100% Down Plan

[Shewillbemine]

Actually, OP is talking about saving $100,000 and projects doing so in 6 years. If OP lives somewhere where 100K buys a home, this isn't an unreasonable goal at all.

That sounds great for OP. Where are these places that sell SFRs for $100k?

[Shewillbemine]

Read the book "The Millionaire Next door" and you will find that's not true. Most of the nations self made millioniare's have a low realized income, large networths based on their assets and no debt.

Read it. Interesting stuff. But I'm not referring to people with a few million dollars in their bank accounts (for the purpose of my examples). I'm talking about people with several hundred million dollars.

[dczech09]

I've read the book. Fantastic book and actually one of the key motivators for me aiming at staying completely debt free.

[disneysteve]

That sounds great for OP. Where are these places that sell SFRs for $100k?

Lots of places. Listen to Dave Ramsey and you'll hear lots of callers who, when Dave asks what their home is worth, answer with a figure of 100K or less. Many callers are living in homes valued at 60K or 70K or so. Or just head to Detroit. 100K can buy you several homes there.

[bjl584]

Lots of places. Listen to Dave Ramsey and you'll hear lots of callers who, when Dave asks what their home is worth, answer with a figure of 100K or less. Many callers are living in homes valued at 60K or 70K or so. Or just head to Detroit. 100K can buy you several homes there.

Probably a whole block actually.

[MonkeyMama]

I've got a few comments. OP - take it with a grain of salt - we on a tangent - but a very related one. All things to consider when it comes to this discussion.

One - it drives me nuts when a paid for mortgage is so over-simplified as risk-free. Simply not true.

I know a fair amount of millionaires and most choose low interest mortgages. Not ALL. I live in California so this may be more key to the region (high cost area as I mentioned). Thus, you may have to leverage to get ahead. Paying cash would sink all your income/resources. I may have significant region bias.

I know plenty of people who's #1 goal is to pay off their house, and who have no savings or retirement, accordingly. Again, this is not EVERYONE, but a good majority of people who get hung up on the mortgage also lose sight of the big picture. I know far more 100% debt-free millionaires who carried a mortgage in their 20s, 30s, and 40s. Could be more region bias. (Mortgage generally paid off by age 50).

I am personally extremely risk adverse. That said, with a 5% mortgage in my 20s? I would ASBOLUTELY NOT pay cash for a house if I had $200k. I would invest it. The caveat for me is that I would probably not do so in my 40s. Definitely not in my 50s. In my 20s and maybe 30s, the investment horizon would have been long enough to virtually eliminate any risk. 5% interest rates would be key in this decision, too.

When Dave Ramsey always ask, "Would you borrow against a paid for house?" I Always think, "Heck yeah, I would!"

Financial risks aside, I think you also have to consider the personal sacrifices. We had initially wanted to pay off our home by age 30. If that was our priority, we could have done it. 100% of my spouse's income has mostly gone to our mortgage. That said, we decided to have kids and have one of us stay home with them. That was more important to us than a paid off mortgage, bottom line. We'd have more wealth, otherwise, but there is more to life than wealth.

For others, putting a huge amount of resources to their mortgage will not come at great personal or financial sacrifice. Then, do it. Just don't under-estimate the risks that are taken to do so.

[dczech09]

Again, if I have my emergency funded and am contributing to retirement already, the systematic saving for a 100% down house payment does not bear too much risk. Essentially I am paying rent instead of a mortgage. After that, I am buying the house and keeping a cash flow instead of sending money to a creditor.

And I totally understand where you are coming from about the region bias; I live in the midwest so housing costs are pretty reasonable as opposed to the coasts. I'm sure there are situations where leverage early on may be a good idea, but from what I've seen in my given area, this is simply not the case. I'm working on gathering information, real numbers, and crunching everything. With housing values and rent costs where they are, it is definitely advantageous to save for a 100% down payment, assuming emergency funding is in place and retirement saving is not sacrificed.
------------------------------------------------------------------------------------
As far as the whole 'leveraged investing' idea, that is completely coming to risk preferences. Both strategies have their benefits, but having a mortgage definitely causes risk to rise. There is a compensation for that additional risk, however that compensation is completely dependent on market conditions which cannot be controlled. Yes, with a long-term investment horizon, the risk is looking good, but with a steady cash flow for a long-term investment horizon there is benefits as well.

So it comes to picking your poison: mega-risk with some compensation, or steady cash-flow.

I do not under estimate the risks of paying for a house 100% down. Again emergencies can be covered, retirment is taken care of, and housing value flucuations will always be a market factor regardless of the chosen strategy.

Also, everyone is basically saying (or implying) that buying a house 100% down with a large some of cash resources comes with risk because you forgo the opportunity to invest that money for gains. This is simply not true. This is not "risk" that I would be taking on; it is "opportunity" cost. Both methods of purchasing a house carry opportunity costs. For the borrower, it is not having a larger cash flow which has some freedom and flexibility. For the purchaser, it is the cost of not leveraging for a larger gain.

For the record, I am really enjoying this discussion. It is extremely thought-provoking!

[jpg7n16]

Where I am coming from is a risk standpoint.

Which is why I said above:

It's all about risk tolerance.

I think the whole "not having $200,000 in liquid cash" argument is very short sighted. The person who has no mortgage has cash flow on their side.

??

If I have $200k in cash, and want some more cash flow, I can just withdraw my cash.

And by no means do I suggest not paying off the home to keep in liquid cash. That destroys the whole advantage. Don't pay off the home, and don't keep it in cash- keep it invested in stocks.

They will be able to systematically invest and take advantage of dollar cost averaging, which has significant effects to building an investment.

But the person with $200k investments has a huge headstart on balance, and can reinvest dividends to achieve dollar cost averaging.

If you avoid $1200/month with no mortgage you start with $0 and can DCA $14,400/year. If you have a mortgage, and invest, you start with $200k and DCA $8000/year of dividends.

So not only do you get the growth potential, you also get DCA benefits.

Not having the $200,000 in liquid cash because I bought the house for cash is mute because I will have an emergency in place already.

We're not talking about holding cash here. We're talking about holding investments in addition to the EF.

Taking out the $200,000 mortgage and investing the cash is the same thing as leveraged investing. Person B is borrowing money at a 10% return, which generates a 7.25% after-tax return (10% - (1 - 25% tax rate)). After taking out the 5% cost of debt, that is 2.25% which will not even cover inflation. Person A will have taxes and inflation, but no cost of debt to worry about.

That's exactly what we're saying. It's very leveraged investing with a very low cost of capital. If the mortgage was charging 8-10%, the stratgey would make no sense. But since the mortgage is only charging 3-4% after tax deduction, the strategy makes a lot of sense for those who have enough risk tolerance.

This is a really interesting topic because the number we're using are fudged first of all, and secondly it will depend a lot of where everybody live. I live in Appleton, WI which boats a very low cost of living. If/when I move back to my hometown of Saint Cloud, MN, I will be dealing with similar costs of living. As for someone who lives in New York or Ann Arbor, they have totally different stories.

The amount of money doesn't matter. The interest rate spread is the only thing that matters.

An investor with a $100k house, $200k house, $500k house, $1000, or $1 - all will come out ahead if they are only paying a tax deductible 5% and earning a taxable 8%.

And don't think that 'only 2% is nothing.' It can easily amount to several hundred thousand over 20 years.

And inflation is irrelevant, because we're talking about a profit you could not have otherwise.

Taking the riskier interest rate spread: earns 8% on investments, costs 5% on interest = gains 3% minus inflation.

The other person earns 0% on investments, pays 0% on interest = gains %0 minus inflation

And 3% minus inflation > 0% minus inflation.

I will have to do a more thorough analysis based on REAL numbers. Also, we should take into consideration that mortgage rates will not stay this low.

They will stay at whatever rate you can lock in today. As I mentioned above, there is no point to paying 8-10% on a mortgage and taking risk to try and earn 8-10%. But to only pay 5% and take risk to earn 8-10%... there's something to that.

But that situation doesn't exist today. Many are able to find mortgages at 4-5% today, so that's what we should evaluate.

Ultimately it comes down to this: Person A will have an opportunity cost of buying the house with cash while Person B has the risk of losing on an arbitrage deal. Really, there is no easy answer.

Exactly it's all about risk tolerance

If a group of people each has $200k available:

The people who can tolerate the risk should take a mortgage and invest. People who can't tolerate the risk should pay cash for the home and invest from cashflow. And the people who aren't sure if they can tolerate it, should pay cash for the home and invest from cashflow.

If you're not sure you could handle the risk, err on the less risky side.

(Or pay half down and invest the other half - that would work too)

[LivingAlmostLarge]

Something bothered me about the littleroc and dcze calculations. NOT apples to apples. I can't do the numbers I'm too tired so nerd crunchers have fun. Here's another wrench to calculate.

Year 1 take $10k and put it into Roth IRA, and $190k in mutual funds. Then second year harvest losses or sell gains for another $10k investment. Annually for say 30 years calculate what the tax benefits will be putting in $10k also on January 1st of every year.

The person investing the $833/month is not going to get a 8% for 30 years probably more like 29. After all monthly investing does not necessarily make it better than once a year lump sum investing which can also be considered dollar cost averaging, but annually.

Hence a lot of people invest in IRAs once a year and put in the maximum. So how would the taxes be different if you contribute some of the $200k hypothetical into a Roth as well.

[humandraydel]

The amount of money doesn't matter. The interest rate spread is the only thing that matters.

You might as well give up. You already pointed this out when you said (paraphrasing) "I don't have to run the numbers to know that a 5% return (from mortgage) is less than an 8% return (from stocks)."

It seems some people are so excited by the idea of not having a mortgage that they refuse to see (or just don't understand) that it is not always beneficial to pay off a mortgage. Personally, I actually feel "safer" by having $200k in the bank and a $200k mortgage than I do owning a house and having $0 in the bank.

[humandraydel]

And inflation is irrelevant, because we're talking about a profit you could not have otherwise.

I know what you mean here, but I would actually go the opposite direction. Inflation is VERY relevant. Let's say we go back to the inflation of the late 70's. The person with the 5% mortgage earning 15% on $250k worth of bonds will be MUCH better off than the person with no mortgage and earning 15% on $50k worth of bonds.

In other words, in times of high inflation, having a mortgage is good, because inflation literally inflates away the value of the debt. A mortgage is a good hedge against inflation.

[dczech09]

In other words, in times of high inflation, having a mortgage is good, because inflation literally inflates away the value of the debt. A mortgage is a good hedge against inflation.

Just for clarification, you are refering to higher gains in the stock market due to inflation, right? If so, then I could see how inflation would be relevant. However I would still argue that the inflation would effect both people the same. Both people are investing (one with a lump sum, the other with systematic investments) so both would reap said benefits. Same would go for housing market inflation. The inflationary increase for housing values and stock investment values will only increase as much as inflation, so really this is a wash when you look at it from a purchasing power standpoint.

You mentioned that inflation inflates away your debt. This is one of the biggest myths taught in academia. The truth is that inflation will not benefit the cash flows of either person; however the person who's cash flow is already hindered by a mortgage payment will be affected more so by inflation than the person with no mortgage payment. The only way inflation will not have a negative effect is if cash inflow increases more than inflation.

I know LivingAlmostLarge mentioned the Roth. That is a very good point; that would definitely change the tax calculations. Lets look at how this would benefit the lump sum investor over the monthly investor. Based on a 10% return, we're talking about a $580 additional benefit to the lump sum investor which is around $17,000 after 30 years. That is some benefit, but really not much when we're talking about $1,000,000+ over a 30 year investment horizon.

Like we already deducted, its all about risk tolerence. There is no real mathematical difference aside from the mortgager making a bit more due to accepting more risk (which really they should be getting compensation for, so that only make sense).

[littleroc02us]

investing which can also be considered dollar cost averaging, but annually.

Hence a lot of people invest in IRAs once a year and put in the maximum. So how would the taxes be different if you contribute some of the $200k hypothetical into a Roth as well.

That is true, but I was basing it on the posters hypothetical situation where he was claiming to put the 200k into investments right away and never again for 30 years. The calculations I did are accurate, but they don't account for the million variables that can happen in life and Risk which would favor the cash payment for the house theory 100% of the time.

[littleroc02us]

You might as well give up. You already pointed this out when you said (paraphrasing) "I don't have to run the numbers to know that a 5% return (from mortgage) is less than an 8% return (from stocks)."

It seems some people are so excited by the idea of not having a mortgage that they refuse to see (or just don't understand) that it is not always beneficial to pay off a mortgage. Personally, I actually feel "safer" by having $200k in the bank and a $200k mortgage than I do owning a house and having $0 in the bank.

Actually that's completely not true, I just have a lower tolerance for risk then you do. So by me wanting to pay off my mortgage, having my emergency fund in place and piling up cash because I don't have payments and investing for retirement to make a few million isn't such a bad choice to make since I wont asleep at night worrying about losing my job or being foreclosed on. By the way, why would you keep 200k in the bank making nothing?

[Snodog]

......