2.3 million. I am debt free except for my home mortgage. My accountant tells me that i should not pay it off. Your advice is appreciated on how to proceed. An overview of my balance sheet:

Primary Residence (Valued at $255,000. Mortgage balance of $127,000 at 2.85% and 14 years remaining)
Rental House #1 (Valued at $185,000 and paid off)
Rental House #2 (Valued at $190,000 and paid off)
Taxable Brokerage with Fee Only Advisor ($1,700,000 recieved mainly through inheritance and withdrawing 2.5% for living expenses)
529 Plan ($61,000 for 1 child and contributing $300/month)
State Government Pension ($26,000 and will vest in 3 years. Full pension would be Age 65 but could potentially retire early)
Roth 457 Plan ($5,000 and currently contributing $300/month)
Personal Property ($90,000)
Wife is currently a stay at home mom and not working

With the large gains we have seen in the stock market it makes sense to me to just sell off $127,000 from the taxable account and pay off the mortgage. Then i could take an amount equal to my monthly mortgage payment ($1,050) and put it into my Roth 457 plan each month to max it out. If i do that, i think i may be able to retire as early as 55 and then use my taxable account and paid off rentals as a bridge for income until i start withdrawing pension and accumulated Roth funds at Age 65. However, my accountant tells me i should keep the mortgage. I would rather be debt free and keep my expenses low so in the event of future market crashes i can stop withdraws if need be. What would Bogleheads do in this situation?
What is ur earned income? What is ur income from rentals
TigerNest
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by TigerNest »

It's a perennial question because the correct answer depends on your individual risk tolerance.

Yes you can most likely make more than 2.85% investing the difference in equities. You probably wouldn't if you invest it in bonds/CDs (especially after tax).

A 90/10 portfolio will have a higher expected return than a 50/50 portfolio, but we don't tell people one is always superior to the other. It depends on what that person's needs and risk tolerance are.

A mortgage is often one of the largest ongoing expenses, and if you don't pay it you could lose your house. That's a severe psychic risk to people, which is why many take comfort in paying it off. In fact I think it often changes your risk tolerance, which is usually treated as static. If your mortgage is paid off, you may increase your portfolio risk tolerance because one of your most important basic needs is fully met.
sterlingcooper05
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by sterlingcooper05 »

Maybe sell one of rentals and pay off your residence?
lakpr
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by lakpr »

KlangFool wrote: Mon Dec 28, 2020 10:05 am Aged Maduro,


That 127K of investment generates at least 1% of dividend/interest every year even if the market crashes. So, the difference is only 2.85% - 1% = 1.85% of the 127K. Let's call this 2%. 2% of 127K ~ 2.5K per year.


This amount is too insignificant to matter. It would not reduce your expense significantly.
Multiple issues with this post. First one is that the dividends are not free money. The value of the stocks decline by the amount of dividends paid, it is no different than selling 1% of the stocks and realizing it in cash.

Second, I mentioned in my previous post above in this same thread, mortgage rates should be compared against the yields of bond funds, not against returns from stocks. Simply not the same.

Thirdly, I agree that the amount of money or interest saved is really not significant portion of the OP's net worth. But I reach the exact opposite conclusion than you do, that it is all the more reason to simply payoff the mortgage and be done with it, less nuisance factor, and also removes the ownership of someone else from the primary residence. Good to have the home free and clear! (Don't bring the straw man argument about property taxes!)
17outs
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by 17outs »

I was in a similar situation earlier this year. The freedom gained from 0 mortgage has been worth it to us and allows us to focus on investing much more. To us this is less of a making the best financial money making decision and instead supports a behavioral mindset of now that we have 0 debt we throw the kitchen sink at the end of every month into investments. It's really freeing seeing the results so quickly. I have no regrets, but I hate debt even so called good debt. If you pay it off you can take the exact payment and invest it.
coachd50
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by coachd50 »

Question- and not one meant to sound argumentative so please forgive me if it does.

For those suggesting "pay off the mortgage by selling and perhaps paying capital gains taxes", what would your response be to the following:

"Why sell, pay capital gains taxes on the sale, use proceeds to pay off 2,85% mortgage, only to then use the freed up monthly mortgage payments to invest back into the index funds etc? "

That has been my personal issue. I am in a position to pay off my 4% mortgage (22 years left- balance $53,000) by selling off about 40% of my taxable account. However, I would then simply find myself reinvesting the monthly cash I used to pay to mortgage into my taxable brokerage account.
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Aged Maduro
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by Aged Maduro »

lakpr wrote: Mon Dec 28, 2020 10:16 am It has been mentioned in multiple posts on this forum, you should not compare the mortgage rate to stock market returns, but to bond funds. A mortgage is a negative bond. Consequently, paying down a mortgage is equivalent to buying a series of CDs that pay the mortgage rate for terms that decrease by one month each (15 years, 14 years 11 months, 14 years 10 months ....). Given that you don't itemize (or at least, looks unlikely that you itemize without large charitable contributions), it is actually better with that 2.85% bring an after tax return rate.

Given that none of the bond funds are yielding more than 1% or thereabouts, and taxable on top of it, paying off the mortgage and earning the 2.85% guaranteed (after tax?) return is a no-brainer. With $2 million in portfolio, I am sure you can rustle up $127k with minimal long term capital gains to pay off the mortgage. Definitely liquidate any bonds in taxable.

That said, your plan to invest the mortgage payment in a Roth 457 plan is also problematic. I am not sure that you realize, withdrawing from a Roth 457 plan prior to age 59.5 does NOT make those withdrawals tax free. They are penalty free, yes; but any withdrawals from the Roth 457 plan prior to being qualified (I mean, prior to age 59.5), will be treated as proportional withdrawals of contributions and gains. The gains are then taxed as ordinary income. In other words, you will lose the Roth nature, it functions more like a non-deductible traditional IRA.

You may therefore be mistaken in thinking that you can use your Roth 457 as a bridge from early retirement till start of Social Security. I mean, not without tax liability and increase in AGI that would affect various things such as ACA subsidy, etc.

If you will be making Roth 457 contributions, be committed to NOT withdrawing from it until you attain age 59.5, and all balances become qualified.

EDIT: noted that you are only contributing $300 per month to Roth 457. That is too insignificant, compared to what you can contribute. Max that out!!
Thanks for the info. Perhaps i was not clear enough but i do not plan on using the Roth 457 as a bridge. I plan on using income from my rental properties and the taxable investment account as the bridge. I will not withdrawl from the Roth 457 until at least 60 years of age.
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Aged Maduro
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by Aged Maduro »

jayk238 wrote: Mon Dec 28, 2020 10:21 am
Aged Maduro wrote: Mon Dec 28, 2020 9:24 am I am 41 years old with a net worth of approximately $2.3 million. I am debt free except for my home mortgage. My accountant tells me that i should not pay it off. Your advice is appreciated on how to proceed. An overview of my balance sheet:

Primary Residence (Valued at $255,000. Mortgage balance of $127,000 at 2.85% and 14 years remaining)
Rental House #1 (Valued at $185,000 and paid off)
Rental House #2 (Valued at $190,000 and paid off)
Taxable Brokerage with Fee Only Advisor ($1,700,000 recieved mainly through inheritance and withdrawing 2.5% for living expenses)
529 Plan ($61,000 for 1 child and contributing $300/month)
State Government Pension ($26,000 and will vest in 3 years. Full pension would be Age 65 but could potentially retire early)
Roth 457 Plan ($5,000 and currently contributing $300/month)
Personal Property ($90,000)
Wife is currently a stay at home mom and not working

With the large gains we have seen in the stock market it makes sense to me to just sell off $127,000 from the taxable account and pay off the mortgage. Then i could take an amount equal to my monthly mortgage payment ($1,050) and put it into my Roth 457 plan each month to max it out. If i do that, i think i may be able to retire as early as 55 and then use my taxable account and paid off rentals as a bridge for income until i start withdrawing pension and accumulated Roth funds at Age 65. However, my accountant tells me i should keep the mortgage. I would rather be debt free and keep my expenses low so in the event of future market crashes i can stop withdraws if need be. What would Bogleheads do in this situation?
What is ur earned income? What is ur income from rentals
Earned income from my state government job is only 60k but has very good benefits and pension. Income from the rental properties is net total of about $20,000 a year.
260chrisb
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by 260chrisb »

If it were me based on the info provided I'd have 127K less in my taxable account and no mortgage next week.
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willthrill81
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by willthrill81 »

vineviz wrote: Mon Dec 28, 2020 10:17 am
Aged Maduro wrote: Mon Dec 28, 2020 10:03 am
qwertyjazz wrote: Mon Dec 28, 2020 10:00 am What is in your taxable account? If you have bonds that pay less than 2.85%, it could make sense to sell them and pay off mortgage for definite return. If they are all stock, then maybe different story. But being debt free has its advantages
The taxable brokerage is 90% stocks and 10% bonds.
Selling the taxable bonds to pay off the mortgage is unquestionably a smart decision IMHO. Only bonds with significant credit risk are yielding more than the mortgage is costing you.
Agreed.

Further, the mortgage is so small relative to the OP's net worth that it's worthwhile to just get rid of it for simplification.
“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings
lakpr
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by lakpr »

coachd50 wrote: Mon Dec 28, 2020 10:49 am Question- and not one meant to sound argumentative so please forgive me if it does.

For those suggesting "pay off the mortgage by selling and perhaps paying capital gains taxes", what would your response be to the following:

"Why sell, pay capital gains taxes on the sale, use proceeds to pay off 2,85% mortgage, only to then use the freed up monthly mortgage payments to invest back into the index funds etc? "

That has been my personal issue. I am in a position to pay off my 4% mortgage (22 years left- balance $53,000) by selling off about 40% of my taxable account. However, I would then simply find myself reinvesting the monthly cash I used to pay to mortgage into my taxable brokerage account.
Do you believe in "rebalancing" your portfolio? If you do, what do you think rebalancing is? Nothing but selling stocks and buying bonds. Same thing here, selling off stocks and paying off the mortgage is equivalent to buying better yielding bonds.

With respect to capital gains taxes, there is no way around the tax man, except if you die. Leaving aside that drastic solution, it's a question of whether you pay those taxes now or later.

If all you have in taxable account is stocks, you can sell stocks in taxable and buy stocks in tax-deferred like 401k after selling bonds -- you will have ultimately sold the low yielding bonds and bought a series of high yielding bonds. You will be in the exactly the same position risk wise, as before.

Now if you say you do NOT have any bonds in either taxable or in tax-deferred --- carry on, ignore me.
coachd50
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by coachd50 »

lakpr wrote: Mon Dec 28, 2020 11:29 am
coachd50 wrote: Mon Dec 28, 2020 10:49 am Question- and not one meant to sound argumentative so please forgive me if it does.

For those suggesting "pay off the mortgage by selling and perhaps paying capital gains taxes", what would your response be to the following:

"Why sell, pay capital gains taxes on the sale, use proceeds to pay off 2,85% mortgage, only to then use the freed up monthly mortgage payments to invest back into the index funds etc? "

That has been my personal issue. I am in a position to pay off my 4% mortgage (22 years left- balance $53,000) by selling off about 40% of my taxable account. However, I would then simply find myself reinvesting the monthly cash I used to pay to mortgage into my taxable brokerage account.
Do you believe in "rebalancing" your portfolio? If you do, what do you think rebalancing is? Nothing but selling stocks and buying bonds. Same thing here, selling off stocks and paying off the mortgage is equivalent to buying better yielding bonds.

With respect to capital gains taxes, there is no way around the tax man, except if you die. Leaving aside that drastic solution, it's a question of whether you pay those taxes now or later.

If all you have in taxable account is stocks, you can sell stocks in taxable and buy stocks in tax-deferred like 401k after selling bonds -- you will have ultimately sold the low yielding bonds and bought a series of high yielding bonds. You will be in the exactly the same position risk wise, as before.

Now if you say you do NOT have any bonds in either taxable or in tax-deferred --- carry on, ignore me.
Fair enough. I do have some Muni's in my taxable and total bond in a roth IRA. The total return for the muni's has been a shade over 4% according to fidelity the last 10 years, so that is just a bit higher than the mortgage rate. Munis are probably $32,000 or roughly 20% of my taxable portfolio. The balance is not sufficient enough to pay off the mortgage at one time.

I asked about the taxes because selling ~$50,000 of my taxable to pay off a mortgage would only to then take the $900 or so I pay to P&I monthly and buy into the taxable...buying back what I just sold off.

I guess my thought process is having the liquidity may be worth the negative spread (if any) of the bonds.
lakpr
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by lakpr »

coachd50 wrote: Mon Dec 28, 2020 11:41 am Fair enough. I do have some Muni's in my taxable and total bond in a roth IRA. The total return for the muni's has been a shade over 4% according to fidelity the last 10 years, so that is just a bit higher than the mortgage rate. Munis are probably $32,000 or roughly 20% of my taxable portfolio. The balance is not sufficient enough to pay off the mortgage at one time.

I asked about the taxes because selling ~$50,000 of my taxable to pay off a mortgage would only to then take the $900 or so I pay to P&I monthly and buy into the taxable...buying back what I just sold off.

I guess my thought process is having the liquidity may be worth the negative spread (if any) of the bonds.
Firstly, the returns from the muni's over the past years has been due to the reduction of interest rates by the Fed, from about 2% to 0.25% now. Since there is no more room to reduce the interest rates -- unless you count the possibility of going into negative interest rates territory as European Union has done -- it is very unlikely a repeat of such returns will happen. It is more likely that with all the money sloshing around in the economy with deficit spending, inflation would rise, and the current bonds get hammered.

You should always look at the "SEC Yield" figure for the bond funds. This figure is a forward-looking measure of the yield expected from the bond fund, over the next 12 months. The total bond market index fund's current SEC yield is 1.1% (at least it was, last I looked, may have gone down further). Compared to that, paying a mortgage rate of 4% looks positively Shylock-ian.

The second point that you make -- liquidity -- is definitely a valid concern. Liquidity risk always exists, while you can minimize it you cannot eliminate it. In your case, ask if your lender will be willing to "recast" (google that term) your mortgage. Most lenders will be able to do that, some for a nominal fee. This is a way of having your cake and eating it too. Sell the muni bonds in their entirety in the taxable account, pay down the mortgage (I know it won't eliminate it) -- but then the recast would lower your monthly payment also commensurately so that the end of the mortgage will remain exactly the same.

If recast is not possible, then aim to increase your emergency fund to 1 year of expenses (this mitigates the liquidity risk, and as I mentioned it's not possible to completely eliminate it), and go 100% stocks in taxable.
coachd50
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by coachd50 »

lakpr wrote: Mon Dec 28, 2020 11:52 am
coachd50 wrote: Mon Dec 28, 2020 11:41 am Fair enough. I do have some Muni's in my taxable and total bond in a roth IRA. The total return for the muni's has been a shade over 4% according to fidelity the last 10 years, so that is just a bit higher than the mortgage rate. Munis are probably $32,000 or roughly 20% of my taxable portfolio. The balance is not sufficient enough to pay off the mortgage at one time.

I asked about the taxes because selling ~$50,000 of my taxable to pay off a mortgage would only to then take the $900 or so I pay to P&I monthly and buy into the taxable...buying back what I just sold off.

I guess my thought process is having the liquidity may be worth the negative spread (if any) of the bonds.
Firstly, the returns from the muni's over the past years has been due to the reduction of interest rates by the Fed, from about 2% to 0.25% now. Since there is no more room to reduce the interest rates -- unless you count the possibility of going into negative interest rates territory as European Union has done -- it is very unlikely a repeat of such returns will happen. It is more likely that with all the money sloshing around in the economy with deficit spending, inflation would rise, and the current bonds get hammered.

You should always look at the "SEC Yield" figure for the bond funds. This figure is a forward-looking measure of the yield expected from the bond fund, over the next 12 months. The total bond market index fund's current SEC yield is 1.1% (at least it was, last I looked, may have gone down further). Compared to that, paying a mortgage rate of 4% looks positively Shylock-ian.

The second point that you make -- liquidity -- is definitely a valid concern. Liquidity risk always exists, while you can minimize it you cannot eliminate it. In your case, ask if your lender will be willing to "recast" (google that term) your mortgage. Most lenders will be able to do that, some for a nominal fee. This is a way of having your cake and eating it too. Sell the muni bonds in their entirety in the taxable account, pay down the mortgage (I know it won't eliminate it) -- but then the recast would lower your monthly payment also commensurately so that the end of the mortgage will remain exactly the same.

If recast is not possible, then aim to increase your emergency fund to 1 year of expenses (this mitigates the liquidity risk, and as I mentioned it's not possible to completely eliminate it), and go 100% stocks in taxable.
I have already paid down a considerable portion of the mort. I am aware of the concept of recasting, and have thought a bit about it. Mortgage was a refinance for 132 in 2012. I owe 53 now. I suppose I have been splitting the difference by paying down extra each month. While this may not prove to be the absolute most financially correct thing to do, I am ok with that.
I am at a minimum 12 years from retirement. More likely closer to 15.
Last edited by coachd50 on Mon Dec 28, 2020 12:09 pm, edited 1 time in total.
ohboy!
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by ohboy! »

Aged Maduro wrote: Mon Dec 28, 2020 10:03 am
qwertyjazz wrote: Mon Dec 28, 2020 10:00 am What is in your taxable account? If you have bonds that pay less than 2.85%, it could make sense to sell them and pay off mortgage for definite return. If they are all stock, then maybe different story. But being debt free has its advantages
The taxable brokerage is 90% stocks and 10% bonds.
Sell bonds, pay off mortgage.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by Financologist »

Do you anticipate investing in real estate in the future? If yes, terms and rates on that loan will not be as good so you should consider keeping your mortgage in place.

Do you like the idea of taking a couple years off? If yes, cash is king. Don't pay off the mortgage.

If your job is not stable.. keep your cash.

At the end of the day, unless there's a clear reason to keep $ liquid, it's a personal choice. I am partial to paying off the mortgage.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by 1789 »

Remaining mortgage balance is too small to matter in any way. You can pay it off if you think you would feel better.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by willthrill81 »

Financologist wrote: Mon Dec 28, 2020 12:09 pm Do you anticipate investing in real estate in the future? If yes, terms and rates on that loan will not be as good so you should consider keeping your mortgage in place.

Do you like the idea of taking a couple years off? If yes, cash is king. Don't pay off the mortgage.

If your job is not stable.. keep your cash.

At the end of the day, unless there's a clear reason to keep $ liquid, it's a personal choice. I am partial to paying off the mortgage.
The mortgage balance is only 5.5% of the OP's net worth. Consequently, concerns about cash depletion are a nonissue.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by Aged Maduro »

Thanks all for your input. This has confirmed my gut feeling of paying it off with funds from the taxable account. Good advice on selling the taxable bonds since they are getting less than a 2.85% after tax return. While being somewhat apprehensive about being left with a 100% equities taxable account, i view the paid off house and rental properties as being the same as a bond allocation so it makes sense to me. Paid off real estate makes up about 30% of my net worth and can provide the same stability that bonds do and with a better return.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by lakpr »

Aged Maduro wrote: Mon Dec 28, 2020 12:30 pm Thanks all for your input. This has confirmed my gut feeling of paying it off with funds from the taxable account. Good advice on selling the taxable bonds since they are getting less than a 2.85% after tax return. While being somewhat apprehensive about being left with a 100% equities taxable account, i view the paid off house and rental properties as being the same as a bond allocation so it makes sense to me. Paid off real estate makes up about 30% of my net worth and can provide the same stability that bonds do and with a better return.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by qwertyjazz »

coachd50 wrote: Mon Dec 28, 2020 10:49 am Question- and not one meant to sound argumentative so please forgive me if it does.

For those suggesting "pay off the mortgage by selling and perhaps paying capital gains taxes", what would your response be to the following:

"Why sell, pay capital gains taxes on the sale, use proceeds to pay off 2,85% mortgage, only to then use the freed up monthly mortgage payments to invest back into the index funds etc? "

That has been my personal issue. I am in a position to pay off my 4% mortgage (22 years left- balance $53,000) by selling off about 40% of my taxable account. However, I would then simply find myself reinvesting the monthly cash I used to pay to mortgage into my taxable brokerage account.
It comes down to what makes up your account. You may want to post full details in another thread.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by MathWizard »

With your assets, I don't think that it really matters.
Your accountant is effectively saying to us the mortgage like leverage.

I would be in the camp to pay it off, since you have the resources, it would reduce your
cash flow, and simplify finances.

My philosophy is to reduce cash flow, and that a penny saved is more than a penny earned.
(If you earn a penny, you pay tax on it, or 12.7 million pennies in this case. )

Yes, you are likely to earn more than 2.85% investing, but you have paid off rental houses, are you
going to take out loans on them too so that you can invest?

Many of have paid off houses, but we do not take out mortgages so that we can invest that
money.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by midareff »

Aged Maduro wrote: Mon Dec 28, 2020 9:55 am
midareff wrote: Mon Dec 28, 2020 9:40 am The question at the end of the day is: Can you make more than 2.85%, with appropriate tax considerations and calculations, on that money over the next 15 years with a Boglehead type portfolio? My guess is yes, and easily.
That is true but i also want to keep my expenses as low as possible so that in the event of future market crashes i won't have to withdrawl funds from my investments. Being completely debt free would accomplish that.
I understand... OTOH, when I took my 3% fixed 30 year mortgage I could get 3% + a bit on tax-exempt muni bonds and still pick up a tax advantage on the interest paid. Now, about nine years in the interest portion of the mortgage is still about the same as the interest paid by the munis and I still have my money. If the market crashes I have sufficient bank cash to not need to sell anything, and would use the relatively stable munis to buy equities if the price became sufficiently depressed... > 35% down, maybe > 40% down or more. No need to risk money I do need to chase more money I don't need, but there can be gold in a disaster.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by EnjoyIt »

coachd50 wrote: Mon Dec 28, 2020 11:41 am
lakpr wrote: Mon Dec 28, 2020 11:29 am
coachd50 wrote: Mon Dec 28, 2020 10:49 am Question- and not one meant to sound argumentative so please forgive me if it does.

For those suggesting "pay off the mortgage by selling and perhaps paying capital gains taxes", what would your response be to the following:

"Why sell, pay capital gains taxes on the sale, use proceeds to pay off 2,85% mortgage, only to then use the freed up monthly mortgage payments to invest back into the index funds etc? "

That has been my personal issue. I am in a position to pay off my 4% mortgage (22 years left- balance $53,000) by selling off about 40% of my taxable account. However, I would then simply find myself reinvesting the monthly cash I used to pay to mortgage into my taxable brokerage account.
Do you believe in "rebalancing" your portfolio? If you do, what do you think rebalancing is? Nothing but selling stocks and buying bonds. Same thing here, selling off stocks and paying off the mortgage is equivalent to buying better yielding bonds.

With respect to capital gains taxes, there is no way around the tax man, except if you die. Leaving aside that drastic solution, it's a question of whether you pay those taxes now or later.

If all you have in taxable account is stocks, you can sell stocks in taxable and buy stocks in tax-deferred like 401k after selling bonds -- you will have ultimately sold the low yielding bonds and bought a series of high yielding bonds. You will be in the exactly the same position risk wise, as before.

Now if you say you do NOT have any bonds in either taxable or in tax-deferred --- carry on, ignore me.
Fair enough. I do have some Muni's in my taxable and total bond in a roth IRA. The total return for the muni's has been a shade over 4% according to fidelity the last 10 years, so that is just a bit higher than the mortgage rate. Munis are probably $32,000 or roughly 20% of my taxable portfolio. The balance is not sufficient enough to pay off the mortgage at one time.

I asked about the taxes because selling ~$50,000 of my taxable to pay off a mortgage would only to then take the $900 or so I pay to P&I monthly and buy into the taxable...buying back what I just sold off.

I guess my thought process is having the liquidity may be worth the negative spread (if any) of the bonds.
I fully agree with you. The liquidity has value. Plus a mortgage is not an exact opposite to a negative bond for reasons not worth arguing about. On a spread sheet they are similar, in real life there are some differences just like the one you described regarding liquidity.

In OP situation, the mortgage is a relative small portion of OP's wealth allowing for the thinking that a mortgage behaves like a negative bond much more true.

In your shoes (not knowing everything about those shoes,) I suspect your mortgage functions less like a negative bond making the liquidity more valuable.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by brybogle »

Your accountant is right -- the statistically optimal thing to do is refi your 15yr 2.85% mortgage into a no-cost 15yr 2% mortgage. If you want to lower your payments, 30yr 2.5% mortgage. Nothing prevents you from paying it off down the road if you decide you want to. And if you want to just pay it off now, that's a perfectly fine answer and may be optimal for you.

Mathematically, if you assume a modest 5% return, you're losing($127k x (5% - 2.85%)) = $2730 every year. Compounded over the 15 yrs of the mortgage, that's around $95k of lost gains. Either way, you'll be "fine", as your $1.7M will also have grown substantially if that comes to pass. So, your choice.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by MathIsMyWayr »

Given a choice between investing in fixed income (bonds, cash savings) and paying off or down mortgage, I will choose the latter if liquidity is not a problem.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by Aged Maduro »

MathWizard wrote: Mon Dec 28, 2020 1:25 pm With your assets, I don't think that it really matters.
Your accountant is effectively saying to us the mortgage like leverage.

I would be in the camp to pay it off, since you have the resources, it would reduce your
cash flow, and simplify finances.

My philosophy is to reduce cash flow, and that a penny saved is more than a penny earned.
(If you earn a penny, you pay tax on it, or 12.7 million pennies in this case. )

Yes, you are likely to earn more than 2.85% investing, but you have paid off rental houses, are you
going to take out loans on them too so that you can invest?

Many of have paid off houses, but we do not take out mortgages so that we can invest that
money.
I agree. Not having to pay that $1,000 a month mortgage payment is about $1,500 a month less in earned income that i need to generate when you factor in taxes and withholdings of said income.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by lakpr »

brybogle wrote: Mon Dec 28, 2020 1:48 pm Your accountant is right -- the statistically optimal thing to do is refi your 15yr 2.85% mortgage into a no-cost 15yr 2% mortgage. If you want to lower your payments, 30yr 2.5% mortgage. Nothing prevents you from paying it off down the road if you decide you want to. And if you want to just pay it off now, that's a perfectly fine answer and may be optimal for you.

Mathematically, if you assume a modest 5% return, you're losing($127k x (5% - 2.85%)) = $2730 every year. Compounded over the 15 yrs of the mortgage, that's around $95k of lost gains. Either way, you'll be "fine", as your $1.7M will also have grown substantially if that comes to pass. So, your choice.
With only $127k balance, it is unlikely that the OP would get sweet deals on no cost refi. Generally, the best no cost refi deals are offered where the balances are $250k or higher.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by willthrill81 »

brybogle wrote: Mon Dec 28, 2020 1:48 pm Your accountant is right -- the statistically optimal thing to do is refi your 15yr 2.85% mortgage into a no-cost 15yr 2% mortgage.
It depends entirely on what precisely is being optimized. If it's after-tax wealth, then putting the funds that would be used to pay off the mortgage into stocks would likely do it, but there is no guarantee and that argument could be used to argue for 100% stock portfolios all the time, so there's obviously more to it than that. There's a lot to be said for emotional risk tolerance and regret minimization.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by Wiggums »

Aged Maduro wrote: Mon Dec 28, 2020 12:30 pm Thanks all for your input. This has confirmed my gut feeling of paying it off with funds from the taxable account. Good advice on selling the taxable bonds since they are getting less than a 2.85% after tax return. While being somewhat apprehensive about being left with a 100% equities taxable account, i view the paid off house and rental properties as being the same as a bond allocation so it makes sense to me. Paid off real estate makes up about 30% of my net worth and can provide the same stability that bonds do and with a better return.
I paid off my mortgage. It’s a good feeling. Congratulations
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by Dottie57 »

I paid off my mortgage early. After refinancing I kept paying the same amount to lender. Plus I started using my employers ESPP to generate more $ to apply to mortgage. But I never had 127k sitting in taxable either.

Paying off the loan felt incredibly good. More to put into investing. Knowing my home was mine and not the bank’s.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by LeslieSmiley »

op, did you mean that by paying off the mortgage, you would then invest the money that would have been your monthly mortgage payment? if so, why don't you simply stay invested? the $127K that you use to pay off the mortgage is $127K less in your portfolio to compound grow. so you will likely lose opportunity cost by doing so if you intend to continue to invest in the market.

i am only commenting on the financial prudence factor, not the psychological/emotional factor as i understand that some folks feel better with the notion that they own their house outright without debt. i, on the other hand, sleep better at night knowing that i have a 2.75% mortgage and that the monthly payment is getting cheaper and cheaper every month due to inflation, while the money that i could have used to pay off the mortgage is getting compound growth in my diversified portfolio.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by coachd50 »

LeslieSmiley wrote: Mon Dec 28, 2020 3:17 pm op, did you mean that by paying off the mortgage, you would then invest the money that would have been your monthly mortgage payment? if so, why don't you simply stay invested? the $127K that you use to pay off the mortgage is $127K less in your portfolio to compound grow. so you will likely lose opportunity cost by doing so if you intend to continue to invest in the market.

i am only commenting on the financial prudence factor, not the psychological/emotional factor as i understand that some folks feel better with the notion that they own their house outright without debt. i, on the other hand, sleep better at night knowing that i have a 2.75% mortgage and that the monthly payment is getting cheaper and cheaper every month due to inflation, while the money that i could have used to pay off the mortgage is getting compound growth in my diversified portfolio.
I don't know what the OP said, but your first paragraph describes what I (not the OP) had asked regarding selling taxable funds (either munis or S&p500 index funds), paying off 4.0% mortgage and then taking the cash flow gained from not having mortgage P&I monthly payments and investing them into taxable funds
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by willthrill81 »

coachd50 wrote: Mon Dec 28, 2020 4:06 pm
LeslieSmiley wrote: Mon Dec 28, 2020 3:17 pm op, did you mean that by paying off the mortgage, you would then invest the money that would have been your monthly mortgage payment? if so, why don't you simply stay invested? the $127K that you use to pay off the mortgage is $127K less in your portfolio to compound grow. so you will likely lose opportunity cost by doing so if you intend to continue to invest in the market.

i am only commenting on the financial prudence factor, not the psychological/emotional factor as i understand that some folks feel better with the notion that they own their house outright without debt. i, on the other hand, sleep better at night knowing that i have a 2.75% mortgage and that the monthly payment is getting cheaper and cheaper every month due to inflation, while the money that i could have used to pay off the mortgage is getting compound growth in my diversified portfolio.
I don't know what the OP said, but your first paragraph describes what I (not the OP) had asked regarding selling taxable funds (either munis or S&p500 index funds), paying off 4.0% mortgage and then taking the cash flow gained from not having mortgage P&I monthly payments and investing them into taxable funds
The OP's last response states that that is the intent.

If 90% of your portfolio is in stocks, 10% is in bonds, and 10% is in a mortgage, then your effective allocation is 100% stock since the mortgage offsets the bonds. As such, if the OP pays off the mortgage with bond funds, then his/her effective AA will not change.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by JoeRetire »

Aged Maduro wrote: Mon Dec 28, 2020 9:24 am I am 41 years old with a net worth of approximately $2.3 million. I am debt free except for my home mortgage. My accountant tells me that i should not pay it off. Your advice is appreciated on how to proceed.
I advise you to listen to your accountant. 2.85% is a pretty low rate.
With the large gains we have seen in the stock market it makes sense to me to just sell off $127,000 from the taxable account and pay off the mortgage.
Can you explain how the last half of your sentence follows from the first? I don't understand why the large gains would matter.
I would rather be debt free and keep my expenses low so in the event of future market crashes i can stop withdraws if need be.
You can always do what you would rather do, instead of listening to the financial professional you are paying. But if your real concern is withdrawing from your taxable account in the event of a market crash, is the best solution really to withdraw the money now?
The accountant does my tax return but has no connection to my brokerage account. His advice is based on the knowledge that i can make a better return than 2.85% on my investments. I am sure that he is right about that, but return is not my only concern. I do not have a high earned income so i want to keep my expenses low so i don't have to draw out of my investments.
So of course you can deal with whatever you feel is your actual concern. I'm not sure I understand never wanting to draw out of your investments. Maybe you should discuss that with your accountant.
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Re: Should i pay off my 15 year 2.85% mortgage?

Post by EnjoyIt »

willthrill81 wrote: Mon Dec 28, 2020 4:10 pm
coachd50 wrote: Mon Dec 28, 2020 4:06 pm
LeslieSmiley wrote: Mon Dec 28, 2020 3:17 pm op, did you mean that by paying off the mortgage, you would then invest the money that would have been your monthly mortgage payment? if so, why don't you simply stay invested? the $127K that you use to pay off the mortgage is $127K less in your portfolio to compound grow. so you will likely lose opportunity cost by doing so if you intend to continue to invest in the market.

i am only commenting on the financial prudence factor, not the psychological/emotional factor as i understand that some folks feel better with the notion that they own their house outright without debt. i, on the other hand, sleep better at night knowing that i have a 2.75% mortgage and that the monthly payment is getting cheaper and cheaper every month due to inflation, while the money that i could have used to pay off the mortgage is getting compound growth in my diversified portfolio.
I don't know what the OP said, but your first paragraph describes what I (not the OP) had asked regarding selling taxable funds (either munis or S&p500 index funds), paying off 4.0% mortgage and then taking the cash flow gained from not having mortgage P&I monthly payments and investing them into taxable funds
The OP's last response states that that is the intent.

If 90% of your portfolio is in stocks, 10% is in bonds, and 10% is in a mortgage, then your effective allocation is 100% stock since the mortgage offsets the bonds. As such, if the OP pays off the mortgage with bond funds, then his/her effective AA will not change.
I really hate the mortgage is a negative bond mantra. On a balance sheet they completely negate each other, but in real life there are differences.

If we agree that personal finance is personal then not cluttering up ones mind with a mortgage being a negative is probably a good idea. Sure that person is adding real additional risk by having a higher equity allocation, but does it matter if that allocation allows them to sleep well at night and not make poor financial mistakes? There is a reason why no target date funds or financial advisors us mortgage as a negative bond to decide one's asset allocation. It just adds unnecessary complexity when it is not needed.

Note: In OP situation, because the mortgage is such a small part of their net worth, a mortgage functions very much like a negative bond not just on paper, but in real life application. If OP had for example $200k in invested assets, using mortgage as a negative bond thinking would be a horrible functional mistake.
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