Home mortgage pay off strategies

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Topic Author
IAmJustAnAverageDude
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Home mortgage pay off strategies

Post by IAmJustAnAverageDude »

Hello bogleheads, I finally closed on a Bay area home! We are 27 years of age.

Price ~800k
30-year fixed
5% down
4.99% interest
$164 PMI for 1-6 years
no prepayment penalty
PMI removed after 80% LTV

Our house hold income ~400k. From another post I have an expected ~30k to help a family member with college, and my net worth post purchasing the home excluding the home equity is about 300k and my spouse is about 60k.

1. Does it make sense to pay off our home sooner to get rid of PMI?
2. Is 4.99% interest high enough to warrant paying it off ahead of schedule?
3. Is biweekly payments better than monthly payments?
4. Has anyone successfully used Plastiq with Rocket Mortgage to pay the mortgage using a credit card to get some points?
5. What are some other things first time home owners should know about finances that you wish you knew earlier?
KlangFool
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Re: Home mortgage pay off strategies

Post by KlangFool »

OP,

1) You are "House Poor". You have a 800K house and 360K outside the house. It does not makes any sense to put more money into the house. Your net worth besides the house needs to be at least 1.6M before paying extra into the house.

2) Are you in a non-recourse loan state?

3) Do you max up all you tax-advantaged accounts?

4) What is your annual savings/investment?

5) What is the size of your emergency fund?

6) If you are unemployed in the coming recession and both the house and the stock drops 50%, how long before you lose the house?

KlangFool
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Topic Author
IAmJustAnAverageDude
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Re: Home mortgage pay off strategies

Post by IAmJustAnAverageDude »

KlangFool wrote: Fri May 27, 2022 7:27 pm OP,

1) You are "House Poor". You have a 800K house and 360K outside the house. It does not makes any sense to put more money into the house. Your net worth besides the house needs to be at least 1.6M before paying extra into the house.

2) Are you in a non-recourse loan state?

3) Do you max up all you tax-advantaged accounts?

4) What is your annual savings/investment?

5) What is the size of your emergency fund?

6) If you are unemployed in the coming recession and both the house and the stock drops 50%, how long before you lose the house?

KlangFool
1. I see what does house poor really mean? Instead of choosing to pay rent, we chose to lock in a property when we could and start paying mortgage and build equity early age.
2. I am in California - what does the non-recourse loan state mean to me?
3. Yes I max out 401k, HSA, spouse maxes out 401k. Both of us max out our employer ESPP. We are not eligible for Roth IRA anymore due to income limits.
4. With our current "rent" situation we bring in about $12k post tax income per month, and spend a total of $4.5k per month all things included. With our mortgage we expect to spend about $9k per month all included (mortgage + food + entertainment + travel) besides already maxing out our tax advantaged accounts.
5. Currently we have about $100k in liquid savings available which is about 15 months of mortgage.
6. Net worth is tied up in index funds. I used to have high single stock exposure, but I sold and diversified, so outside of 100k in cash, rest of it is in VTI/VXUS and some other ETFs. A couple of AAPL, GOOG and MSFT shares here and there but majorly broad ETFs.

Lastly we both work tech jobs - so we are hoping that the recession doesn't hit us but who knows what happens.

With the stock market being volatile, what should we do with our extra cash flow each month then? Continue investing in VTI or buy some i-bonds now that the rate is 9%?
7eight9
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Re: Home mortgage pay off strategies

Post by 7eight9 »

IAmJustAnAverageDude wrote: Fri May 27, 2022 7:40 pm 2. I am in California - what does the non-recourse loan state mean to me?
A non-recourse loan permits the lender to seize only the collateral specified in the loan agreement, even if its value does not cover the entire debt.
https://www.investopedia.com/ask/answer ... ateralized.

California --- https://leginfo.legislature.ca.gov/face ... onNum=580b
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KlangFool
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Re: Home mortgage pay off strategies

Post by KlangFool »

OP,

1) You are in a non-recourse loan state.

2) Your down payment is 5% for a 800K house = 40K down payment.

3) Your mortgage is 760K.

4) If the house drops 50% and you have to move away from California, you can stop paying your mortgage and only lose 40K and your house. Your mortgage is 760K and the house is only worth 400K. There is no point keeping the house.

5) So, do not put extra money into your house.

6) Sell your employer's stock as soon as you bought the stock via ESPP.

KlangFool
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1789
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Re: Home mortgage pay off strategies

Post by 1789 »

At your income level i would focus on the follwings

1) Max both 401ks
2) Max family HSA
3) 2x backdoor Roth iras
4) Continue in megabackdoor Roth, max if possible
5) If you prefer to have a large amount of cash easily accessible then after 3) put money into taxable account or split betwern 4) and 5)
6) Sell Espp and RSUS as soon as possible and put the money in taxable
7) Don’t put any penny more on that house payment. Thats a very bad decision.
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Topic Author
IAmJustAnAverageDude
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Re: Home mortgage pay off strategies

Post by IAmJustAnAverageDude »

1. Is it a bad idea to put more money in the house to get to 80% LTV so as to get rid of PMI?

2. Is it a bad idea to get the house interior painted prior to move in? It’s a 8 year old house.
manatee2005
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Re: Home mortgage pay off strategies

Post by manatee2005 »

IAmJustAnAverageDude wrote: Sat May 28, 2022 1:28 am 1. Is it a bad idea to put more money in the house to get to 80% LTV so as to get rid of PMI?

2. Is it a bad idea to get the house interior painted prior to move in? It’s a 8 year old house.
2. Go with what your wife wants. If she wants it painted, paint it. If not, don't paint it.
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Drew31
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Re: Home mortgage pay off strategies

Post by Drew31 »

IAmJustAnAverageDude wrote: Sat May 28, 2022 1:28 am 1. Is it a bad idea to put more money in the house to get to 80% LTV so as to get rid of PMI?

2. Is it a bad idea to get the house interior painted prior to move in? It’s a 8 year old house.
If you’re going to paint it, do it before moving in is my reco. WAY easier without having everything in there. I’m also a DIY’er and sounds like you may be talking about hiring someone.
KlangFool
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Re: Home mortgage pay off strategies

Post by KlangFool »

IAmJustAnAverageDude wrote: Sat May 28, 2022 1:28 am 1. Is it a bad idea to put more money in the house to get to 80% LTV so as to get rid of PMI?

2. Is it a bad idea to get the house interior painted prior to move in? It’s a 8 year old house.
IAmJustAnAverageDude,

1) Yes, it is a bad idea. 15% = 120K. That is a lot of money to you at this moment.

A) You have too little money outside your house.

B) It is a non-recourse loan. You want as little home equity as possible.

C) You are in a very high risk time period. Your job, stock, and the house are all tied into the same industry. If it goes bad in the coming recession, you may lose it all.

KlangFool
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Bud
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Re: Home mortgage pay off strategies

Post by Bud »

IAmJustAnAverageDude wrote: Fri May 27, 2022 7:15 pm
1. Does it make sense to pay off our home sooner to get rid of PMI?
2. Is 4.99% interest high enough to warrant paying it off ahead of schedule?
3. Is biweekly payments better than monthly payments?
4. Has anyone successfully used Plastiq with Rocket Mortgage to pay the mortgage using a credit card to get some points?
5. What are some other things first time home owners should know about finances that you wish you knew earlier?
1. Yes, it makes sense to pay it off at an accelerated rate to get rid of PMI.
2. 4.99% is typical for a 30 year mortgage at this time.
3. Yes, bi-weekly payments will reduce the total interest you pay.
4. No, I have not.
5. personally, I am debt-averse. I just don't like it. So I always accelerated payments for my different homes, regardless of interest rate considerations. However, liquidity is necessary for life, especially with a family. I normally keep 6-12 months in expenses.

A couple of thoughts...
- Increase your equity to 20% is a good idea, however not all at once. Adding money to pay down your mortgage is ok, but err on the conservative side.
- If your job is secure, you have more flexibility. $360k of non-home equity at age 27 is excellent. It appears you have an ability to save so continue to save.
- Spread your investments. Your home is one among your options.
- You can buy i-bonds but for long term investments, stick with index funds.

You are young, you seem to be able to save well, and your want to educate yourself about money. You are in a good place. Read the "Millionaire Next Door" - great book for a proper relationship to money.

All the best!
KlangFool
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Re: Home mortgage pay off strategies

Post by KlangFool »

OP,

In the worst case, the tech industry goes to hell.

A) Your house and stock crashes.

B) You are unemployed and you have to move elsewhere.

C) That means you have to pay rent at the new location.

D) Abandon your house or pay mortgage.

E) You may earn substantially less at the new location when there is a flood of unemployed looking for same position at the new location.

F) Abandon your house and do not pay mortgage may be the only viable option to keep you afloat.

G) Your additional 120K in home equity may be the anchor that sunk you financially before you find new employment.

H) That 120K even at 50% loss outside your house may be the difference between you are afloat or sunk.

This precise worst case happened to many of my peers during Telecom Bust. If this could happened to a 100+ years industry, why should this cannot happen to your high tech younger industry?

You are luckier in that California is a non-recourse state. In Virginia where I live, it is recourse loan state. Not paying mortgage means that you lose the house plus a lot more.

Think of the PMI as a low cost insurance for the next 5 to 6 years to protect yourself from the worst case.

KlangFool
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1789
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Re: Home mortgage pay off strategies

Post by 1789 »

IAmJustAnAverageDude wrote: Sat May 28, 2022 1:28 am 1. Is it a bad idea to put more money in the house to get to 80% LTV so as to get rid of PMI?

2. Is it a bad idea to get the house interior painted prior to move in? It’s a 8 year old house.
1) Bad decision - this wont help you or family in any way (both financially and emotionally)
2) Good decision because house has emotional value, so you and your family would feel better living in a nicer/cleaner/refreshed house.
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Rudedog
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Re: Home mortgage pay off strategies

Post by Rudedog »

Pay down the mortgage to get rid of the PMI if you can, that's just like throwing money away each month. Since you've paid 5% down, you only need to pay another 15% to get rid of the PMI expense. Once you are able to get rid of the PMI, I'd just keep paying the mortgage as scheduled. Good luck with your new house, hope you enjoy it.
nolesrule
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Re: Home mortgage pay off strategies

Post by nolesrule »

Biweekly payments won't do anything special except make an extra half-month payment in the months in which you would make a third bi-weekly payment. Mortgage interest is calculated on the end of month balance, so posting multiple payments during the month won't do anything relative to sending the same amount as a single payment once a month.
LittleMaggieMae
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Re: Home mortgage pay off strategies

Post by LittleMaggieMae »

IAmJustAnAverageDude wrote: Sat May 28, 2022 1:28 am 1. Is it a bad idea to put more money in the house to get to 80% LTV so as to get rid of PMI?

2. Is it a bad idea to get the house interior painted prior to move in? It’s a 8 year old house.
By my reckoning: Mortgage of 760K at 4.99% means PI = 4,080 guesstimate for taxes and insurance say 2K per month
You PMI at 162 per month is kind of meaningless in the big picture. It's costing you an extra 2K per year.

That means you put 40K down - and you need 160K in equity to get rid of PMI. 2K * 6 years is 12K. OR you can come up with 120K ASAP to get rid of PMI... Are you willing to give up 2K invest yearly for 6 years or the 120K you won't be investing because you are paying down your mortgage?

If that 2K per year is a make it break it amount for your over all budget and long term financial goals - you've got bigger problems than getting rid of PMI is going to solve.

(This might be why Klangfool is saying you are House Poor... an additional 2K per year on a fixed expense is causing you "worry" on you high income... and it's an expense that will go away at some point in the short term. )


So, my answers to your points.
1.) Yes it's a bad idea. (in theory BEFORE you bought the house you did the math, went thru your budget/spending plan, and figured out how the expense of the house fit into your short, medium, long term plans and determined that paying PMI wasn't a make it or break it thing... ) You don't want to take away from your ability to sock away money for retirement (or to your taxable accounts) ie your ability to build wealth. Your mortgage is suppose to help you build wealth...

2.) Was the interior of the house not painted as part of the putting the house on the market prep work?
If the interior needs to be painted to the colors you want the time to paint is before you move in... UNLESS you have to borrow to do it (you are feeling the pain of having to pay 167 in PMI per month - can you afford to take on more debt??? :) )
If you have to paint before move in... are you going to feel the need to replace carpeting/flooring and anything else that's looking dated or tired??

I probably sound snarky - I don't mean to be... I'm trying to point out what appears to be a "penny wise pound foolish" perspective you are heading towards with the new house. Look at your over all goals and plans - 1,3,5,10, 20 years out. And you will make better decisions TODAY. If you don't have goals or plans more than 1 or 2 years out... you should look longer term. You can then "run the numbers" and see how allocating your income today will play out long term under different scenarios. It really will help you with the kind of decisions you are asking about.
LittleMaggieMae
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Re: Home mortgage pay off strategies

Post by LittleMaggieMae »

3. Is biweekly payments better than monthly payments?
Better than what?

Biweekly payments mean you will make an extra "payment" per year. So you will pay an extra 4K towards principal per year.
You can use an amortization calculator (or an excel spreadsheet loan template) to see how this will effect the loan and interest you will pay if you keep the loan for 30years). You will probably need to "sign up" for some program with your lender to facilitate the biweekly payments. You should NOT be charged a fee to be on the biweekly payment schedule. Once you commit to it, you may not be able to opt out of it for a period of time.

Biweekly payments sometimes help people who are paid every 2 weeks better manage their money - as in a fixed amount comes out of each pay check. They don't have to "remember" to reserve some amount out of each check so they can pay the mortgage every month. And if they stay in their house 30 years - they may cut a few years off the loan and save some on interest.

Alternatively, You could just add 350 per month to your current payment and make sure that money goes towards principal and continue to make the monthly payment. You can always stop adding the extra to your payment OR increase the amount on a month to month basis.
PowderDay9
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Re: Home mortgage pay off strategies

Post by PowderDay9 »

IAmJustAnAverageDude wrote: Fri May 27, 2022 7:40 pm Lastly we both work tech jobs - so we are hoping that the recession doesn't hit us but who knows what happens.
😬

You're both in your 20s, work in tech in the Bay area, have income of $400k and just bought a house for $800k. I think you need a new username. :D

KlangFool is spot on in this thread. Listen to his advice. Do not pay down your mortgage at all until your assets are more built up.
Ron Ronnerson
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Re: Home mortgage pay off strategies

Post by Ron Ronnerson »

1. Yes, it’s good to get rid of PMI. It costs you about $2k per year for PMI. To end up with $2k in your pocket to make these payments, you need to earn something like $3-4k. I think this is significant enough that it makes sense to get rid of it. Additionally, if you get equity above 20%, you may be able to take advantage of refinancing in the future with better terms on the loan should the opportunity arise.

2.This is a personal decision and there isn’t one correct answer. Once you have an adequate emergency fund in place that can cover all expenses (not just your mortgage) and are maxing all tax-advantaged space, I’d buy I Bonds next (due to the current rate of 9.62%). If you still have room to save beyond that, paying down a 5% mortgage makes sense. At your salary and assumed federal plus California tax brackets, you’d need to earn something like 8% in a taxable account to end up with 5% after taxes. The risk levels are very different, though, as the mortgage is a guaranteed rate of return. The fact that California is a non-recourse state does add a bit of complexity in that not having much equity in your home offers a sort of benefit. However, the benefit isn’t so huge, in my opinion, to overcome the advantages of paying down the loan to get rid of both PMI and earn a 5% guaranteed rate when you’ve already maxed out retirement space and are in a relatively high tax bracket.

3. I would just add a bit extra to your monthly payment that goes toward paying down additional principal rather than scheduling more payments.

4. I haven’t done this.

5. Before moving in, get the place painted and make sure you’re happy with the floors. It’s much more convenient and simpler. If you think you’ll move within a few years to a different home, you may not wish to bother doing this stuff if everything is in okay condition. The other advice I would give is to understand California’s rules. In addition to being a non-recourse state, you can itemize mortgage interest and property taxes on state income taxes even if you take the standard deduction on federal income taxes. This can lower your state income tax liability. The transaction costs on California homes, especially in the Bay Area, can be significant. To minimize hits on that front, try not to move around too often. Property taxes are also peculiar here in that they are based on the purchase price of the home and only go up 2% per year. This is another advantage of not moving around much. If you move after age 55 within the state of California, you can take that property tax base with you. There is a $500k capital gains tax exclusion on home sales for a married couple. Understanding these rules can help you make informed decisions. Congratulations on your new home!
KlangFool
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Re: Home mortgage pay off strategies

Post by KlangFool »

Ron Ronnerson wrote: Sat May 28, 2022 12:00 pm 1. Yes, it’s good to get rid of PMI. It costs you about $2k per year for PMI. To end up with $2k in your pocket to make these payments, you need to earn something like $3-4k. I think this is significant enough that it makes sense to get rid of it. Additionally, if you get equity above 20%, you may be able to take advantage of refinancing in the future with better terms on the loan should the opportunity arise.
Ron Ronnerson,

It costs 120K of home equity to get rid that 2K per year. OP has only 360K outside the 800K house. OP is in the danger zone now. The bigger picture question is with the non-recourse loan, it gets worse in the worst case if OP has to leave the area and abandon the house. Larger home equity more likely to sink OP than keeps OP afloat.

"To end up with $2k in your pocket to make these payments, you need to earn something like $3-4k."

What is the opportunity cost of putting another 120K into the house and lose the liquidity?

What is the cost of not having that 120K outside the house in the worst case?

KlangFool
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Ron Ronnerson
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Re: Home mortgage pay off strategies

Post by Ron Ronnerson »

KlangFool wrote: Sat May 28, 2022 12:25 pm
Ron Ronnerson wrote: Sat May 28, 2022 12:00 pm 1. Yes, it’s good to get rid of PMI. It costs you about $2k per year for PMI. To end up with $2k in your pocket to make these payments, you need to earn something like $3-4k. I think this is significant enough that it makes sense to get rid of it. Additionally, if you get equity above 20%, you may be able to take advantage of refinancing in the future with better terms on the loan should the opportunity arise.
Ron Ronnerson,

It costs 120K of home equity to get rid that 2K per year. OP has only 360K besides the house. OP is in the danger zone now.

"To end up with $2k in your pocket to make these payments, you need to earn something like $3-4k."

What is the opportunity cost of putting another 120K into the house?

What is the cost of not having that 120K outside the house in the worst case?

KlangFool
$360k besides the house is a lot to have for a 27-year-old, in my opinion. Yet they only have $40k in home equity and are paying PMI plus a 5% interest rate while already maxing out retirement accounts. I think they should have a good emergency fund but considering they've managed to save so much money even though they are still so young is an important factor. They are also earning $400k a year. With all these facts taken together, I think paying down a 5% loan that's guaranteed isn't a bad choice to make, especially in higher tax brackets. If they were older and in lower tax brackets and the rate of the loan was lower and they weren't paying PMI (I put down 3% on my house when I purchased it but didn't have to pay PMI), those details would affect my opinion.

I do agree, though, that they should have enough money that's liquid to deal with most situations. I really respect your view (especially the part about California being a non-recourse state) but my approach is a bit different. I don't focus on the worst case scenario. Really bad stuff is always possible. Instead, my approach is to protect yourself in the vast majority of cases but leave yourself exposed to the very worst cases. For example, I don't have a $10m umbrella policy even though someone could sue me for that amount. It's a calculated risk and I am rolling the dice. Each us of decides what risks we want to take and to what extent, so these types of decisions are personal. That's why it's called personal finance, after all. I think the OP is very likely to be just fine in light of their ages, assets, savings habits, and loan amount. In their position, if I had extra money left over after maxing everything out (including I Bonds), I'd put a little something toward paying down the house.
KlangFool
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Re: Home mortgage pay off strategies

Post by KlangFool »

Ron Ronnerson wrote: Sat May 28, 2022 12:48 pm
KlangFool wrote: Sat May 28, 2022 12:25 pm
Ron Ronnerson wrote: Sat May 28, 2022 12:00 pm 1. Yes, it’s good to get rid of PMI. It costs you about $2k per year for PMI. To end up with $2k in your pocket to make these payments, you need to earn something like $3-4k. I think this is significant enough that it makes sense to get rid of it. Additionally, if you get equity above 20%, you may be able to take advantage of refinancing in the future with better terms on the loan should the opportunity arise.
Ron Ronnerson,

It costs 120K of home equity to get rid that 2K per year. OP has only 360K besides the house. OP is in the danger zone now.

"To end up with $2k in your pocket to make these payments, you need to earn something like $3-4k."

What is the opportunity cost of putting another 120K into the house?

What is the cost of not having that 120K outside the house in the worst case?

KlangFool
$360k besides the house is a lot to have for a 27-year-old, in my opinion. Yet they only have $40k in home equity and are paying PMI plus a 5% interest rate while already maxing out retirement accounts. I think they should have a good emergency fund but considering they've managed to save so much money even though they are still so young is an important factor. They are also earning $400k a year. With all these facts taken together, I think paying down a 5% loan that's guaranteed isn't a bad choice to make, especially in higher tax brackets. If they were older and in lower tax brackets and the rate of the loan was lower and they weren't paying PMI (I put down 3% on my house when I purchased it but didn't have to pay PMI), those details would affect my opinion.

I do agree, though, that they should have enough money that's liquid to deal with most situations. I really respect your view (especially the part about California being a non-recourse state) but my approach is a bit different. I don't focus on the worst case scenario. Really bad stuff is always possible. Instead, my approach is to protect yourself in the vast majority of cases but leave yourself exposed to the very worst cases. For example, I don't have a $10m umbrella policy even though someone could sue me for that amount. It's a calculated risk and I am rolling the dice. Each us of decides what risks we want to take and to what extent, so these types of decisions are personal. That's why it's called personal finance, after all. I think the OP is very likely to be just fine in light of their ages, assets, savings habits, and loan amount. In their position, if I had extra money left over after maxing everything out (including I Bonds), I'd put a little something toward paying down the house.
Ron Ronnerson,

1) OP's annual expense is 108K per year.

2) OP is not a teacher like you. You have greater job security.

3) Conversely, as a teacher, your ability to move to other states and find new employment may be limited.

4) On the other hand, for high tech jobs, moving is necessary in many recessions.

"Instead, my approach is to protect yourself in the vast majority of cases but leave yourself exposed to the very worst cases."

5) Your approach may work if the person has job security. That approach totally failed for Telecom engineers in Telecom Bust.

KlangFool
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muffins14
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Re: Home mortgage pay off strategies

Post by muffins14 »

IAmJustAnAverageDude wrote: Sat May 28, 2022 1:28 am 1. Is it a bad idea to put more money in the house to get to 80% LTV so as to get rid of PMI?

2. Is it a bad idea to get the house interior painted prior to move in? It’s a 8 year old house.
You have massive amount of debt relative to your annual savings, so I can’t see how #2 has any importance whatsoever. Paint, don’t paint, who cares when you do it?
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smitcat
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Re: Home mortgage pay off strategies

Post by smitcat »

Ron Ronnerson wrote: Sat May 28, 2022 12:48 pm
KlangFool wrote: Sat May 28, 2022 12:25 pm
Ron Ronnerson wrote: Sat May 28, 2022 12:00 pm 1. Yes, it’s good to get rid of PMI. It costs you about $2k per year for PMI. To end up with $2k in your pocket to make these payments, you need to earn something like $3-4k. I think this is significant enough that it makes sense to get rid of it. Additionally, if you get equity above 20%, you may be able to take advantage of refinancing in the future with better terms on the loan should the opportunity arise.
Ron Ronnerson,

It costs 120K of home equity to get rid that 2K per year. OP has only 360K besides the house. OP is in the danger zone now.

"To end up with $2k in your pocket to make these payments, you need to earn something like $3-4k."

What is the opportunity cost of putting another 120K into the house?

What is the cost of not having that 120K outside the house in the worst case?

KlangFool
$360k besides the house is a lot to have for a 27-year-old, in my opinion. Yet they only have $40k in home equity and are paying PMI plus a 5% interest rate while already maxing out retirement accounts. I think they should have a good emergency fund but considering they've managed to save so much money even though they are still so young is an important factor. They are also earning $400k a year. With all these facts taken together, I think paying down a 5% loan that's guaranteed isn't a bad choice to make, especially in higher tax brackets. If they were older and in lower tax brackets and the rate of the loan was lower and they weren't paying PMI (I put down 3% on my house when I purchased it but didn't have to pay PMI), those details would affect my opinion.

I do agree, though, that they should have enough money that's liquid to deal with most situations. I really respect your view (especially the part about California being a non-recourse state) but my approach is a bit different. I don't focus on the worst case scenario. Really bad stuff is always possible. Instead, my approach is to protect yourself in the vast majority of cases but leave yourself exposed to the very worst cases. For example, I don't have a $10m umbrella policy even though someone could sue me for that amount. It's a calculated risk and I am rolling the dice. Each us of decides what risks we want to take and to what extent, so these types of decisions are personal. That's why it's called personal finance, after all. I think the OP is very likely to be just fine in light of their ages, assets, savings habits, and loan amount. In their position, if I had extra money left over after maxing everything out (including I Bonds), I'd put a little something toward paying down the house.
Definitely agree with KlangFool on this one...

If they had maybe $500K in usable cash along with the home that might be a marginal case.
But they have $360K less the $30K obligation and that does not include the taxes that may likely occur to free up any large payoffs. So if they were to pay down another $120K they would likely have about $200K left in a new home.
If any of these happen they would be in poor shape...
- one loses a job for a while
- a larger home expense
- home values plummet
- they start a family early
- they need to help out another family member
Plenty of time in the future to take calculated risks - but not now.
Ron Ronnerson
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Re: Home mortgage pay off strategies

Post by Ron Ronnerson »

KlangFool wrote: Sat May 28, 2022 12:55 pm
Ron Ronnerson wrote: Sat May 28, 2022 12:48 pm
KlangFool wrote: Sat May 28, 2022 12:25 pm
Ron Ronnerson wrote: Sat May 28, 2022 12:00 pm 1. Yes, it’s good to get rid of PMI. It costs you about $2k per year for PMI. To end up with $2k in your pocket to make these payments, you need to earn something like $3-4k. I think this is significant enough that it makes sense to get rid of it. Additionally, if you get equity above 20%, you may be able to take advantage of refinancing in the future with better terms on the loan should the opportunity arise.
Ron Ronnerson,

It costs 120K of home equity to get rid that 2K per year. OP has only 360K besides the house. OP is in the danger zone now.

"To end up with $2k in your pocket to make these payments, you need to earn something like $3-4k."

What is the opportunity cost of putting another 120K into the house?

What is the cost of not having that 120K outside the house in the worst case?

KlangFool
$360k besides the house is a lot to have for a 27-year-old, in my opinion. Yet they only have $40k in home equity and are paying PMI plus a 5% interest rate while already maxing out retirement accounts. I think they should have a good emergency fund but considering they've managed to save so much money even though they are still so young is an important factor. They are also earning $400k a year. With all these facts taken together, I think paying down a 5% loan that's guaranteed isn't a bad choice to make, especially in higher tax brackets. If they were older and in lower tax brackets and the rate of the loan was lower and they weren't paying PMI (I put down 3% on my house when I purchased it but didn't have to pay PMI), those details would affect my opinion.

I do agree, though, that they should have enough money that's liquid to deal with most situations. I really respect your view (especially the part about California being a non-recourse state) but my approach is a bit different. I don't focus on the worst case scenario. Really bad stuff is always possible. Instead, my approach is to protect yourself in the vast majority of cases but leave yourself exposed to the very worst cases. For example, I don't have a $10m umbrella policy even though someone could sue me for that amount. It's a calculated risk and I am rolling the dice. Each us of decides what risks we want to take and to what extent, so these types of decisions are personal. That's why it's called personal finance, after all. I think the OP is very likely to be just fine in light of their ages, assets, savings habits, and loan amount. In their position, if I had extra money left over after maxing everything out (including I Bonds), I'd put a little something toward paying down the house.
Ron Ronnerson,

1) OP's annual expense is 108K per year.

2) OP is not a teacher like you. You have greater job security.

3) Conversely, as a teacher, your ability to move to other states and find new employment may be limited.

4) On the other hand, for high tech jobs, moving is necessary in many recessions.

"Instead, my approach is to protect yourself in the vast majority of cases but leave yourself exposed to the very worst cases."

5) Your approach may work if the person has job security. That approach totally failed for Telecom engineers in Telecom Bust.

KlangFool
1) Their annual expense is 27% of gross income. It is no wonder they have $400k to their names by age 27. At their age, most people have nothing. In fact, add 30 years to their age and most people have way less than they do already. Since they have so much extra left over each month, they might as well do something productive with it. A taxable account is a good option because it is liquid and history shows this is a good place to put money over the long-term. However, so is paying down a 5% loan (guaranteed rate) that could potentially put you in a position to refinance at favorable rates in the future, and help eliminate PMI when you're already maxing tax-advantaged space. Which is the better option? People will disagree about this but, luckily, both options are good ones.

2) I didn't mention that I was a teacher in this post. I said only what I would do in OP's position, that included pretending I was the same age and had the same job. For what it's worth, I wasn't always a teacher (it's a second career for me) so that does help me imagine a private sector job a little easier. Similarly, even though I'm not 27 anymore, I once was and that helps me pretend I'm their age. I admit the memory fades a bit so my imagination is not perfect. But I can try and that's what I attempted to do. If I had assumed that the OP were a teacher like me, I wouldn't have tried to stress the importance of having enough money liquid to cover all expenses for a good while (and not just enough to cover the mortgage, as the OP mentioned earlier). I agree that someone with greater job security is in a different situation than someone with less job security. This should be factored in when making decisions.

3 and 4) Okay, but I was pretending to be them and not myself.

5) All of us take chances in our daily lives. We should each decide for ourselves which ones are too much for our liking.
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Re: Home mortgage pay off strategies

Post by Ron Ronnerson »

smitcat wrote: Sat May 28, 2022 1:01 pm
Ron Ronnerson wrote: Sat May 28, 2022 12:48 pm
KlangFool wrote: Sat May 28, 2022 12:25 pm
Ron Ronnerson wrote: Sat May 28, 2022 12:00 pm 1. Yes, it’s good to get rid of PMI. It costs you about $2k per year for PMI. To end up with $2k in your pocket to make these payments, you need to earn something like $3-4k. I think this is significant enough that it makes sense to get rid of it. Additionally, if you get equity above 20%, you may be able to take advantage of refinancing in the future with better terms on the loan should the opportunity arise.
Ron Ronnerson,

It costs 120K of home equity to get rid that 2K per year. OP has only 360K besides the house. OP is in the danger zone now.

"To end up with $2k in your pocket to make these payments, you need to earn something like $3-4k."

What is the opportunity cost of putting another 120K into the house?

What is the cost of not having that 120K outside the house in the worst case?

KlangFool
$360k besides the house is a lot to have for a 27-year-old, in my opinion. Yet they only have $40k in home equity and are paying PMI plus a 5% interest rate while already maxing out retirement accounts. I think they should have a good emergency fund but considering they've managed to save so much money even though they are still so young is an important factor. They are also earning $400k a year. With all these facts taken together, I think paying down a 5% loan that's guaranteed isn't a bad choice to make, especially in higher tax brackets. If they were older and in lower tax brackets and the rate of the loan was lower and they weren't paying PMI (I put down 3% on my house when I purchased it but didn't have to pay PMI), those details would affect my opinion.

I do agree, though, that they should have enough money that's liquid to deal with most situations. I really respect your view (especially the part about California being a non-recourse state) but my approach is a bit different. I don't focus on the worst case scenario. Really bad stuff is always possible. Instead, my approach is to protect yourself in the vast majority of cases but leave yourself exposed to the very worst cases. For example, I don't have a $10m umbrella policy even though someone could sue me for that amount. It's a calculated risk and I am rolling the dice. Each us of decides what risks we want to take and to what extent, so these types of decisions are personal. That's why it's called personal finance, after all. I think the OP is very likely to be just fine in light of their ages, assets, savings habits, and loan amount. In their position, if I had extra money left over after maxing everything out (including I Bonds), I'd put a little something toward paying down the house.
Definitely agree with KlangFool on this one...

If they had maybe $500K in usable cash along with the home that might be a marginal case.
But they have $360K less the $30K obligation and that does not include the taxes that may likely occur to free up any large payoffs. So if they were to pay down another $120K they would likely have about $200K left in a new home.
If any of these happen they would be in poor shape...
- one loses a job for a while
- a larger home expense
- home values plummet
- they start a family early
- they need to help out another family member
Plenty of time in the future to take calculated risks - but not now.
I didn't mean to imply that they should pay down another $120k all at once. This can be done over time, say a couple of years. It seems like they have a lot of extra cash flow per month. They should have enough set aside in emergency funds to cover things like potential job losses for a while, etc.
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Re: Home mortgage pay off strategies

Post by Jack FFR1846 »

DW and I were in about the same situation (sans giving money to anyone) on our first house. We had lots of loans at the time. Mortgage, personal loan from wedding, car loan, student loans. We did avalanche method before the word was invented as a way to pay off loans. Highest interest.....$10 extra at the end of the month....put it on the loan. When we hit our lowest interest loan...the mortgage, we just kept paying. I personally don't see any difference between a mortgage or any other loan. But in short, there are 2 ways to go:

Dave Ramsey: You'd be an idiot to not pay off the mortgage. It's just another loan.

Ric Edelman: You'd be an idiot to pay off the mortgage. You can make more in the market.
Bogle: Smart Beta is stupid
KlangFool
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Re: Home mortgage pay off strategies

Post by KlangFool »

Ron Ronnerson wrote: Sat May 28, 2022 2:33 pm

I didn't mean to imply that they should pay down another $120k all at once. This can be done over time, say a couple of years. It seems like they have a lot of extra cash flow per month. They should have enough set aside in emergency funds to cover things like potential job losses for a while, etc.
Ron Ronnerson,

Why?

The next couple of years (5 to 6 years) is the most dangerous time for OP. If nothing bad happened to OP, OP's asset outside the house would be big enough. And, by that time, the PMI would be gone anyhow. However, if something bad happened to OP, any dollars outside the house could made the difference at annual expense of 108K per year.

It is a non-recourse loan. Why would OP want to put more money into the home equity? That makes abandoning the mortgage/house less attractive and helpful to OP in the worst case.

OP has to put 120K into the mortgage in order for the PMI to be gone. That is a very big amount of money for OP over the next few years.

KlangFool
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smitcat
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Re: Home mortgage pay off strategies

Post by smitcat »

KlangFool wrote: Sat May 28, 2022 3:19 pm
Ron Ronnerson wrote: Sat May 28, 2022 2:33 pm

I didn't mean to imply that they should pay down another $120k all at once. This can be done over time, say a couple of years. It seems like they have a lot of extra cash flow per month. They should have enough set aside in emergency funds to cover things like potential job losses for a while, etc.
Ron Ronnerson,

Why?

The next couple of years (5 to 6 years) is the most dangerous time for OP. If nothing bad happened to OP, OP's asset outside the house would be big enough. And, by that time, the PMI would be gone anyhow. However, if something bad happened to OP, any dollars outside the house could made the difference at annual expense of 108K per year.

It is a non-recourse loan. Why would OP want to put more money into the home equity? That makes abandoning the mortgage/house less attractive and helpful to OP in the worst case.

OP has to put 120K into the mortgage in order for the PMI to be gone. That is a very big amount of money for OP over the next few years.

KlangFool
Yes - Agreed.
Ron Ronnerson
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Re: Home mortgage pay off strategies

Post by Ron Ronnerson »

KlangFool wrote: Sat May 28, 2022 3:19 pm
Ron Ronnerson wrote: Sat May 28, 2022 2:33 pm

I didn't mean to imply that they should pay down another $120k all at once. This can be done over time, say a couple of years. It seems like they have a lot of extra cash flow per month. They should have enough set aside in emergency funds to cover things like potential job losses for a while, etc.
Ron Ronnerson,

Why?

The next couple of years (5 to 6 years) is the most dangerous time for OP. If nothing bad happened to OP, OP's asset outside the house would be big enough. And, by that time, the PMI would be gone anyhow. However, if something bad happened to OP, any dollars outside the house could made the difference at annual expense of 108K per year.

It is a non-recourse loan. Why would OP want to put more money into the home equity? That makes abandoning the mortgage/house less attractive and helpful to OP in the worst case.

OP has to put 120K into the mortgage in order for the PMI to be gone. That is a very big amount of money for OP over the next few years.

KlangFool
I’ll try to explain my thinking the best I can but it is okay if we don’t see it the same way.

The OP said in question #1 and #2: “1. Does it make sense to pay off our home sooner to get rid of PMI? 2. Is 4.99% interest high enough to warrant paying it off ahead of schedule?”

They don’t mention making a large lump sum payment right away but instead ask about paying down the loan faster.

They appear to have a lot of extra cash flow available even after maxing retirement accounts because their expenses are so small compared to their income. So where should they direct that additional cash flow? A taxable account does provide more liquidity than paying down the mortgage. The question to me is at what cost is it worth it to gain that extra liquidity for an event that is not all that likely (OP deciding to walk away from the house)? For example, what if this were 1982 and the interest rate in question were 17% like it was 40 years ago? I think more people would be inclined to say to pay down such a loan. The cost of borrowing matters. In OP’s case, it is 5% plus PMI. Where else can they get that sort of a return, especially one that is guaranteed and especially after accounting for relatively high taxes?

The other thing I consider is the chances of OP finding themselves in a situation where they contemplate walking away from the home. Let’s compare them to households similar to theirs: two-income households working in tech in the Bay Area, purchased a home that is only two times their income, have a large emergency fund, have excellent savings habits, and expenses are one-fourth of their income. My thought is that not too many people fitting such a description end up having to walk away from their home. Yes, it’s possible and I think that should be taken into consideration. But so should the chances of it happening. Since I don’t consider the chances of it happening in this situation to be high (though you could assess it differently and that’s fine), I discount the value of the benefit of the non-recourse loan to the OP (though I don’t dismiss the benefit completely by any means).

In their situation, I would pay down the loan if I had extra cash flow. Earlier in the thread, you mentioned my being a teacher and how circumstances are different for someone like me. I could not agree more. I did a cash-out refi for 30 years at 2.375% last year and am on track to pay off my loan in 41 years from the time I purchased my house. Yet I don’t have the extra cash flow like the OP. But the OP quite possibly doesn’t have my job security or pension benefits and definitely doesn’t have my interest rate or tax bracket (12% federal bracket, 0% effective rate for California). My circumstances are very different. In OP’s case, I would pay down the loan a bit at a time and also invest part of the extra cash flow each month. It doesn’t need to be just one or the other since they appear to have such small expenses compared to their income.

Anyway, I have tried to explain my thinking but, again, it is okay if you don’t agree. I appreciate your perspective, respect the differences, and hope that something valuable can be gained from the dialogue even if we don't see eye-to-eye on all situations. For what it's worth, I usually tend to agree with you on posts about topics like this one. In this case, the OPs numbers and situation are sort of different than what we tend to see (mortgage rates have gone up noticeably in the past few months, they have only 5% equity in the home, seem to have a lot of extra cash flow, and are currently also paying PMI).
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Re: Home mortgage pay off strategies

Post by KlangFool »

Ron Ronnerson wrote: Sat May 28, 2022 5:29 pm
Anyway, I have tried to explain my thinking but, again, it is okay if you don’t agree. I appreciate your perspective, respect the differences, and hope that something valuable can be gained from the dialogue even if we don't see eye-to-eye on all situations. For what it's worth, I usually tend to agree with you on posts about topics like this one. In this case, the OPs numbers and situation are sort of different than what we tend to see (mortgage rates have gone up noticeably in the past few months, they have only 5% equity in the home, seem to have a lot of extra cash flow, and are currently also paying PMI).
Ron Ronnerson,

There are two dimensions to risk management.

A) The likelihood of it happened.

B) The severity of the worst case if it happened.

Your point of view is on (A). Aka, it is unlikely to happen. Hence, don't worry about it.

My point of view is on (B). Yes, it might be unlikely to happen but if it happened, it could be disastrous and life altering. So, why not prepared for the worst that even if the worst happened, you are protected?

The difference in cost is minor. Aka, do not prepay the mortgage. Pay 1K or 2K more in mortgage interest. But, if the worst happened, the extra money outside the house could means the difference between financial survival until recovery or not.

What is the problem of preparing to walk away from the house if OP has to? That could saves OP financially in the worst case.

Just because the likelihood of falling from the bicycle and hit our heads are low, it does not stop us from wearing the bicycle helmet. The reason is even if the likelihood is low, the severity of incident is high enough that we need to protect ourselves.

KlangFool
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Re: Home mortgage pay off strategies

Post by Ron Ronnerson »

KlangFool wrote: Sat May 28, 2022 5:59 pm
Ron Ronnerson wrote: Sat May 28, 2022 5:29 pm
Anyway, I have tried to explain my thinking but, again, it is okay if you don’t agree. I appreciate your perspective, respect the differences, and hope that something valuable can be gained from the dialogue even if we don't see eye-to-eye on all situations. For what it's worth, I usually tend to agree with you on posts about topics like this one. In this case, the OPs numbers and situation are sort of different than what we tend to see (mortgage rates have gone up noticeably in the past few months, they have only 5% equity in the home, seem to have a lot of extra cash flow, and are currently also paying PMI).
Ron Ronnerson,

There are two dimensions to risk management.

A) The likelihood of it happened.

B) The severity of the worst case if it happened.

Your point of view is on (A). Aka, it is unlikely to happen. Hence, don't worry about it.

My point of view is on (B). Yes, it might be unlikely to happen but if it happened, it could be disastrous and life altering. So, why not prepared for the worst that even if the worst happened, you are protected?

The difference in cost is minor. Aka, do not prepay the mortgage. Pay 1K or 2K more in mortgage interest. But, if the worst happened, the extra money outside the house could means the difference between financial survival until recovery or not.

What is the problem of preparing to walk away from the house if OP has to? That could saves OP financially in the worst case.

Just because the likelihood of falling from the bicycle and hit our heads are low, it does not stop us from wearing the bicycle helmet. The reason is even if the likelihood is low, the severity of incident is high enough that we need to protect ourselves.

KlangFool
We each assess the chances of events and decide if protecting against it is worth the cost. I don't see the difference in cost as minor enough in this situation while you seem to. What if their interest rate was 17% like in 1982 and the PMI was double the cost that the OP is currently paying? I am genuinely curious if you would see it differently then.
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Re: Home mortgage pay off strategies

Post by KlangFool »

Ron Ronnerson wrote: Sat May 28, 2022 6:15 pm
What if their interest rate was 17% like in 1982 and the PMI was double the cost that the OP is currently paying? I am genuinely curious if you would see it differently then.
Ron Ronnerson,

Then, OP cannot buy the 800K house. There is no problem of buying too much house and being "House Poor".

KlangFool
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Re: Home mortgage pay off strategies

Post by Ron Ronnerson »

KlangFool wrote: Sat May 28, 2022 6:23 pm
Ron Ronnerson wrote: Sat May 28, 2022 6:15 pm
What if their interest rate was 17% like in 1982 and the PMI was double the cost that the OP is currently paying? I am genuinely curious if you would see it differently then.
Ron Ronnerson,

Then, OP cannot buy the 800K house. There is no problem of buying too much house and being "House Poor".

KlangFool
Let's assume they decided to buy such a house, though. Putting down 5% on an $800k home would make the payments on the loan about $11k/month, or 33% of their income. They could be approved for a loan like this so let's assume they bought it and are willing to do what it takes to keep it. Should they pay it down now?

Also, if the goal is to minimize worst case scenarios, let's say they won't leave the house again since dangers are outside (lightning could strike them and a helmet to protect against that hasn't yet been invented). This will help keep down non-housing expenses to a very low number. You're probably rolling your eyes but I'm just trying to show that no one truly protects themselves against all risks, even terrible ones. When we consider the chances of a bad outcome to be low enough and the cost of protection against the risk high enough, we all take chances, simply shrugging and hoping that Zeus' thunderbolt is not aimed at us.
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Re: Home mortgage pay off strategies

Post by BrklynMike »

I just want to thank both Klangfool and Ron Ronnerson for the extensive back and forth, and for doing so with civility even while being critical of each other's arguments. I learned something and am thinking about these issues differently then before. Thanks.
"In a world of uncertainty, one should focus more on the consequences than the probabilities." - Benjamin Graham
YeahBuddy
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Re: Home mortgage pay off strategies

Post by YeahBuddy »

IAmJustAnAverageDude wrote: Fri May 27, 2022 7:15 pm Hello bogleheads, I finally closed on a Bay area home! We are 27 years of age.

Price ~800k
30-year fixed
5% down
4.99% interest
$164 PMI for 1-6 years
no prepayment penalty
PMI removed after 80% LTV

Our house hold income ~400k. From another post I have an expected ~30k to help a family member with college, and my net worth post purchasing the home excluding the home equity is about 300k and my spouse is about 60k.

1. Does it make sense to pay off our home sooner to get rid of PMI?
2. Is 4.99% interest high enough to warrant paying it off ahead of schedule?
3. Is biweekly payments better than monthly payments?
4. Has anyone successfully used Plastiq with Rocket Mortgage to pay the mortgage using a credit card to get some points?
5. What are some other things first time home owners should know about finances that you wish you knew earlier?


First, congratulations! First time home ownership is a HUGE accomplishment! You both should be proud.

1. $164 PMI isn't a large payment. I wouldn't stress it. And if your home appreciates rapidly, you may get rid of that PMI faster than you can pay if off, like many of my friends did, without paying a dime extra over the past 5-10 years.
2. Only if you already maxed all retirement accounts, have 6 months EF, start a 529 as soon as you have kids (if you decide to)
3. No.
4. No.
5. 10 years in, I can't think of much besides I shouldn't have made extra payments on our 3.50% mortgage. Investments > 3.50%.

Although others here will say you're house poor, I think you're doing great. You may not be Boglehead successful, but you're doing better than about 90% of Americans. You've done well and you have a successful future ahead of you. :sharebeer
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grabiner
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Re: Home mortgage pay off strategies

Post by grabiner »

Your mortgage is large enough that any paydown would eliminate deductible interest, at 32% federal and 10.3% CA. (The current mortgage of $760K is just barely over the $750K limit for being able to deduct all the interest, but you'll get to $750K very quickly just with normal payments.) Thus, except for the PMI, the return on a paydown would be 2.88% after tax. Since CA municipal bonds yield more than that, it makes more sense to invest in munis and keep the mortgage. This also gives you the advantage of keeping money liquid. (You don't need to invest in munis in your taxable account, but this is a fair comparison; if you buy stocks rather than munis, you are making a trade-off of return for risk.)

The PMI is $1968 per year. To eliminate PMI, you would need to pay down $120K, so that is an extra 1.6% return. Therefore, once you have enough liquid to pay down to 80%, you might want to do that (or, if rates have dropped, refinance instead). But the PMI elimination is all-or-nothing; you need $120K in liquid assets to get any benefit.
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Re: Home mortgage pay off strategies

Post by Staythecourse123 »

OP, I am in similar boat as you and I wholeheartedly agree with KlangFool here - you are young enough in tech maybe you haven’t seen the pain when it comes. There’s a lot of hiring freezes right now and lots of slowing growth and uncertainty. I would say tech is one of the more volatile rollercoaster fields where you need to enjoy your higher income while you have it but always have a huge nest egg (as big as you can) for if/when the music stops, as it can be sudden and happen to anyone.

Your PMI over 6 years is $11,808. Provided you are disciplined enough to take what extra money (post-tax, post-tax advantaged accounts, etc etc) you would be allocating to paying down house early and putting it into savings eg taxable brokerage / VTI, I would suggest doing that. Or even the muni route suggested above which is a really interesting idea. Think of the $11K over 6 years as a bit of insurance for you if suddenly the doo doo is hitting the fan - you’ll have liquid savings available to you to weather the storm that you wouldn’t if it were sucked into the house.

I read previous posts on this recently, and it’s pretty divided what people suggest. Emotionally I hate debt myself and feel a compulsive urge to pay down early (and even made excess payment my first), but after reading this forum and thinking about it more I changed my mind. I think a lot depends on your career and industry / security, but I will conclude by once again gently pushing back on the idea that tech is in any way ‘secure.’
smitcat
Posts: 13227
Joined: Mon Nov 07, 2016 9:51 am

Re: Home mortgage pay off strategies

Post by smitcat »

Ron Ronnerson wrote: Sat May 28, 2022 5:29 pm
KlangFool wrote: Sat May 28, 2022 3:19 pm
Ron Ronnerson wrote: Sat May 28, 2022 2:33 pm

I didn't mean to imply that they should pay down another $120k all at once. This can be done over time, say a couple of years. It seems like they have a lot of extra cash flow per month. They should have enough set aside in emergency funds to cover things like potential job losses for a while, etc.
Ron Ronnerson,

Why?

The next couple of years (5 to 6 years) is the most dangerous time for OP. If nothing bad happened to OP, OP's asset outside the house would be big enough. And, by that time, the PMI would be gone anyhow. However, if something bad happened to OP, any dollars outside the house could made the difference at annual expense of 108K per year.

It is a non-recourse loan. Why would OP want to put more money into the home equity? That makes abandoning the mortgage/house less attractive and helpful to OP in the worst case.

OP has to put 120K into the mortgage in order for the PMI to be gone. That is a very big amount of money for OP over the next few years.

KlangFool
I’ll try to explain my thinking the best I can but it is okay if we don’t see it the same way.

The OP said in question #1 and #2: “1. Does it make sense to pay off our home sooner to get rid of PMI? 2. Is 4.99% interest high enough to warrant paying it off ahead of schedule?”

They don’t mention making a large lump sum payment right away but instead ask about paying down the loan faster.

They appear to have a lot of extra cash flow available even after maxing retirement accounts because their expenses are so small compared to their income. So where should they direct that additional cash flow? A taxable account does provide more liquidity than paying down the mortgage. The question to me is at what cost is it worth it to gain that extra liquidity for an event that is not all that likely (OP deciding to walk away from the house)? For example, what if this were 1982 and the interest rate in question were 17% like it was 40 years ago? I think more people would be inclined to say to pay down such a loan. The cost of borrowing matters. In OP’s case, it is 5% plus PMI. Where else can they get that sort of a return, especially one that is guaranteed and especially after accounting for relatively high taxes?

The other thing I consider is the chances of OP finding themselves in a situation where they contemplate walking away from the home. Let’s compare them to households similar to theirs: two-income households working in tech in the Bay Area, purchased a home that is only two times their income, have a large emergency fund, have excellent savings habits, and expenses are one-fourth of their income. My thought is that not too many people fitting such a description end up having to walk away from their home. Yes, it’s possible and I think that should be taken into consideration. But so should the chances of it happening. Since I don’t consider the chances of it happening in this situation to be high (though you could assess it differently and that’s fine), I discount the value of the benefit of the non-recourse loan to the OP (though I don’t dismiss the benefit completely by any means).

In their situation, I would pay down the loan if I had extra cash flow. Earlier in the thread, you mentioned my being a teacher and how circumstances are different for someone like me. I could not agree more. I did a cash-out refi for 30 years at 2.375% last year and am on track to pay off my loan in 41 years from the time I purchased my house. Yet I don’t have the extra cash flow like the OP. But the OP quite possibly doesn’t have my job security or pension benefits and definitely doesn’t have my interest rate or tax bracket (12% federal bracket, 0% effective rate for California). My circumstances are very different. In OP’s case, I would pay down the loan a bit at a time and also invest part of the extra cash flow each month. It doesn’t need to be just one or the other since they appear to have such small expenses compared to their income.

Anyway, I have tried to explain my thinking but, again, it is okay if you don’t agree. I appreciate your perspective, respect the differences, and hope that something valuable can be gained from the dialogue even if we don't see eye-to-eye on all situations. For what it's worth, I usually tend to agree with you on posts about topics like this one. In this case, the OPs numbers and situation are sort of different than what we tend to see (mortgage rates have gone up noticeably in the past few months, they have only 5% equity in the home, seem to have a lot of extra cash flow, and are currently also paying PMI).
Facts presented by the OP that you have likely overlooked:
- they are not even moved into their first home yet (new costs not understood)
- they are considering painting the "entire" inside prior to move in (new costs not understood)
- their jobs are not described as very stable
- their current savings with new home will be less than $150K per year maximum
- there is no way to know how long they might be in 'that' home
- their prior savings are not long lived nor are the sources described (no long-term savings pattern)
- they are 27, no long-term job history, limited savings history, no home ownership history
Pretty easy to see that they can save a few years while discovering how many of these variables will play out rather than commit funds without actually knowing. The costs vs the risks are really minimal for 'saving' over the next 2-3 years to find out.
Ron Ronnerson
Posts: 3559
Joined: Sat Oct 26, 2013 6:53 pm
Location: Bay Area

Re: Home mortgage pay off strategies

Post by Ron Ronnerson »

smitcat wrote: Sun May 29, 2022 7:30 am
Ron Ronnerson wrote: Sat May 28, 2022 5:29 pm
KlangFool wrote: Sat May 28, 2022 3:19 pm
Ron Ronnerson wrote: Sat May 28, 2022 2:33 pm

I didn't mean to imply that they should pay down another $120k all at once. This can be done over time, say a couple of years. It seems like they have a lot of extra cash flow per month. They should have enough set aside in emergency funds to cover things like potential job losses for a while, etc.
Ron Ronnerson,

Why?

The next couple of years (5 to 6 years) is the most dangerous time for OP. If nothing bad happened to OP, OP's asset outside the house would be big enough. And, by that time, the PMI would be gone anyhow. However, if something bad happened to OP, any dollars outside the house could made the difference at annual expense of 108K per year.

It is a non-recourse loan. Why would OP want to put more money into the home equity? That makes abandoning the mortgage/house less attractive and helpful to OP in the worst case.

OP has to put 120K into the mortgage in order for the PMI to be gone. That is a very big amount of money for OP over the next few years.

KlangFool
I’ll try to explain my thinking the best I can but it is okay if we don’t see it the same way.

The OP said in question #1 and #2: “1. Does it make sense to pay off our home sooner to get rid of PMI? 2. Is 4.99% interest high enough to warrant paying it off ahead of schedule?”

They don’t mention making a large lump sum payment right away but instead ask about paying down the loan faster.

They appear to have a lot of extra cash flow available even after maxing retirement accounts because their expenses are so small compared to their income. So where should they direct that additional cash flow? A taxable account does provide more liquidity than paying down the mortgage. The question to me is at what cost is it worth it to gain that extra liquidity for an event that is not all that likely (OP deciding to walk away from the house)? For example, what if this were 1982 and the interest rate in question were 17% like it was 40 years ago? I think more people would be inclined to say to pay down such a loan. The cost of borrowing matters. In OP’s case, it is 5% plus PMI. Where else can they get that sort of a return, especially one that is guaranteed and especially after accounting for relatively high taxes?

The other thing I consider is the chances of OP finding themselves in a situation where they contemplate walking away from the home. Let’s compare them to households similar to theirs: two-income households working in tech in the Bay Area, purchased a home that is only two times their income, have a large emergency fund, have excellent savings habits, and expenses are one-fourth of their income. My thought is that not too many people fitting such a description end up having to walk away from their home. Yes, it’s possible and I think that should be taken into consideration. But so should the chances of it happening. Since I don’t consider the chances of it happening in this situation to be high (though you could assess it differently and that’s fine), I discount the value of the benefit of the non-recourse loan to the OP (though I don’t dismiss the benefit completely by any means).

In their situation, I would pay down the loan if I had extra cash flow. Earlier in the thread, you mentioned my being a teacher and how circumstances are different for someone like me. I could not agree more. I did a cash-out refi for 30 years at 2.375% last year and am on track to pay off my loan in 41 years from the time I purchased my house. Yet I don’t have the extra cash flow like the OP. But the OP quite possibly doesn’t have my job security or pension benefits and definitely doesn’t have my interest rate or tax bracket (12% federal bracket, 0% effective rate for California). My circumstances are very different. In OP’s case, I would pay down the loan a bit at a time and also invest part of the extra cash flow each month. It doesn’t need to be just one or the other since they appear to have such small expenses compared to their income.

Anyway, I have tried to explain my thinking but, again, it is okay if you don’t agree. I appreciate your perspective, respect the differences, and hope that something valuable can be gained from the dialogue even if we don't see eye-to-eye on all situations. For what it's worth, I usually tend to agree with you on posts about topics like this one. In this case, the OPs numbers and situation are sort of different than what we tend to see (mortgage rates have gone up noticeably in the past few months, they have only 5% equity in the home, seem to have a lot of extra cash flow, and are currently also paying PMI).
Facts presented by the OP that you have likely overlooked:
- they are not even moved into their first home yet (new costs not understood)
- they are considering painting the "entire" inside prior to move in (new costs not understood)
- their jobs are not described as very stable
- their current savings with new home will be less than $150K per year maximum
- there is no way to know how long they might be in 'that' home
- their prior savings are not long lived nor are the sources described (no long-term savings pattern)
- they are 27, no long-term job history, limited savings history, no home ownership history
Pretty easy to see that they can save a few years while discovering how many of these variables will play out rather than commit funds without actually knowing. The costs vs the risks are really minimal for 'saving' over the next 2-3 years to find out.
I don’t think I’ve overlooked these details; I think I have just assessed the situation differently. I’ll try to address your points and explain how I see them. As I said to KlangFool, you don’t have to agree with me. Hopefully, we can all gain something from the discussion even if we continue to weigh the variables involved in this situation differently.

- they are not even moved into their first home yet (new costs not understood)
- they are considering painting the "entire" inside prior to move in (new costs not understood)

The one-time expenses such as new paint on the interior seem to be minor expenses. They didn’t mention much else about getting work done on the house. They said it’s an 8 year old house so I am assuming it’s inhabitable. The Bay Area home that I live in is 12 years old and nothing major has been needed yet. I’ve gotten floors replaced and rooms painted in recent years for a total cost that would be under 1% of the OP’s gross income.

- their jobs are not described as very stable
I appreciate this point and it is important to consider this. They have a good emergency fund and I would advise them to consider getting it even a bit bigger “just in case”. To be in real danger, though, both would need to lose their jobs simultaneously for an extended period of time. Even then, they’d get unemployment for a while. Once that runs out, they would only need to make a bit over $50k each to meet their expenses. Of course, if one of them earns, say, $80k, the other just needs to bring in $28k. Two people earning $108k/year in the Bay Area is not hard to accomplish. I make more than that as a teacher in the Bay Area and we’re speaking of two people working in tech here.

Also, keep in mind that they are already making $400k at age 27. Chances are they will earn more in the future, not less. But let’s cut their income down by hundreds of percent and they can still cover their expenses. Speaking of expenses, all this assumes they are not even trying to reduce their expenses despite both of them losing their job at the same time for an extended period.

- their current savings with new home will be less than $150K per year maximum
That’s a lot. Assuming they manage to save $150k per year for the next 5 years and then never save a penny again, with 5% growth they’d have over $5m by age 60 and a paid-off Bay Area home. The power of compounding is on their side and they appear to be harnessing it quite well. In all likelihood, they will probably get raises and promotions along the way and I have the strong sense that they’ll be able to continue to save beyond just age 32.

- there is no way to know how long they might be in 'that' home
Correct. It’s information we don’t have so I’m not leaning on that portion to assess the situation. They also didn’t mention how many kids they’d like to have in the future and plenty of other things. You can only go off information you have, right?

- their prior savings are not long lived nor are the sources described (no long-term savings pattern)
- they are 27, no long-term job history, limited savings history, no home ownership history

At age 27, long-term patterns and histories (say, of 10 years or more) aren’t possible. However, I am most definitely seeing patterns emerging here. At age 27, they have accumulated $400k. Most people in this country never achieve that. Surely, this didn’t happen overnight. They must be in the top couple of percent of net worth for people their age. Also, the fact that their expenses are one-fourth their current income is probably a big factor in achieving this. Buying a Bay Area home for only $800k in 2022, when the median price is about double that and the median household income is 1/3 of theirs, is likely a factor as well. Talk about being frugal and making good choices!

On a side note, if you really had to bet, do you think they’ll be making more or less money 10 years from now? Keep in mind that even if they make way less, they are protected from having to lose their home because they would only need to find a job at a Chipotle down the street to meet their expenses (okay, that’s a little hyperbolic...but not too much).

Pretty easy to see that they can save a few years while discovering how many of these variables will play out rather than commit funds without actually knowing. The costs vs the risks are really minimal for 'saving' over the next 2-3 years to find out.
Sure, and that would be fine, by the way. However, it doesn’t have to be all-or-nothing. If they have a lot of extra cash flow (as they appear to), they can invest some and also pay down the home a bit ahead of schedule. As I’ve tried to show, as long as Chipotle exists, their risks are minimal anyhow.
smitcat
Posts: 13227
Joined: Mon Nov 07, 2016 9:51 am

Re: Home mortgage pay off strategies

Post by smitcat »

Ron Ronnerson wrote: Sun May 29, 2022 10:17 am
smitcat wrote: Sun May 29, 2022 7:30 am
Ron Ronnerson wrote: Sat May 28, 2022 5:29 pm
KlangFool wrote: Sat May 28, 2022 3:19 pm
Ron Ronnerson wrote: Sat May 28, 2022 2:33 pm

I didn't mean to imply that they should pay down another $120k all at once. This can be done over time, say a couple of years. It seems like they have a lot of extra cash flow per month. They should have enough set aside in emergency funds to cover things like potential job losses for a while, etc.
Ron Ronnerson,

Why?

The next couple of years (5 to 6 years) is the most dangerous time for OP. If nothing bad happened to OP, OP's asset outside the house would be big enough. And, by that time, the PMI would be gone anyhow. However, if something bad happened to OP, any dollars outside the house could made the difference at annual expense of 108K per year.

It is a non-recourse loan. Why would OP want to put more money into the home equity? That makes abandoning the mortgage/house less attractive and helpful to OP in the worst case.

OP has to put 120K into the mortgage in order for the PMI to be gone. That is a very big amount of money for OP over the next few years.

KlangFool
I’ll try to explain my thinking the best I can but it is okay if we don’t see it the same way.

The OP said in question #1 and #2: “1. Does it make sense to pay off our home sooner to get rid of PMI? 2. Is 4.99% interest high enough to warrant paying it off ahead of schedule?”

They don’t mention making a large lump sum payment right away but instead ask about paying down the loan faster.

They appear to have a lot of extra cash flow available even after maxing retirement accounts because their expenses are so small compared to their income. So where should they direct that additional cash flow? A taxable account does provide more liquidity than paying down the mortgage. The question to me is at what cost is it worth it to gain that extra liquidity for an event that is not all that likely (OP deciding to walk away from the house)? For example, what if this were 1982 and the interest rate in question were 17% like it was 40 years ago? I think more people would be inclined to say to pay down such a loan. The cost of borrowing matters. In OP’s case, it is 5% plus PMI. Where else can they get that sort of a return, especially one that is guaranteed and especially after accounting for relatively high taxes?

The other thing I consider is the chances of OP finding themselves in a situation where they contemplate walking away from the home. Let’s compare them to households similar to theirs: two-income households working in tech in the Bay Area, purchased a home that is only two times their income, have a large emergency fund, have excellent savings habits, and expenses are one-fourth of their income. My thought is that not too many people fitting such a description end up having to walk away from their home. Yes, it’s possible and I think that should be taken into consideration. But so should the chances of it happening. Since I don’t consider the chances of it happening in this situation to be high (though you could assess it differently and that’s fine), I discount the value of the benefit of the non-recourse loan to the OP (though I don’t dismiss the benefit completely by any means).

In their situation, I would pay down the loan if I had extra cash flow. Earlier in the thread, you mentioned my being a teacher and how circumstances are different for someone like me. I could not agree more. I did a cash-out refi for 30 years at 2.375% last year and am on track to pay off my loan in 41 years from the time I purchased my house. Yet I don’t have the extra cash flow like the OP. But the OP quite possibly doesn’t have my job security or pension benefits and definitely doesn’t have my interest rate or tax bracket (12% federal bracket, 0% effective rate for California). My circumstances are very different. In OP’s case, I would pay down the loan a bit at a time and also invest part of the extra cash flow each month. It doesn’t need to be just one or the other since they appear to have such small expenses compared to their income.

Anyway, I have tried to explain my thinking but, again, it is okay if you don’t agree. I appreciate your perspective, respect the differences, and hope that something valuable can be gained from the dialogue even if we don't see eye-to-eye on all situations. For what it's worth, I usually tend to agree with you on posts about topics like this one. In this case, the OPs numbers and situation are sort of different than what we tend to see (mortgage rates have gone up noticeably in the past few months, they have only 5% equity in the home, seem to have a lot of extra cash flow, and are currently also paying PMI).
Facts presented by the OP that you have likely overlooked:
- they are not even moved into their first home yet (new costs not understood)
- they are considering painting the "entire" inside prior to move in (new costs not understood)
- their jobs are not described as very stable
- their current savings with new home will be less than $150K per year maximum
- there is no way to know how long they might be in 'that' home
- their prior savings are not long lived nor are the sources described (no long-term savings pattern)
- they are 27, no long-term job history, limited savings history, no home ownership history
Pretty easy to see that they can save a few years while discovering how many of these variables will play out rather than commit funds without actually knowing. The costs vs the risks are really minimal for 'saving' over the next 2-3 years to find out.
I don’t think I’ve overlooked these details; I think I have just assessed the situation differently. I’ll try to address your points and explain how I see them. As I said to KlangFool, you don’t have to agree with me. Hopefully, we can all gain something from the discussion even if we continue to weigh the variables involved in this situation differently.

- they are not even moved into their first home yet (new costs not understood)
- they are considering painting the "entire" inside prior to move in (new costs not understood)

The one-time expenses such as new paint on the interior seem to be minor expenses. They didn’t mention much else about getting work done on the house. They said it’s an 8 year old house so I am assuming it’s inhabitable. The Bay Area home that I live in is 12 years old and nothing major has been needed yet. I’ve gotten floors replaced and rooms painted in recent years for a total cost that would be under 1% of the OP’s gross income.

- their jobs are not described as very stable
I appreciate this point and it is important to consider this. They have a good emergency fund and I would advise them to consider getting it even a bit bigger “just in case”. To be in real danger, though, both would need to lose their jobs simultaneously for an extended period of time. Even then, they’d get unemployment for a while. Once that runs out, they would only need to make a bit over $50k each to meet their expenses. Of course, if one of them earns, say, $80k, the other just needs to bring in $28k. Two people earning $108k/year in the Bay Area is not hard to accomplish. I make more than that as a teacher in the Bay Area and we’re speaking of two people working in tech here.

Also, keep in mind that they are already making $400k at age 27. Chances are they will earn more in the future, not less. But let’s cut their income down by hundreds of percent and they can still cover their expenses. Speaking of expenses, all this assumes they are not even trying to reduce their expenses despite both of them losing their job at the same time for an extended period.

- their current savings with new home will be less than $150K per year maximum
That’s a lot. Assuming they manage to save $150k per year for the next 5 years and then never save a penny again, with 5% growth they’d have over $5m by age 60 and a paid-off Bay Area home. The power of compounding is on their side and they appear to be harnessing it quite well. In all likelihood, they will probably get raises and promotions along the way and I have the strong sense that they’ll be able to continue to save beyond just age 32.

- there is no way to know how long they might be in 'that' home
Correct. It’s information we don’t have so I’m not leaning on that portion to assess the situation. They also didn’t mention how many kids they’d like to have in the future and plenty of other things. You can only go off information you have, right?

- their prior savings are not long lived nor are the sources described (no long-term savings pattern)
- they are 27, no long-term job history, limited savings history, no home ownership history

At age 27, long-term patterns and histories (say, of 10 years or more) aren’t possible. However, I am most definitely seeing patterns emerging here. At age 27, they have accumulated $400k. Most people in this country never achieve that. Surely, this didn’t happen overnight. They must be in the top couple of percent of net worth for people their age. Also, the fact that their expenses are one-fourth their current income is probably a big factor in achieving this. Buying a Bay Area home for only $800k in 2022, when the median price is about double that and the median household income is 1/3 of theirs, is likely a factor as well. Talk about being frugal and making good choices!

On a side note, if you really had to bet, do you think they’ll be making more or less money 10 years from now? Keep in mind that even if they make way less, they are protected from having to lose their home because they would only need to find a job at a Chipotle down the street to meet their expenses (okay, that’s a little hyperbolic...but not too much).

Pretty easy to see that they can save a few years while discovering how many of these variables will play out rather than commit funds without actually knowing. The costs vs the risks are really minimal for 'saving' over the next 2-3 years to find out.
Sure, and that would be fine, by the way. However, it doesn’t have to be all-or-nothing. If they have a lot of extra cash flow (as they appear to), they can invest some and also pay down the home a bit ahead of schedule. As I’ve tried to show, as long as Chipotle exists, their risks are minimal anyhow.
- how did they accumulate the $400K so far?
- why do two folks with low expenses only have $400K so far?
- why do you believe they will both be working in the future?
- how large do you believe a reasonable emergency fund should be in this case?
- have you read the posts by grabiner and staythecourse123? (math and same situation)

If they can save now over a few years or so then they have a base to work from, more to the home now is just less flexibility and less liquidity.
Topic Author
IAmJustAnAverageDude
Posts: 39
Joined: Mon Oct 28, 2019 1:20 pm

Re: Home mortgage pay off strategies

Post by IAmJustAnAverageDude »

Thank you everyone for your thoughts, your assurance is a great motivator to keep hustling. Couple of facts I'd like to clarify:
1. We don't plan to have kids
2. We do want to adopt a dog at some point in the near future
3. How did we get to $400k income? We both have been in the workforce for 4 years, I have always been in tech, interview well, went through a IPO luckily, cashed out and interviewed well in the "covid" economy and negotiated a strong job offer (after getting 5 offers). I have a graduate degree in machine learning computer science, and I'd like to believe I work in a high demand field. Spouse too up-leveled her career with a job switch recently. I personally believe in "job-hopping" every 2-3 years because I saw I could get a near 50% raise this time.
4. We still hustle for outside opportunities for extra cash in addition to our full time jobs - its been going well so actual income this year could exceed $400k significantly
5. We don't want to pay into home equity to get rid of PMI immediately. However while I understand PMI could be my insurance against a down turn, I also think with very high cashflow, I am giving away money to the bank by paying PMI. So maybe over few years we could slowly ramp up our payments to accelerate the time frame when we cancel our PMI.
6. We want to get interior of the house painted - no other issues with the house/no remodeling needed. Painting is also not necessary but we would like a "new" feel to the house.

Given all these factors:
- what is the "ideal" size of liquid emergency fund I should keep?
- likely we will hit the ideal emergency fund + max out retirement + max out i-bonds soon. And still be left with cashflow, we might take a nice trip or two this year but where else should we direct the cash flow appropriately?
Ron Ronnerson
Posts: 3559
Joined: Sat Oct 26, 2013 6:53 pm
Location: Bay Area

Re: Home mortgage pay off strategies

Post by Ron Ronnerson »

smitcat wrote: Sun May 29, 2022 11:15 am
Ron Ronnerson wrote: Sun May 29, 2022 10:17 am
smitcat wrote: Sun May 29, 2022 7:30 am
Ron Ronnerson wrote: Sat May 28, 2022 5:29 pm
KlangFool wrote: Sat May 28, 2022 3:19 pm

Ron Ronnerson,

Why?

The next couple of years (5 to 6 years) is the most dangerous time for OP. If nothing bad happened to OP, OP's asset outside the house would be big enough. And, by that time, the PMI would be gone anyhow. However, if something bad happened to OP, any dollars outside the house could made the difference at annual expense of 108K per year.

It is a non-recourse loan. Why would OP want to put more money into the home equity? That makes abandoning the mortgage/house less attractive and helpful to OP in the worst case.

OP has to put 120K into the mortgage in order for the PMI to be gone. That is a very big amount of money for OP over the next few years.

KlangFool
I’ll try to explain my thinking the best I can but it is okay if we don’t see it the same way.

The OP said in question #1 and #2: “1. Does it make sense to pay off our home sooner to get rid of PMI? 2. Is 4.99% interest high enough to warrant paying it off ahead of schedule?”

They don’t mention making a large lump sum payment right away but instead ask about paying down the loan faster.

They appear to have a lot of extra cash flow available even after maxing retirement accounts because their expenses are so small compared to their income. So where should they direct that additional cash flow? A taxable account does provide more liquidity than paying down the mortgage. The question to me is at what cost is it worth it to gain that extra liquidity for an event that is not all that likely (OP deciding to walk away from the house)? For example, what if this were 1982 and the interest rate in question were 17% like it was 40 years ago? I think more people would be inclined to say to pay down such a loan. The cost of borrowing matters. In OP’s case, it is 5% plus PMI. Where else can they get that sort of a return, especially one that is guaranteed and especially after accounting for relatively high taxes?

The other thing I consider is the chances of OP finding themselves in a situation where they contemplate walking away from the home. Let’s compare them to households similar to theirs: two-income households working in tech in the Bay Area, purchased a home that is only two times their income, have a large emergency fund, have excellent savings habits, and expenses are one-fourth of their income. My thought is that not too many people fitting such a description end up having to walk away from their home. Yes, it’s possible and I think that should be taken into consideration. But so should the chances of it happening. Since I don’t consider the chances of it happening in this situation to be high (though you could assess it differently and that’s fine), I discount the value of the benefit of the non-recourse loan to the OP (though I don’t dismiss the benefit completely by any means).

In their situation, I would pay down the loan if I had extra cash flow. Earlier in the thread, you mentioned my being a teacher and how circumstances are different for someone like me. I could not agree more. I did a cash-out refi for 30 years at 2.375% last year and am on track to pay off my loan in 41 years from the time I purchased my house. Yet I don’t have the extra cash flow like the OP. But the OP quite possibly doesn’t have my job security or pension benefits and definitely doesn’t have my interest rate or tax bracket (12% federal bracket, 0% effective rate for California). My circumstances are very different. In OP’s case, I would pay down the loan a bit at a time and also invest part of the extra cash flow each month. It doesn’t need to be just one or the other since they appear to have such small expenses compared to their income.

Anyway, I have tried to explain my thinking but, again, it is okay if you don’t agree. I appreciate your perspective, respect the differences, and hope that something valuable can be gained from the dialogue even if we don't see eye-to-eye on all situations. For what it's worth, I usually tend to agree with you on posts about topics like this one. In this case, the OPs numbers and situation are sort of different than what we tend to see (mortgage rates have gone up noticeably in the past few months, they have only 5% equity in the home, seem to have a lot of extra cash flow, and are currently also paying PMI).
Facts presented by the OP that you have likely overlooked:
- they are not even moved into their first home yet (new costs not understood)
- they are considering painting the "entire" inside prior to move in (new costs not understood)
- their jobs are not described as very stable
- their current savings with new home will be less than $150K per year maximum
- there is no way to know how long they might be in 'that' home
- their prior savings are not long lived nor are the sources described (no long-term savings pattern)
- they are 27, no long-term job history, limited savings history, no home ownership history
Pretty easy to see that they can save a few years while discovering how many of these variables will play out rather than commit funds without actually knowing. The costs vs the risks are really minimal for 'saving' over the next 2-3 years to find out.
I don’t think I’ve overlooked these details; I think I have just assessed the situation differently. I’ll try to address your points and explain how I see them. As I said to KlangFool, you don’t have to agree with me. Hopefully, we can all gain something from the discussion even if we continue to weigh the variables involved in this situation differently.

- they are not even moved into their first home yet (new costs not understood)
- they are considering painting the "entire" inside prior to move in (new costs not understood)

The one-time expenses such as new paint on the interior seem to be minor expenses. They didn’t mention much else about getting work done on the house. They said it’s an 8 year old house so I am assuming it’s inhabitable. The Bay Area home that I live in is 12 years old and nothing major has been needed yet. I’ve gotten floors replaced and rooms painted in recent years for a total cost that would be under 1% of the OP’s gross income.

- their jobs are not described as very stable
I appreciate this point and it is important to consider this. They have a good emergency fund and I would advise them to consider getting it even a bit bigger “just in case”. To be in real danger, though, both would need to lose their jobs simultaneously for an extended period of time. Even then, they’d get unemployment for a while. Once that runs out, they would only need to make a bit over $50k each to meet their expenses. Of course, if one of them earns, say, $80k, the other just needs to bring in $28k. Two people earning $108k/year in the Bay Area is not hard to accomplish. I make more than that as a teacher in the Bay Area and we’re speaking of two people working in tech here.

Also, keep in mind that they are already making $400k at age 27. Chances are they will earn more in the future, not less. But let’s cut their income down by hundreds of percent and they can still cover their expenses. Speaking of expenses, all this assumes they are not even trying to reduce their expenses despite both of them losing their job at the same time for an extended period.

- their current savings with new home will be less than $150K per year maximum
That’s a lot. Assuming they manage to save $150k per year for the next 5 years and then never save a penny again, with 5% growth they’d have over $5m by age 60 and a paid-off Bay Area home. The power of compounding is on their side and they appear to be harnessing it quite well. In all likelihood, they will probably get raises and promotions along the way and I have the strong sense that they’ll be able to continue to save beyond just age 32.

- there is no way to know how long they might be in 'that' home
Correct. It’s information we don’t have so I’m not leaning on that portion to assess the situation. They also didn’t mention how many kids they’d like to have in the future and plenty of other things. You can only go off information you have, right?

- their prior savings are not long lived nor are the sources described (no long-term savings pattern)
- they are 27, no long-term job history, limited savings history, no home ownership history

At age 27, long-term patterns and histories (say, of 10 years or more) aren’t possible. However, I am most definitely seeing patterns emerging here. At age 27, they have accumulated $400k. Most people in this country never achieve that. Surely, this didn’t happen overnight. They must be in the top couple of percent of net worth for people their age. Also, the fact that their expenses are one-fourth their current income is probably a big factor in achieving this. Buying a Bay Area home for only $800k in 2022, when the median price is about double that and the median household income is 1/3 of theirs, is likely a factor as well. Talk about being frugal and making good choices!

On a side note, if you really had to bet, do you think they’ll be making more or less money 10 years from now? Keep in mind that even if they make way less, they are protected from having to lose their home because they would only need to find a job at a Chipotle down the street to meet their expenses (okay, that’s a little hyperbolic...but not too much).

Pretty easy to see that they can save a few years while discovering how many of these variables will play out rather than commit funds without actually knowing. The costs vs the risks are really minimal for 'saving' over the next 2-3 years to find out.
Sure, and that would be fine, by the way. However, it doesn’t have to be all-or-nothing. If they have a lot of extra cash flow (as they appear to), they can invest some and also pay down the home a bit ahead of schedule. As I’ve tried to show, as long as Chipotle exists, their risks are minimal anyhow.
- how did they accumulate the $400K so far?
- why do two folks with low expenses only have $400K so far?
- why do you believe they will both be working in the future?
- how large do you believe a reasonable emergency fund should be in this case?
- have you read the posts by grabiner and staythecourse123? (math and same situation)

If they can save now over a few years or so then they have a base to work from, more to the home now is just less flexibility and less liquidity.

I think the first question should be directed to OP as they could tell you their journey far better than I could. What we do know is that they do have $400k accumulated. Which leads us to the next question of "how do folks with low expenses only have $400k so far?" They're 27. What more needs to be said? Maybe we could add that at 27, they have far more than most people ever will.

On to the third question of "why do you believe they will both be working in the future?" They may or may not. However, it seems like they can comfortably meet their expenses on one income. Earning more after age 27 is also likely because most people aren't in their highest earning years at that age.

As for the fourth question of how big of an emergency fund to have, it depends. Factors include job stability, prospects of employment if they were to lose a job, their health, plans for the future (such as having kids), and personal comfort level/preference. They should consider a bunch of things and make the right choice for them. I'm not dogmatic about having x number of expenses in an emergency fund because situations can vary greatly.

I did read the posts by grabiner and staythecourse123. I think it's great that they offered their perspective. I really appreciated grabiner raising the point about taking the mortgage interest deduction into consideration. However, I didn't really understand the math. Grabiner said the return on the paydown is 2.88%. They seem to have done the calculation like this (though I could be wrong): assumed a federal tax bracket of 32% and state tax bracket of 10.3%, which total 42.3%, and then take the OP's 4.99% mortgage rate and multiply it by 57.7% (100% minus the total tax rate of 42.3%) to arrive at 2.88%. However, in order to itemize, you can't take the standard deduction, which is currently about $26k. So the benefit is only on the amount of itemized deductions above the standard deduction. Was this accounted for? How do we know what the OP's itemized deductions equal? Also, If the OP is earning $400k and they max two 401k accounts plus an HSA and maybe have a little bit taken out for things like health premiums from their paychecks, wouldn't most (if not all) of their income fall into the 24% bracket? Also, it's a minor point, but I think they might be in the 9.3% state bracket. Like I said, I don't really follow the math here so that's why I ask these questions. If you understand it and can explain this part, I'd appreciate it.

Staythecourse's opinion is good to include in the discussion but it doesn't mean that there is one definitive correct or even best answer in all situations. People's preferences and precise circumstances come into play. Staythecourse included the sentence: "I read previous posts on this recently, and it’s pretty divided what people suggest."

I have reached the point where I feel I've explained my thinking process the best that I can have also tried to answer your questions and follow-up questions the best that I can. It's a busy weekend for me (working on students' report cards) so I will sign off, leaving you with a question as well: Can two reasonable people see the same thing and look at it differently?
JDave
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Re: Home mortgage pay off strategies

Post by JDave »

5. - the greatest destroyer of homes is water, and ALL homes have water problems sooner or later, either from exterior or interior (plumbing and condensation) water. I wish I'd spent time studying house water management.
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grabiner
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Re: Home mortgage pay off strategies

Post by grabiner »

Ron Ronnerson wrote: Sun May 29, 2022 12:07 pm I did read the posts by grabiner and staythecourse123. I think it's great that they offered their perspective. I really appreciated grabiner raising the point about taking the mortgage interest deduction into consideration. However, I didn't really understand the math. Grabiner said the return on the paydown is 2.88%. They seem to have done the calculation like this (though I could be wrong): assumed a federal tax bracket of 32% and state tax bracket of 10.3%, which total 42.3%, and then take the OP's 4.99% mortgage rate and multiply it by 57.7% (100% minus the total tax rate of 42.3%) to arrive at 2.88%. However, in order to itemize, you can't take the standard deduction, which is currently about $26k. So the benefit is only on the amount of itemized deductions above the standard deduction. Was this accounted for?
Yes, it was. Including $10K of SALT deduction, they need only $16K of other deductions to reach $26K. If they donate nothing to charity, they will still itemize until the mortgage balance gets down to $320K. Therefore, paying down the mortgage will eliminate deductible interest, until they pay most of it off.

But this is an important point. I usually recommend paying down mortgages in discussions like this one, because paying down a mortgage gives a good risk-free return. It is only because the mortgage interest affected by the paydown is fully tax-deductible for the OP that I would prefer taxable investments to paying down the mortgage. (My own mortgage was fully tax-deductible at 32.2%, so I made taxable investments in preference to paying it down, until interest rates got so low in 2020 that it was worth paying off despite the deduction.)
How do we know what the OP's itemized deductions equal? Also, If the OP is earning $400k and they max two 401k accounts plus an HSA and maybe have a little bit taken out for things like health premiums from their paychecks, wouldn't most (if not all) of their income fall into the 24% bracket?
The "most" is not the issue; what matters is the marginal tax rate (or rates if you cross a bracket boundary). But if $400K is the gross income, then maxing out two 401(k) plans, plus the deduction for an HSA, plus the itemized deductions, would drop them to the 24% bracket. That would change the return on a mortgage paydown to 3.28%.
Wiki David Grabiner
smitcat
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Re: Home mortgage pay off strategies

Post by smitcat »

IAmJustAnAverageDude wrote: Sun May 29, 2022 12:03 pm Thank you everyone for your thoughts, your assurance is a great motivator to keep hustling. Couple of facts I'd like to clarify:
1. We don't plan to have kids
2. We do want to adopt a dog at some point in the near future
3. How did we get to $400k income? We both have been in the workforce for 4 years, I have always been in tech, interview well, went through a IPO luckily, cashed out and interviewed well in the "covid" economy and negotiated a strong job offer (after getting 5 offers). I have a graduate degree in machine learning computer science, and I'd like to believe I work in a high demand field. Spouse too up-leveled her career with a job switch recently. I personally believe in "job-hopping" every 2-3 years because I saw I could get a near 50% raise this time.
4. We still hustle for outside opportunities for extra cash in addition to our full time jobs - its been going well so actual income this year could exceed $400k significantly
5. We don't want to pay into home equity to get rid of PMI immediately. However while I understand PMI could be my insurance against a down turn, I also think with very high cashflow, I am giving away money to the bank by paying PMI. So maybe over few years we could slowly ramp up our payments to accelerate the time frame when we cancel our PMI.
6. We want to get interior of the house painted - no other issues with the house/no remodeling needed. Painting is also not necessary but we would like a "new" feel to the house.

Given all these factors:
- what is the "ideal" size of liquid emergency fund I should keep?
- likely we will hit the ideal emergency fund + max out retirement + max out i-bonds soon. And still be left with cashflow, we might take a nice trip or two this year but where else should we direct the cash flow appropriately?
3. Job hopping in your case might be a very good idea, that may also lead you to other areas of this country or far beyond
4. great, it will greatly lessen your time to save if you wanted to pay down the home loans in the future
5. I agree on not paying down loan now. Your giving away is not nearly as large as you might think.
6. If this is important to you please do it, life is shorter than you think to sweat these types of decisions

Not necessary an 'emergency fund' but with a new home at a ~ $750K mortgage I would start to be comfortable with $500K reasonably accessible. That would be after any early loan payments were to be made.
After retirement if applicable it is IRA, HSA, and then an after-tax investment account.
Definitely take the trips whenever you can - balance in life is the key.
Congrats and good luck...
Ron Ronnerson
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Re: Home mortgage pay off strategies

Post by Ron Ronnerson »

grabiner wrote: Sun May 29, 2022 12:27 pm
Ron Ronnerson wrote: Sun May 29, 2022 12:07 pm I did read the posts by grabiner and staythecourse123. I think it's great that they offered their perspective. I really appreciated grabiner raising the point about taking the mortgage interest deduction into consideration. However, I didn't really understand the math. Grabiner said the return on the paydown is 2.88%. They seem to have done the calculation like this (though I could be wrong): assumed a federal tax bracket of 32% and state tax bracket of 10.3%, which total 42.3%, and then take the OP's 4.99% mortgage rate and multiply it by 57.7% (100% minus the total tax rate of 42.3%) to arrive at 2.88%. However, in order to itemize, you can't take the standard deduction, which is currently about $26k. So the benefit is only on the amount of itemized deductions above the standard deduction. Was this accounted for?
Yes, it was. Including $10K of SALT deduction, they need only $16K of other deductions to reach $26K. If they donate nothing to charity, they will still itemize until the mortgage balance gets down to $320K. Therefore, paying down the mortgage will eliminate deductible interest, until they pay most of it off.

But this is an important point. I usually recommend paying down mortgages in discussions like this one, because paying down a mortgage gives a good risk-free return. It is only because the mortgage interest affected by the paydown is fully tax-deductible for the OP that I would prefer taxable investments to paying down the mortgage. (My own mortgage was fully tax-deductible at 32.2%, so I made taxable investments in preference to paying it down, until interest rates got so low in 2020 that it was worth paying off despite the deduction.)
How do we know what the OP's itemized deductions equal? Also, If the OP is earning $400k and they max two 401k accounts plus an HSA and maybe have a little bit taken out for things like health premiums from their paychecks, wouldn't most (if not all) of their income fall into the 24% bracket?
The "most" is not the issue; what matters is the marginal tax rate (or rates if you cross a bracket boundary). But if $400K is the gross income, then maxing out two 401(k) plans, plus the deduction for an HSA, plus the itemized deductions, would drop them to the 24% bracket. That would change the return on a mortgage paydown to 3.28%.
Thank you!
harikaried
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Re: Home mortgage pay off strategies

Post by harikaried »

IAmJustAnAverageDude wrote: Sun May 29, 2022 12:03 pmwhere else should we direct the cash flow appropriately?
If you want to maintain your leverage (i.e., investing with debt), you can put money in a taxable brokerage account. Potentially if it grows in excess of your debt, you could then sell and pay off your mortgage.
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Re: Home mortgage pay off strategies

Post by KlangFool »

OP,

You need to understand the point of view of two different groups of people in the VHCOL area. Then, decides where do you fit within those 2 extremes.

A) CA is a great place to live

Even if I have to work in Chipotle and earn 50K per year, I would live in this area.

B) CA is a lousy place to live

Someone would have to pay me a lot more (50% to 100%) than what I earn elsewhere in order to live in this area. And, I would only stays there as long as I am earning significantly more money. I would leave as soon as I can earn as much elsewhere. I would get out as soon as I need to raise a family.

The question to you is this. If you are no longer earning 400K per year in this area, and your choice is between

A) Earning 100K per year household income in this area and pay the 760K mortgage.

B) Earning 200K per year household income elsewhere with significantly lowered cost of living and abandon the 800K house.

What would you choose? If the answer is (B), then, you need to keep as little money in the house as possible.

KlangFool
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Re: Home mortgage pay off strategies

Post by bling »

IAmJustAnAverageDude wrote: Sun May 29, 2022 12:03 pm 1. We don't plan to have kids
why get a house then?
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