Mortgage @5% : extra payments towards the principal?

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aquaman0
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Mortgage @5% : extra payments towards the principal?

Post by aquaman0 »

We have a 30 yr mortgage with ~1.2M balance at ~5% interest rate. Would you make extra payment towards it, if you could, to pay it off in 15 years? If the interest rate was 3% I wouldn't have. If the interest rate was 7% I would have. But I am torn since right in the middle at 5%.

For context, we are a married couple in our thirties, 35% marginal tax bracket. After tax, maxing out retirement accounts, living expenses and maxing out ibonds we have we have some left overs to use either towards the extra mortgage payments or invest in a taxable brokerage.

Edit: Answering some additional questions:

Do you have one source of income? Dual income household.
What about cash reserves? ~200k: 40k iBonds+160k HYSA (~1.5 yr of expenses including mortgage payments)
Investment Portfolio? 90% vanguard 2050 target fund, 10% US small cap value tilt
Income??? Combined household income Base 325k, cash bonus 45k, RSU 100k
What's your asset allocation? (Do you have other bonds and how much?) 91% stock, 9% bond
Last edited by aquaman0 on Fri Sep 23, 2022 1:18 pm, edited 3 times in total.
JBTX
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Re: Mortgage @5% : extra payments towards the principal?

Post by JBTX »

If I truly had extra liquidity and all other advantaged investment options exhausted, I’d probably start paying down at least until I got to $750,000, assuming your house was purchased 2017 or later. At that point if you have enough to do itemized deductions the calculation changes somewhat and becomes murkier. For some range of your interest the after tax interest rate will be close to 3.0%.


https://www.nerdwallet.com/blog/mortgag ... deduction/

Having said that given your age and depending on your risk tolerance investing some of it in taxable index stock funds could still be appropriate.
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JoeRetire
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Re: Mortgage @5% : extra payments towards the principal?

Post by JoeRetire »

aquaman0 wrote: Wed Sep 21, 2022 1:25 am We have a 30 yr mortgage with ~1.2M balance at ~5% interest rate. Would you make extra payment towards it, if you could, to pay it off in 15 years? If the interest rate was 3% I wouldn't have. If the interest rate was 7% I would have. But I am torn since right in the middle at 5%.

For context, we are a married couple in our thirties, 35% marginal tax bracket. After tax, maxing out retirement accounts, living expenses and maxing out ibonds we have we have some left overs to use either towards the extra mortgage payments or invest in a taxable brokerage.
So how much do you think you could make in a taxable brokerage acount?
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mikejuss
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Re: Mortgage @5% : extra payments towards the principal?

Post by mikejuss »

I don't think there's much harm in paying down a loan at 6% at a time when stocks and bonds aren't returning much at all.
lakpr
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Re: Mortgage @5% : extra payments towards the principal?

Post by lakpr »

Are you in California?

Interest paid on mortgage principal that exceeds $750k is not deductible on Federal Tax return. Interest paid on mortgage principal that exceeds $1 million is not deductible on California tax return (if you are in CA).

So at least the $200k above the $1 million threshold is being borrowed at an AFTER TAX interest rate of 5%. If you are in CA, the 35% Federal tax rate + 12.3% CA tax rate makes it equivalent to 9.5% ( = 5% ÷ 0.627) in before tax terms. Meaning you must earn at least that much in Fixed Income investments just to break even.

For me, yes no brainer to accelerate the pay down if the mortgage at least the first $200k. May be even the next $250k too, assuming an implied rate of return of 7.7% (= 5% ÷ 0.65) is attractive to you.
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Re: Mortgage @5% : extra payments towards the principal?

Post by NYCaviator »

Pay it down if you have extra cash and your investing is on track for your goals. Many people will do a clinical analysis of what you "could" make investing the money vs. paying down the mortgage. That ignores the huge psychological benefit of owning a house free and clear. You never know what the future holds, and the less debt you have the better. It means more freedom and sleeping better at night.
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Re: Mortgage @5% : extra payments towards the principal?

Post by mikejuss »

NYCaviator wrote: Wed Sep 21, 2022 7:18 am Pay it down if you have extra cash and your investing is on track for your goals. Many people will do a clinical analysis of what you "could" make investing the money vs. paying down the mortgage. That ignores the huge psychological benefit of owning a house free and clear. You never know what the future holds, and the less debt you have the better. It means more freedom and sleeping better at night.
+1.
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Re: Mortgage @5% : extra payments towards the principal?

Post by HMSVictory »

I paid off a 2.65% mortgage. I like being debt and most importantly payment free. YMMV.
Stay the course!
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Re: Mortgage @5% : extra payments towards the principal?

Post by HMSVictory »

NYCaviator wrote: Wed Sep 21, 2022 7:18 am Pay it down if you have extra cash and your investing is on track for your goals. Many people will do a clinical analysis of what you "could" make investing the money vs. paying down the mortgage. That ignores the huge psychological benefit of owning a house free and clear. You never know what the future holds, and the less debt you have the better. It means more freedom and sleeping better at night.
Especially when "life" comes flying at you in unexpected and unanticipated ways..... lot of peace of mind owning my home outright.
Stay the course!
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JoeRetire
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Re: Mortgage @5% : extra payments towards the principal?

Post by JoeRetire »

HMSVictory wrote: Wed Sep 21, 2022 12:56 pm I paid off a 2.65% mortgage. I like being debt and most importantly payment free. YMMV.
Are you debt and payment free?
Or just less debt and fewer payments?
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MGBMartin
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Re: Mortgage @5% : extra payments towards the principal?

Post by MGBMartin »

I did this with my mortgage even though it was a variable rate loan that got down to super low rate.
One thing I didn’t take into account was the mortgage company reamoratizing the loan every year when they adjusted for the interest rate change.
I’m not sure if this happened because I had a variable rate loan or if it happens with fixed rate loans too.
After a few years of paying extra per month I began to wonder why I wasn’t making much headway.
Then it dawned on me that the mortgage people were recasting to loan out to 30 years based on the current balance.
Doh, and thought I was doing good.
I ended up just bumping up the extra I paid each year.
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grabiner
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Re: Mortgage @5% : extra payments towards the principal?

Post by grabiner »

A risk-free, tax-free, 5% return is significantly better than you can get on any low-risk investment. If you hold any bonds, you can get the 5% return instead of your bond return: pay down the mortgage, and move an equal amount in your 401(k) from a bond fund to a stock fund.

If you are 100% stock, you have to decide whether a risk-free 5% return is better for you than the return on a taxable stock investment; this depends on your risk tolerance.

In either case, it doesn't make sense to pay down the mortgage once you start paying down deductible interest. When you get down to $750K, any further payment earns only 3.25%, and you can earn more than that on municipal bonds while keeping liquidity. (And you will be itemizing, since the interest on a $750K mortgage alone is more than the standard deduction.)
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Re: Mortgage @5% : extra payments towards the principal?

Post by abuss368 »

aquaman0 wrote: Wed Sep 21, 2022 1:25 am We have a 30 yr mortgage with ~1.2M balance at ~5% interest rate. Would you make extra payment towards it, if you could, to pay it off in 15 years? If the interest rate was 3% I wouldn't have. If the interest rate was 7% I would have. But I am torn since right in the middle at 5%.

For context, we are a married couple in our thirties, 35% marginal tax bracket. After tax, maxing out retirement accounts, living expenses and maxing out ibonds we have we have some left overs to use either towards the extra mortgage payments or invest in a taxable brokerage.
Welcome to the forum!

There are two sides to your personal Balance Sheet: Assets and Liabilities.

I would consider a strategy that invests as well as accelerates debt pay down.

I have followed this strategy for a long time and it has worked well.

Having much less debt and ultimately minimal debt is an attractive place to be and places much less stress on a portfolio in retirement.

Have you considered other personal circumstances?

Do you have one source of income?

Would you lose the home is something happened?

Is there enough life and disability insurance?

What about cash reserves?

Investment Portfolio?

Best.
Tony
Last edited by abuss368 on Thu Sep 22, 2022 6:22 am, edited 2 times in total.
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Re: Mortgage @5% : extra payments towards the principal?

Post by abuss368 »

JoeRetire wrote: Wed Sep 21, 2022 6:19 am
aquaman0 wrote: Wed Sep 21, 2022 1:25 am We have a 30 yr mortgage with ~1.2M balance at ~5% interest rate. Would you make extra payment towards it, if you could, to pay it off in 15 years? If the interest rate was 3% I wouldn't have. If the interest rate was 7% I would have. But I am torn since right in the middle at 5%.

For context, we are a married couple in our thirties, 35% marginal tax bracket. After tax, maxing out retirement accounts, living expenses and maxing out ibonds we have we have some left overs to use either towards the extra mortgage payments or invest in a taxable brokerage.
So how much do you think you could make in a taxable brokerage acount?
Not so sure this is appropriate. What exactly are you basing this on?

As I mentioned upthread:

Have you considered other personal circumstances?

Do they have one source of income?

Would they lose the home is something happened?

Is there enough life and disability insurance?

What about cash reserves?

Investment Portfolio?

Best.
Tony
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stupidkid
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Re: Mortgage @5% : extra payments towards the principal?

Post by stupidkid »

I have a similar mortgage and similar situation. As others have recommended my plan is to pay down to $750k and recast to get my monthly payment under $5k.

I can then choose to pay additional principal to reduce duration or just keep the mortgage as is. I will likely keep as is and refinance if rates ever decrease again.
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Re: Mortgage @5% : extra payments towards the principal?

Post by JoeRetire »

abuss368 wrote: Wed Sep 21, 2022 8:56 pm
JoeRetire wrote: Wed Sep 21, 2022 6:19 am
aquaman0 wrote: Wed Sep 21, 2022 1:25 am We have a 30 yr mortgage with ~1.2M balance at ~5% interest rate. Would you make extra payment towards it, if you could, to pay it off in 15 years? If the interest rate was 3% I wouldn't have. If the interest rate was 7% I would have. But I am torn since right in the middle at 5%.

For context, we are a married couple in our thirties, 35% marginal tax bracket. After tax, maxing out retirement accounts, living expenses and maxing out ibonds we have we have some left overs to use either towards the extra mortgage payments or invest in a taxable brokerage.
So how much do you think you could make in a taxable brokerage acount?
Not so sure this is appropriate. What exactly are you basing this on?
I don't understand your question.

I asked how much they think a taxable brokerage account would return. How could that question not be appropriate? And what do you mean by "basing this on"? It's just a question.
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Re: Mortgage @5% : extra payments towards the principal?

Post by HMSVictory »

JoeRetire wrote: Wed Sep 21, 2022 1:42 pm
HMSVictory wrote: Wed Sep 21, 2022 12:56 pm I paid off a 2.65% mortgage. I like being debt and most importantly payment free. YMMV.
Are you debt and payment free?
Or just less debt and fewer payments?
Yes I am totally debt free. I have no payments at all its wonderful. Lot of cash flow.
Stay the course!
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JoeRetire
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Re: Mortgage @5% : extra payments towards the principal?

Post by JoeRetire »

HMSVictory wrote: Thu Sep 22, 2022 6:13 am
JoeRetire wrote: Wed Sep 21, 2022 1:42 pm
HMSVictory wrote: Wed Sep 21, 2022 12:56 pm I paid off a 2.65% mortgage. I like being debt and most importantly payment free. YMMV.
Are you debt and payment free?
Or just less debt and fewer payments?
Yes I am totally debt free. I have no payments at all its wonderful. Lot of cash flow.
Interesting. Do you pay for everything with cash?

I don't know anyone who doesn't have any payments - taxes, monthly credit card payoff, utilities, etc. Must be a very different lifestyle than most.

I can't say sitting down and paying bills bothers me at all. And I use debt as a tool.
Oh, noooooo! I'm so sorry, it's the moops! The correct answer is 'the moops'.
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Re: Mortgage @5% : extra payments towards the principal?

Post by HMSVictory »

JoeRetire wrote: Thu Sep 22, 2022 6:23 am
HMSVictory wrote: Thu Sep 22, 2022 6:13 am
JoeRetire wrote: Wed Sep 21, 2022 1:42 pm
HMSVictory wrote: Wed Sep 21, 2022 12:56 pm I paid off a 2.65% mortgage. I like being debt and most importantly payment free. YMMV.
Are you debt and payment free?
Or just less debt and fewer payments?
Yes I am totally debt free. I have no payments at all its wonderful. Lot of cash flow.
Interesting. Do you pay for everything with cash?

I don't know anyone who doesn't have any payments - taxes, monthly credit card payoff, utilities, etc. Must be a very different lifestyle than most.

I can't say sitting down and paying bills bothers me at all. And I use debt as a tool.
Yes cash mostly but I also use debit cards. I like having a nice stack of cash in my pocket. I know I'm weird. I tip a lot too. :shock:

Of course I have taxes, utilities, netflix what have you.... but my home, cars and everything is paid for.
Stay the course!
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JoeRetire
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Re: Mortgage @5% : extra payments towards the principal?

Post by JoeRetire »

HMSVictory wrote: Thu Sep 22, 2022 6:29 am
JoeRetire wrote: Thu Sep 22, 2022 6:23 am
HMSVictory wrote: Thu Sep 22, 2022 6:13 am
JoeRetire wrote: Wed Sep 21, 2022 1:42 pm
HMSVictory wrote: Wed Sep 21, 2022 12:56 pm I paid off a 2.65% mortgage. I like being debt and most importantly payment free. YMMV.
Are you debt and payment free?
Or just less debt and fewer payments?
Yes I am totally debt free. I have no payments at all its wonderful. Lot of cash flow.
Interesting. Do you pay for everything with cash?

I don't know anyone who doesn't have any payments - taxes, monthly credit card payoff, utilities, etc. Must be a very different lifestyle than most.

I can't say sitting down and paying bills bothers me at all. And I use debt as a tool.
Yes cash mostly but I also use debit cards. I like having a nice stack of cash in my pocket. I know I'm weird. I tip a lot too. :shock:

Of course I have taxes, utilities, netflix what have you.... but my home, cars and everything is paid for.
Okay. So some payments. I do know a few folks who take that route. I have a brother-in-law like that.
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Re: Mortgage @5% : extra payments towards the principal?

Post by KlangFool »

OP,

Pay down your mortgage only if your portfolio is at least 2.4 million. If not, you are putting too much of your money into the house.

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Re: Mortgage @5% : extra payments towards the principal?

Post by Sandtrap »

aquaman0 wrote: Wed Sep 21, 2022 1:25 am We have a 30 yr mortgage with ~1.2M balance at ~5% interest rate. Would you make extra payment towards it, if you could, to pay it off in 15 years? If the interest rate was 3% I wouldn't have. If the interest rate was 7% I would have. But I am torn since right in the middle at 5%.

For context, we are a married couple in our thirties, 35% marginal tax bracket. After tax, maxing out retirement accounts, living expenses and maxing out ibonds we have we have some left overs to use either towards the extra mortgage payments or invest in a taxable brokerage.
To OP: (You: original poster).

ALoha, and welcome to "thee forum".


Here are some notes from a "comprehensive" long and short term personal financial and investment strategy that takes "everything" into consideration, AKA: the big picture.

1. There's simply not enough financial and personal information given unless a lot of assumptions (or quick opinions based on that) are made.
The idea here is that the optimal professional perspective for "you" is professional vs personal input based on "you" and not what "others" are doing, or would do, or that type of banter per se (wrong word?)

See?

Therefore: please edit your original first post (use the pencil icon) to include your existing data and also missing data, and anything you think might be useful, in this "standard forum format": (link below).
Portfolio Review Request [url] https:/ ... =1&t=6212

Your existing data:
1
30 year home mortgage: 5% interest. Balance 1.2 million.
Extra (monthly, quarterly, annual??) payments (if kept up) = 15 year payoff.
(other data given. . 3 or 7% is irrelavent)
2
Personal:
Married: age 30's (young)
Income??? (vague) 35% tax bracket. . means what?
3
Some financial situation and vague question based on incomplete data:
Question to OP:
Currently maxing out "tax advantaged space" (per forum wiki) Is this correct?
Imply? (extra net after tax dollars available. . . how much monthly?) = question: extra mortgage payments monthly. . or invest? and in what? where?

To OP:

Your "missing data":

Okay: So. . .look at the "portfolio review data format" and see how much is missing from the above to base a very informed comprehensive financially experienced suggestion on how to deploy your "extra monthly net income" right now and if it is best to apply it toward your mortgage?
See?

Notice how editing your original post to put "all of your information in one place" vs having experienced professional forum financial senior experts try to parse it out from within the thread conversational exchanges is more efficient and will yield you better results and visibility.
See?

To OP:
I hope this is helpful for you. **Congratulations on your financial successes so far, great job!
pm me as you wish.
"welcome to thee forum" :D :D
j :D

standard dis laimer: zillions of paths and options and ways to do things and pcd :shock: opinionizations based on nil to zero to extensive professional experience, this is only one. Apologies for sintax errors as English is my second language.
Last edited by Sandtrap on Thu Sep 22, 2022 8:43 am, edited 2 times in total.
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Sandtrap
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Re: Mortgage @5% : extra payments towards the principal?

Post by Sandtrap »

JBTX wrote: Wed Sep 21, 2022 1:34 am If I truly had extra liquidity and all other advantaged investment options exhausted, I’d probably start paying down at least until I got to $750,000, assuming your house was purchased 2017 or later. At that point if you have enough to do itemized deductions the calculation changes somewhat and becomes murkier. For some range of your interest the after tax interest rate will be close to 3.0%.


https://www.nerdwallet.com/blog/mortgag ... deduction/

Having said that given your age and depending on your risk tolerance investing some of it in taxable index stock funds could still be appropriate.
+1
Great points
Well said, as always.
Thanks for the "link".

To OP:
This is excellent professional input with backup references and links.
Consider it within the comprehensive context that I mentioned in my prior post.

As "JBTX" mentions and alludes to: you have a lot of options, but it depends on your bigger unknown picture that you need to add to.

I hope this is helpful for you.
j :D
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harikaried
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Re: Mortgage @5% : extra payments towards the principal?

Post by harikaried »

aquaman0 wrote: Wed Sep 21, 2022 1:25 ammaxing out ibonds we have we have some left overs to use either towards the extra mortgage payments or invest in a taxable brokerage
What's your asset allocation? (Do you have other bonds and how much?) Looking at your overall situation, you might be borrowing money to invest in higher yielding ibonds but also potentially lower yielding other bonds.
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aquaman0
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Re: Mortgage @5% : extra payments towards the principal?

Post by aquaman0 »

Thank you everyone from your insightful comments, really appreciate it. What some of you are saying makes a lot of sense: pay down until balance is down to 750k.

I have edited the original post to answer some of the questions you asked. Also putting it here:

Do you have one source of income? Dual income household.
What about cash reserves? ~200k (~1.5 yr of expenses including mortgage payments)
Investment Portfolio? 90% vanguard 2050 target fund, 10% US small cap value tilt
Income??? Combined household income Base 325k, cash bonus 45k, RSU 100k
What's your asset allocation? (Do you have other bonds and how much?) 91% stock, 9% bond
lakpr
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Re: Mortgage @5% : extra payments towards the principal?

Post by lakpr »

aquaman0 wrote: Thu Sep 22, 2022 11:30 pm Thank you everyone from your insightful comments, really appreciate it. What some of you are saying makes a lot of sense: pay down until balance is down to 750k.

I have edited the original post to answer some of the questions you asked. Also putting it here:

Do you have one source of income? Dual income household.
What about cash reserves? ~200k (~1.5 yr of expenses including mortgage payments)
Investment Portfolio? 90% vanguard 2050 target fund, 10% US small cap value tilt
Income??? Combined household income Base 325k, cash bonus 45k, RSU 100k
What's your asset allocation? (Do you have other bonds and how much?) 91% stock, 9% bond
Didn't see I bonds in this update. Given that you have 1.5 years of cash reserves = $200k, I would take approximately a third of that cash, $60k, and invest in I bonds today. That would leave 1 year worth of expenses liquid, and bv the time 1 year passes these I bonds would be liquid again.

You and your spouse can buy $10k + $10k for 2022 today
then you can use the gift box technique to buy I bonds right now for 2023 and 2024 as gifts for each other, but deliver in Jan 2023 and Jan 2024 to each other.

You don't lose any liquidity this way, while locking in the current 9.62% rate for at least six months.
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aquaman0
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Re: Mortgage @5% : extra payments towards the principal?

Post by aquaman0 »

lakpr wrote: Fri Sep 23, 2022 4:59 am
aquaman0 wrote: Thu Sep 22, 2022 11:30 pm Thank you everyone from your insightful comments, really appreciate it. What some of you are saying makes a lot of sense: pay down until balance is down to 750k.

I have edited the original post to answer some of the questions you asked. Also putting it here:

Do you have one source of income? Dual income household.
What about cash reserves? ~200k (~1.5 yr of expenses including mortgage payments)
Investment Portfolio? 90% vanguard 2050 target fund, 10% US small cap value tilt
Income??? Combined household income Base 325k, cash bonus 45k, RSU 100k
What's your asset allocation? (Do you have other bonds and how much?) 91% stock, 9% bond
Didn't see I bonds in this update. Given that you have 1.5 years of cash reserves = $200k, I would take approximately a third of that cash, $60k, and invest in I bonds today. That would leave 1 year worth of expenses liquid, and bv the time 1 year passes these I bonds would be liquid again.

You and your spouse can buy $10k + $10k for 2022 today
then you can use the gift box technique to buy I bonds right now for 2023 and 2024 as gifts for each other, but deliver in Jan 2023 and Jan 2024 to each other.

You don't lose any liquidity this way, while locking in the current 9.62% rate for at least six months.
Actually I wasn't specific. 40k of my "cash" reserve is actually is in iBonds. Planning to buy 20k again in January. Long term goal is to have most of my emergency funds in iBonds instead of HYSA.
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aquaman0
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Re: Mortgage @5% : extra payments towards the principal?

Post by aquaman0 »

KlangFool wrote: Thu Sep 22, 2022 6:51 am OP,

Pay down your mortgage only if your portfolio is at least 2.4 million. If not, you are putting too much of your money into the house.

KlangFool
Portfolio is actually less than 2.4M. You came up with this number by just doubling the mortgage balance or something else?
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Re: Mortgage @5% : extra payments towards the principal?

Post by lakpr »

aquaman0 wrote: Fri Sep 23, 2022 1:15 pm Actually I wasn't specific. 40k of my "cash" reserve is actually is in iBonds. Planning to buy 20k again in January. Long term goal is to have most of my emergency funds in iBonds instead of HYSA.
That's good ... but all indications are that the inflation rate is going to be lower, so you might want to use the gift-box technique to buy a few years ahead of time to lock in the current 9.62% rate for at least 6 months. Why wait until January when you have cash on hand?
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Re: Mortgage @5% : extra payments towards the principal?

Post by KlangFool »

aquaman0 wrote: Fri Sep 23, 2022 1:17 pm
KlangFool wrote: Thu Sep 22, 2022 6:51 am OP,

Pay down your mortgage only if your portfolio is at least 2.4 million. If not, you are putting too much of your money into the house.

KlangFool
Portfolio is actually less than 2.4M. You came up with this number by just doubling the mortgage balance or something else?
Yes. Why would you concentrate all you eggs into the house basket? Actually, the number should be double your house price.

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aquaman0
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Re: Mortgage @5% : extra payments towards the principal?

Post by aquaman0 »

lakpr wrote: Fri Sep 23, 2022 1:26 pm
aquaman0 wrote: Fri Sep 23, 2022 1:15 pm Actually I wasn't specific. 40k of my "cash" reserve is actually is in iBonds. Planning to buy 20k again in January. Long term goal is to have most of my emergency funds in iBonds instead of HYSA.
That's good ... but all indications are that the inflation rate is going to be lower, so you might want to use the gift-box technique to buy a few years ahead of time to lock in the current 9.62% rate for at least 6 months. Why wait until January when you have cash on hand?
Waiting for January since I have already maxed it out for this year. I will have to look into the gift-box technique to circumvent the 10k per year per person limit.
Topic Author
aquaman0
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Re: Mortgage @5% : extra payments towards the principal?

Post by aquaman0 »

KlangFool wrote: Fri Sep 23, 2022 2:43 pm
aquaman0 wrote: Fri Sep 23, 2022 1:17 pm
KlangFool wrote: Thu Sep 22, 2022 6:51 am OP,

Pay down your mortgage only if your portfolio is at least 2.4 million. If not, you are putting too much of your money into the house.

KlangFool
Portfolio is actually less than 2.4M. You came up with this number by just doubling the mortgage balance or something else?
Yes. Why would you concentrate all you eggs into the house basket? Actually, the number should be double your house price.

KlangFool
My thought process is that I have taken the risk of putting a lot of eggs in the house basket at the time of purchase. I am not taking any additional risks by making extra payments.
KlangFool
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Re: Mortgage @5% : extra payments towards the principal?

Post by KlangFool »

aquaman0 wrote: Fri Sep 23, 2022 7:11 pm
KlangFool wrote: Fri Sep 23, 2022 2:43 pm
aquaman0 wrote: Fri Sep 23, 2022 1:17 pm
KlangFool wrote: Thu Sep 22, 2022 6:51 am OP,

Pay down your mortgage only if your portfolio is at least 2.4 million. If not, you are putting too much of your money into the house.

KlangFool
Portfolio is actually less than 2.4M. You came up with this number by just doubling the mortgage balance or something else?
Yes. Why would you concentrate all you eggs into the house basket? Actually, the number should be double your house price.

KlangFool
My thought process is that I have taken the risk of putting a lot of eggs in the house basket at the time of purchase. I am not taking any additional risks by making extra payments.
You are taking additional risk by keeping less money outside the house.

The choice is 1m home equity and 1m portfolio versus 500K home equity and 1.5m portfolio. Which one has more risk exposure to the house? Which one is less diversified?

KlangFool
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Topic Author
aquaman0
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Re: Mortgage @5% : extra payments towards the principal?

Post by aquaman0 »

KlangFool wrote: Fri Sep 23, 2022 7:22 pm
aquaman0 wrote: Fri Sep 23, 2022 7:11 pm
KlangFool wrote: Fri Sep 23, 2022 2:43 pm
aquaman0 wrote: Fri Sep 23, 2022 1:17 pm
KlangFool wrote: Thu Sep 22, 2022 6:51 am OP,

Pay down your mortgage only if your portfolio is at least 2.4 million. If not, you are putting too much of your money into the house.

KlangFool
Portfolio is actually less than 2.4M. You came up with this number by just doubling the mortgage balance or something else?
Yes. Why would you concentrate all you eggs into the house basket? Actually, the number should be double your house price.

KlangFool
My thought process is that I have taken the risk of putting a lot of eggs in the house basket at the time of purchase. I am not taking any additional risks by making extra payments.
You are taking additional risk by keeping less money outside the house.

The choice is 1m home equity and 1m portfolio versus 500K home equity and 1.5m portfolio. Which one has more risk exposure to the house? Which one is less diversified?

KlangFool
Yes you are correct about that. But if I do not make extra payments then I have extra liability (extra mortgage balance) instead of home equity. In my mind I still have the same amount of risk exposure to the house.
harikaried
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Re: Mortgage @5% : extra payments towards the principal?

Post by harikaried »

aquaman0 wrote: Fri Sep 23, 2022 7:11 pmMy thought process is that I have taken the risk of putting a lot of eggs in the house basket at the time of purchase
Right, you can look at your overall asset allocation including liquid assets (equities, bonds, cash) and illiquid real estate as a percentage of your net worth. Some people associate the mortgage only to the property as home equity while others might treat any debt as subtracting from liquid assets like bonds.

For example just assuming your liquid assets total $1.7M and house worth $1.5M, with $1.2M debt your net worth would be $2.0M allocated 85% liquid / 75% illiquid / -60% debt. Some people might say that's too much debt and others not enough debt depending on how much leverage one wants.
KlangFool
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Re: Mortgage @5% : extra payments towards the principal?

Post by KlangFool »

aquaman0 wrote: Fri Sep 23, 2022 7:41 pm
KlangFool wrote: Fri Sep 23, 2022 7:22 pm
aquaman0 wrote: Fri Sep 23, 2022 7:11 pm
KlangFool wrote: Fri Sep 23, 2022 2:43 pm
aquaman0 wrote: Fri Sep 23, 2022 1:17 pm

Portfolio is actually less than 2.4M. You came up with this number by just doubling the mortgage balance or something else?
Yes. Why would you concentrate all you eggs into the house basket? Actually, the number should be double your house price.

KlangFool
My thought process is that I have taken the risk of putting a lot of eggs in the house basket at the time of purchase. I am not taking any additional risks by making extra payments.
You are taking additional risk by keeping less money outside the house.

The choice is 1m home equity and 1m portfolio versus 500K home equity and 1.5m portfolio. Which one has more risk exposure to the house? Which one is less diversified?

KlangFool
Yes you are correct about that. But if I do not make extra payments then I have extra liability (extra mortgage balance) instead of home equity. In my mind I still have the same amount of risk exposure to the house.
Yes and no. You risk exposure to the house does not change. But, your liquidity and diversification could be better. Is it safe to tie up so much percentage of your net worth in a house?

Do not put most of your eggs into one basket.


KlangFool
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Variant
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Re: Mortgage @5% : extra payments towards the principal?

Post by Variant »

I pay my 3.875% 30-year as if it's a 15-year (extra principal). If the going gets rough, I can always back off that payment.
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Beensabu
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Re: Mortgage @5% : extra payments towards the principal?

Post by Beensabu »

I once accidentally made a principal payment when I thought was making a regular payment. That's when I realized there a limit to how far prior to the monthly due date you could pay before messing up their amortization schedule.

I thought of that happening as a financial mistake.
"The only thing that makes life possible is permanent, intolerable uncertainty; not knowing what comes next." ~Ursula LeGuin
solarcub
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Re: Mortgage @5% : extra payments towards the principal?

Post by solarcub »

aquaman0 wrote: Wed Sep 21, 2022 1:25 am we have some left overs to use either towards the extra mortgage payments or invest in a taxable brokerage.
It's not all or nothing. Put half the leftovers into the mortgage, with a guaranteed 5% return plus the tax benefits others have mentioned, and put half in a stock fund. Don't overthink it.
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grabiner
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Re: Mortgage @5% : extra payments towards the principal?

Post by grabiner »

KlangFool wrote: Fri Sep 23, 2022 7:22 pm
aquaman0 wrote: Fri Sep 23, 2022 7:11 pm
KlangFool wrote: Fri Sep 23, 2022 2:43 pm Yes. Why would you concentrate all you eggs into the house basket? Actually, the number should be double your house price.

KlangFool
My thought process is that I have taken the risk of putting a lot of eggs in the house basket at the time of purchase. I am not taking any additional risks by making extra payments.
You are taking additional risk by keeping less money outside the house.

The choice is 1m home equity and 1m portfolio versus 500K home equity and 1.5m portfolio. Which one has more risk exposure to the house? Which one is less diversified?
What you are calling "home equity" is not the same thing in these two situations. If the home is worth $1.5M, and declines in value to $1.2M, then you lose 30% of your $1M home equity with a $500K mortgage, and 60% of your $500K home equity with a $1M mortgage. Either way, you lose $300K, so you have the same risk exposure to the house.

On the portfolio side, the risk level (which is the reason for diversification) depends on what the portfolio holds. If you have $1M of stock, you have the same risk whether you have a $1M mortgage and $500K bonds, or a $500K mortgage and no bonds; either way, a 20% stock decline will cost you $200K, which is 10% of your net worth including the $1.5M house. If you have the same stock percentage in the larger portfolio, you are taking more risk.

What you do lose by paying down the mortgage is liquidity, so you have to decide whether the loss of liquidity is worth the guaranteed gain at the same risk level. Holding $500K in municipal bonds rather than using them to pay down the mortgage gives you $500K which you can easily spend, at little risk of needing to sell in a down market. However, it costs you $10K per year if the mortgage rate is 5% and munis yield 3%.
Wiki David Grabiner
JBTX
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Re: Mortgage @5% : extra payments towards the principal?

Post by JBTX »

KlangFool wrote: Fri Sep 23, 2022 8:49 pm
aquaman0 wrote: Fri Sep 23, 2022 7:41 pm
KlangFool wrote: Fri Sep 23, 2022 7:22 pm
aquaman0 wrote: Fri Sep 23, 2022 7:11 pm
KlangFool wrote: Fri Sep 23, 2022 2:43 pm

Yes. Why would you concentrate all you eggs into the house basket? Actually, the number should be double your house price.

KlangFool
My thought process is that I have taken the risk of putting a lot of eggs in the house basket at the time of purchase. I am not taking any additional risks by making extra payments.
You are taking additional risk by keeping less money outside the house.

The choice is 1m home equity and 1m portfolio versus 500K home equity and 1.5m portfolio. Which one has more risk exposure to the house? Which one is less diversified?

KlangFool
Yes you are correct about that. But if I do not make extra payments then I have extra liability (extra mortgage balance) instead of home equity. In my mind I still have the same amount of risk exposure to the house.
Yes and no. You risk exposure to the house does not change. But, your liquidity and diversification could be better. Is it safe to tie up so much percentage of your net worth in a house?

Do not put most of your eggs into one basket.


KlangFool
You’ve said this in many threads and from my perspective it is wrong. Paying off a mortgage is not putting more money into your house. The house is part of tour asset portfolio/net worth. It’s value doesn’t change whether or not you have a mortgage. You will have gains or losses on the total value of that asset whether it is paid off or mostly financed (unless you plan to walk away from the house and mortgage if it is upside down)

The question is whether it is better to retain a mortgage, and reinvest in other other assets, and get the benefits of the liquidity, or pay it off and lock in a “risk free” return of mortgage interest rate avoidance (risk free in terms of return, not risk free in terms of liquidity). Whether this increases or decreases the risk of your total net worth portfolio depends on how the debt is invested. Your net worth does not change by having a mortgage and having the excess proceeds invested elsewhere.

I generally agree with you that liquidity is important and has value and people should think twice about paying off a modest rate mortgage, but the way you frame it is incorrect.
Minderbinder
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Re: Mortgage @5% : extra payments towards the principal?

Post by Minderbinder »

JBTX wrote: Fri Sep 23, 2022 10:51 pm
KlangFool wrote: Fri Sep 23, 2022 8:49 pm
aquaman0 wrote: Fri Sep 23, 2022 7:41 pm
KlangFool wrote: Fri Sep 23, 2022 7:22 pm
aquaman0 wrote: Fri Sep 23, 2022 7:11 pm

My thought process is that I have taken the risk of putting a lot of eggs in the house basket at the time of purchase. I am not taking any additional risks by making extra payments.
You are taking additional risk by keeping less money outside the house.

The choice is 1m home equity and 1m portfolio versus 500K home equity and 1.5m portfolio. Which one has more risk exposure to the house? Which one is less diversified?

KlangFool
Yes you are correct about that. But if I do not make extra payments then I have extra liability (extra mortgage balance) instead of home equity. In my mind I still have the same amount of risk exposure to the house.
Yes and no. You risk exposure to the house does not change. But, your liquidity and diversification could be better. Is it safe to tie up so much percentage of your net worth in a house?

Do not put most of your eggs into one basket.


KlangFool
You’ve said this in many threads and from my perspective it is wrong. Paying off a mortgage is not putting more money into your house. The house is part of tour asset portfolio/net worth. It’s value doesn’t change whether or not you have a mortgage. You will have gains or losses on the total value of that asset whether it is paid off or mostly financed (unless you plan to walk away from the house and mortgage if it is upside down)

The question is whether it is better to retain a mortgage, and reinvest in other other assets, and get the benefits of the liquidity, or pay it off and lock in a “risk free” return of mortgage interest rate avoidance (risk free in terms of return, not risk free in terms of liquidity). Whether this increases or decreases the risk of your total net worth portfolio depends on how the debt is invested. Your net worth does not change by having a mortgage and having the excess proceeds invested elsewhere.

I generally agree with you that liquidity is important and has value and people should think twice about paying off a modest rate mortgage, but the way you frame it is incorrect.
You are correct.

Klang is making an argument for leverage, not diversification. Leverage is not a good or a bad thing per se, but it is definitely more risky and will magnify returns, especially as real estate has been heavily correlated to stocks in the past 2 years.

As an example:

Portfolio A:
- Mortgage of 1mm
- House worth 1.5MM
- Portfolio worth 2 MM
- Net worth = 2MM + 1.5 MM - 1 MM = 2.5MM
- Assets exposed to the market = $2 MM + $1.5 MM = $3.5 MM

Portfolio B:
- No mortage
- House worth 1.5MM
- Portfolio worth 1MM
- Net worth = 2.5 MM
- Assets exposed to the market = $1 MM + $1.5MM = $2.5 MM

The investors have the same net worth. However if both stocks and real estate fall by 20% (not impossible in 2022 in coastal markets)... portfolio A will lose 20% * (1.5 + 2) = $700K. Portfolio B will lose 20% * 2.5 = $500k. Portfolio A loses 28% of his net worth, Portfolio B loses 20%.

A mortgage is just a form of leverage that will magnify your returns if things turn out well or magnify your losses if they don't. That's not diversification...its just borrowing money from one pocket to buy some more assets in a different one. Both investors are just as exposed to real estate to the tune of $1mm each.

Personally I'd pay the mortgage down at that rate. There are a lot cheaper ways to get leverage in stocks and accomplish the same things if you still want that leverage. Trade S&P Futures, for example, to get more stock exposure without paying the 9% after tax effective financing cost.

Caveats are as you mention, if you intend to walk away from the note if things get really really bad, or if there is liquidity issues elsewhere then those need to be factored in.
JBTX
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Re: Mortgage @5% : extra payments towards the principal?

Post by JBTX »

Minderbinder wrote: Fri Sep 23, 2022 11:03 pm
JBTX wrote: Fri Sep 23, 2022 10:51 pm
KlangFool wrote: Fri Sep 23, 2022 8:49 pm
aquaman0 wrote: Fri Sep 23, 2022 7:41 pm
KlangFool wrote: Fri Sep 23, 2022 7:22 pm

You are taking additional risk by keeping less money outside the house.

The choice is 1m home equity and 1m portfolio versus 500K home equity and 1.5m portfolio. Which one has more risk exposure to the house? Which one is less diversified?

KlangFool
Yes you are correct about that. But if I do not make extra payments then I have extra liability (extra mortgage balance) instead of home equity. In my mind I still have the same amount of risk exposure to the house.
Yes and no. You risk exposure to the house does not change. But, your liquidity and diversification could be better. Is it safe to tie up so much percentage of your net worth in a house?

Do not put most of your eggs into one basket.


KlangFool
You’ve said this in many threads and from my perspective it is wrong. Paying off a mortgage is not putting more money into your house. The house is part of tour asset portfolio/net worth. It’s value doesn’t change whether or not you have a mortgage. You will have gains or losses on the total value of that asset whether it is paid off or mostly financed (unless you plan to walk away from the house and mortgage if it is upside down)

The question is whether it is better to retain a mortgage, and reinvest in other other assets, and get the benefits of the liquidity, or pay it off and lock in a “risk free” return of mortgage interest rate avoidance (risk free in terms of return, not risk free in terms of liquidity). Whether this increases or decreases the risk of your total net worth portfolio depends on how the debt is invested. Your net worth does not change by having a mortgage and having the excess proceeds invested elsewhere.

I generally agree with you that liquidity is important and has value and people should think twice about paying off a modest rate mortgage, but the way you frame it is incorrect.
You are correct.

Klang is making an argument for leverage, not diversification. Leverage is not a good or a bad thing per se, but it is definitely more risky and will magnify returns, especially as real estate has been heavily correlated to stocks in the past 2 years.

As an example:

Portfolio A:
- Mortgage of 1mm
- House worth 1.5MM
- Portfolio worth 2 MM
- Net worth = 2MM + 1.5 MM - 1 MM = 2.5MM

Portfolio B:
- No mortage
- House worth 1.5MM
- Portfolio worth 1MM
- Net worth = 2.5 MM

The investors have the same net worth. However if both stocks and real estate fall by 20% (not impossible in 2022 in coastal markets)... portfolio A will lose 20% * (1.5 + 2) = $700K. Portfolio B will lose 20% * 2.5 = $500k. Portfolio A loses 28% of his net worth, Portfolio B loses 20%.

Mortgage is just a form of leverage that will magnify your returns if things turn out well or magnify your losses if they don't. That's not diversification...its just borrowing money from one pocket to buy some more assets in a different one. Both investors are just as exposed to real estate to the tune of $1mm each.

Personally I'd pay the mortgage down at that rate. There are a lot cheaper ways to get leverage in stocks and accomplish the same things. Trade S&P Futures, for example, to get more stock exposure without paying the 9% after tax effective financing cost.

Caveats are as you mention, if you intend to walk away from the note if things get really really bad, or if there is liquidity issues elsewhere then those need to be factored in.
You’ve got two different types of risks - portfolio return/volatilty risk and liquidity risk. Having a mortgage and investing the proceeds in low risk fixed rate bonds doesn’t really change your rate of return risk. Having extra proceeds does reduce your liquidity risk. I think he is misapplying the portfolio risk model of diversification to this situation. Diversification generally lowers risk, but I don’t think borrowing to diversify into other risky assets usually lowers your risk.

As I said earlier in the thread, all else equal, at 5% I would lean towards paying down until the point where interest is deductible. Once deductible the after tax rate is low enough that I’d probably lean towards hanging on to it. Of course, all of that is dependent upon a bunch of other individual variables specific to the OPs situation.
invest4
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Re: Mortgage @5% : extra payments towards the principal?

Post by invest4 »

mikejuss wrote: Wed Sep 21, 2022 7:04 am I don't think there's much harm in paying down a loan at 6% at a time when stocks and bonds aren't returning much at all.
I don't see how the short term gyrations of the market change anything. For people in the accumulation phase, it still holds that:

Fixed mortgages provide:

* Inflation hedge

* Liquidity

* Leverage for further investment.


If one wanted to focus on the short term, I would offer:

* Inflation hedge - current mortgage is 5%...interest rates still rising (6%+ mortgages now) and savings rates also rising.

* Liquidity - lot of talk about the prospect of recession. I want more liquidity...not less.

* Leverage for further investment - stocks and bonds not doing well? I am interested to buy more at lower prices.
KlangFool
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Re: Mortgage @5% : extra payments towards the principal?

Post by KlangFool »

Folks,

The risk exposure of

A) 2m house 1m mortgage 1m 60/40 portfolio

Versus

B) 2m house 500K mortgage 1.5m 60/40 portfolio

is not the same. If the house price drops 50%, it impacts (A) more than (B). (B) has more money outside the house.

KlangFool
40% VWENX | 12.5% VFWAX/VTIAX | 11.5% VTSAX | 16% VBTLX | 10% VSIAX/VTMSX/VSMAX | 10% VSIGX| 40% Wellington 40% 3-funds 20% Mini-Larry
KlangFool
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Joined: Sat Oct 11, 2008 12:35 pm

Re: Mortgage @5% : extra payments towards the principal?

Post by KlangFool »

Minderbinder wrote: Fri Sep 23, 2022 11:03 pm
JBTX wrote: Fri Sep 23, 2022 10:51 pm
KlangFool wrote: Fri Sep 23, 2022 8:49 pm
aquaman0 wrote: Fri Sep 23, 2022 7:41 pm
KlangFool wrote: Fri Sep 23, 2022 7:22 pm

You are taking additional risk by keeping less money outside the house.

The choice is 1m home equity and 1m portfolio versus 500K home equity and 1.5m portfolio. Which one has more risk exposure to the house? Which one is less diversified?

KlangFool
Yes you are correct about that. But if I do not make extra payments then I have extra liability (extra mortgage balance) instead of home equity. In my mind I still have the same amount of risk exposure to the house.
Yes and no. You risk exposure to the house does not change. But, your liquidity and diversification could be better. Is it safe to tie up so much percentage of your net worth in a house?

Do not put most of your eggs into one basket.


KlangFool
You’ve said this in many threads and from my perspective it is wrong. Paying off a mortgage is not putting more money into your house. The house is part of tour asset portfolio/net worth. It’s value doesn’t change whether or not you have a mortgage. You will have gains or losses on the total value of that asset whether it is paid off or mostly financed (unless you plan to walk away from the house and mortgage if it is upside down)

The question is whether it is better to retain a mortgage, and reinvest in other other assets, and get the benefits of the liquidity, or pay it off and lock in a “risk free” return of mortgage interest rate avoidance (risk free in terms of return, not risk free in terms of liquidity). Whether this increases or decreases the risk of your total net worth portfolio depends on how the debt is invested. Your net worth does not change by having a mortgage and having the excess proceeds invested elsewhere.

I generally agree with you that liquidity is important and has value and people should think twice about paying off a modest rate mortgage, but the way you frame it is incorrect.
You are correct.

Klang is making an argument for leverage, not diversification. Leverage is not a good or a bad thing per se, but it is definitely more risky and will magnify returns, especially as real estate has been heavily correlated to stocks in the past 2 years.

As an example:

Portfolio A:
- Mortgage of 1mm
- House worth 1.5MM
- Portfolio worth 2 MM
- Net worth = 2MM + 1.5 MM - 1 MM = 2.5MM
- Assets exposed to the market = $2 MM + $1.5 MM = $3.5 MM

Portfolio B:
- No mortage
- House worth 1.5MM
- Portfolio worth 1MM
- Net worth = 2.5 MM
- Assets exposed to the market = $1 MM + $1.5MM = $2.5 MM

The investors have the same net worth. However if both stocks and real estate fall by 20% (not impossible in 2022 in coastal markets)... portfolio A will lose 20% * (1.5 + 2) = $700K. Portfolio B will lose 20% * 2.5 = $500k. Portfolio A loses 28% of his net worth, Portfolio B loses 20%.

A mortgage is just a form of leverage that will magnify your returns if things turn out well or magnify your losses if they don't. That's not diversification...its just borrowing money from one pocket to buy some more assets in a different one. Both investors are just as exposed to real estate to the tune of $1mm each.

Personally I'd pay the mortgage down at that rate. There are a lot cheaper ways to get leverage in stocks and accomplish the same things if you still want that leverage. Trade S&P Futures, for example, to get more stock exposure without paying the 9% after tax effective financing cost.

Caveats are as you mention, if you intend to walk away from the note if things get really really bad, or if there is liquidity issues elsewhere then those need to be factored in.
OP had said that his portfolio is less than 2 times the mortgage.

Real estate is local. Your model does not consider the possibility of collapse of the local economy leading to local housing crashes.

KlangFool
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smitcat
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Re: Mortgage @5% : extra payments towards the principal?

Post by smitcat »

KlangFool wrote: Sat Sep 24, 2022 6:22 am Folks,

The risk exposure of

A) 2m house 1m mortgage 1m 60/40 portfolio

Versus

B) 2m house 500K mortgage 1.5m 60/40 portfolio

is not the same. If the house price drops 50%, it impacts (A) more than (B). (B) has more money outside the house.

KlangFool
If/when the price of the home goes up 50% do you then take out additional mortgage to maintain a ratio of home value to overall portfolio?
Minderbinder
Posts: 72
Joined: Wed Feb 14, 2018 3:41 pm

Re: Mortgage @5% : extra payments towards the principal?

Post by Minderbinder »

KlangFool wrote: Sat Sep 24, 2022 6:22 am Folks,

The risk exposure of

A) 2m house 1m mortgage 1m 60/40 portfolio

Versus

B) 2m house 500K mortgage 1.5m 60/40 portfolio

is not the same. If the house price drops 50%, it impacts (A) more than (B). (B) has more money outside the house.

KlangFool
Well, yeah. You've flipped the signs. The mortgage is negative assets so B has a million dollars more wealth than A straight up. 500k smaller balance on the mortgage and 500k more in portfolio. They aren't the same level of wealth.
TinyHouse
Posts: 55
Joined: Mon May 30, 2022 9:05 pm

Re: Mortgage @5% : extra payments towards the principal?

Post by TinyHouse »

mikejuss wrote: Wed Sep 21, 2022 7:04 am I don't think there's much harm in paying down a loan at 6% at a time when stocks and bonds aren't returning much at all.
FYI, that’s usually the exact time you want to buy stocks
harikaried
Posts: 2160
Joined: Fri Mar 09, 2012 3:47 pm

Re: Mortgage @5% : extra payments towards the principal?

Post by harikaried »

aquaman0 wrote: Fri Sep 23, 2022 7:41 pmIn my mind I still have the same amount of risk exposure to the house
Right, your overall asset allocation to real estate does not change whether you have a mortgage or not as you've made that choice when buying the house in the first place.
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