What to do if bank interest rates go higher

Saving in So Cal · #1 (**permalink**) 07-29-2006, 10:07 PM

I just noticed that GMAC Bank is advertising CDs at 5.50% interest. I have a 30-year fixed mortgage at 5.75% interest. I have been focusing on paying off the mortgage (with about 15 years left), but wonder whether I should focus on investing the money instead if interest rates go any higher. Mathematically, it seems like it would be better to invest with a fallback plan to plough the money back into the mortgage if interest rates go down. Any thoughts?

zoe · #2 (**permalink**) 07-30-2006, 12:09 AM

Because your loan is fixed I would think that if you work out when you will start getting more in interest (less taxes) I would save the money and then do as you say; when they go down put it on the mortgage.

Crystallas · #3 (**permalink**) 07-30-2006, 12:29 AM

If your rate is better in the bank, then by all means use it to your advatage. Just check to see how the interest is compiled to make sure that its in your favor and not the marketters favor.

funnyvalentine · #4 (**permalink**) 07-30-2006, 02:24 AM

don't forget that the interest on your mortgage is tax deductable; that does make a difference...

sweeps · #5 (**permalink**) 07-30-2006, 05:18 AM

Quote:

Originally Posted by Saving in So Cal

I just noticed that GMAC Bank is advertising CDs at 5.50% interest. I have a 30-year fixed mortgage at 5.75% interest. I have been focusing on paying off the mortgage (with about 15 years left), but wonder whether I should focus on investing the money instead if interest rates go any higher. Mathematically, it seems like it would be better to invest with a fallback plan to plough the money back into the mortgage if interest rates go down. Any thoughts?

If by "investing" you intended on putting the money in a stock index fund, I would say go for it. But if you plan on putting the money in a CD, you're not going to outrun the mortgage interest. Keep in mind that although the mortgage interest may be tax-deductible, your CD's interest is taxable. So you won't really earn 5.5%.

Between these 2 options, if you have already sufficient savings for emergencies, etc., I would pay down the mortgage.

Ima saver · #6 (**permalink**) 07-30-2006, 06:02 AM

I would pay down the mortgage too. You don't know what a great feeling it is to be mortgage free until you have been there.

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#7 (**permalink**) 07-30-2006, 06:22 AM

...and don't forget, if you are in a 20% tax bracket say, and you pay $5,000 in interest, that your tax deduction is only $1,000. - So you are paying an extra $4,000 still in interest.

Like I have said to people in the past that knew I was paying down my mortgage, do I really hate the government that much that I will pay so much extra interest to save a fraction of that on taxes. I don't think so.

b4freedom · #8 (**permalink**) 07-30-2006, 07:33 PM

I was wondering the same question. So, I did some math.

We have a 5.625% mortgage. I figured out what I actually pay in federal and state income taxes, about 15% and 3.5% respectively (My federal tax bracket is 30%, but after deductions, etc, I pay about 15%). This means I'd have to earn ~6.7% in order to break even with prepaying my mortgage. However, if I invested in something tax deferred, I'm basically better off with anything that earns more then what I pay with my mortgage.

Assuming you're in the same boat as us, you'd be better off investing in non-taxed differed investments if the rate was 6.85%.

Broken Arrow · #9 (**permalink**) 07-31-2006, 04:35 AM

Good advice in this thread! I would have done the same.

funnyvalentine · #10 (**permalink**) 07-31-2006, 05:15 AM

To get that rate you might look at fixed annuities; they are actually paying some decent returns at this point, and most of them let you withdraw 10 percent of your investment a year without a penalty, if you need to...

Saving in So Cal · #11 (**permalink**) 08-03-2006, 10:27 PM

Thanks everyone! I really appreciate your advice. It's given me a lot to think about.

greedy4chips · #12 (**permalink**) 08-11-2006, 08:43 PM

Quote:

Originally Posted by taking charge

...and don't forget, if you are in a 20% tax bracket say, and you pay $5,000 in interest, that your tax deduction is only $1,000. - So you are paying an extra $4,000 still in interest.

You are correct in your math, but your tax deduction is only possible if you itemize. Many people I know are so close to the cutoff of itemizing with current mortgage rates of less than 6% that they falsely believe they are recouping 15%- 20% of that interest bill when actually it is more only 3% is deducted.

A $1,000 CD at 5.5% for 15 years will only net you $2281 - $1000=$1281 profit minus interest income taxes. The same $1,000 paid on a $150,000 15yr mortgage@ 5.75% will save you 1 2/3 payments over the life of the loan or approximately $1200 (minus interest deduction) in interest if done in the first year, each year you wait the benefit reduces but so does the profit on the CD to almost break even in this scenario.

You just have to decide if you want the money tied up in a CD or principal, is the interest on your mortgage actually deducted on your taxes?

Quote:

Originally Posted by taking charge

Like I have said to people in the past that knew I was paying down my mortgage, do I really hate the government that much that I will pay so much extra interest to save a fraction of that on taxes. I don't think so.

So true!

Its addition by subtraction.