Paying off house, accelerated or not?

[lillyb]

Let's say this is your starting point. You just refinanced your home for 30 years (fixed) and you are looking at the options. Starting at the beginning of the year you will either be paying down the mortgage quickly (4 years) and then start investing -or- you are exploring the idea of investing now and paying the 30 year like a 15 year. You are 34 years old with a goal of semi-retirement at age 55 (to start your own business without worry of income, live off the interest).

Is it better to pay off the mortgage first so you can invest more later, or invest now, less, and pay the mortgage like a 15 year?

Using this calculator http://www.bankrate.com/gookeyword/cgi-bin/savings.asp here is what I come up with:

Just using our numbers and the site's 6.5% compounding for the same.

Pay off house first, start investing about $2200 monthly from age 38-55 will save up about $816k

Paying mortgage like a 15 year allows us to invest about $1500 monthly starting 1/07 from age 34-55 which will have about $803k saved.

About a $13k difference only. How much is saved in interest paying off house in 4 years vs. keeping for 15 years? For ours it would be just over $31k. A total of $44k difference in favor of paying off the mortgage early vs. investing earlier.

Hmm, looks like I just answered my own question. I know, I know, I won't have that tax deduction. I'd rather send the IRS a portion of what I used to send the mortgage lender in interest. It's okay by me. Plus I'd have that added benefit of homeownership, less risk.

So why wouldn't I want to pay the house off first and then be able to invest more heavily? Obviously it wouldn't work if the mortgage couldn't be paid off this quickly and put off investing for that long. Am I forgetting anything else? Thoughts?

[sweeps]

Re: Paying off house, accelerated or not?

Mathematically you'll come out ahead by investing if you believe you can earn more than 6.5% (which is pretty conservative and doesn't even count the tax-deductibility of your mortgage payment).

Having said that, if it were me and I could pay off my mortgage in just 4 years, I would probably do it. In fact, if you're really confident that you can pay off the mortgage that quickly, you would've been better getting a 5/1 ARM which has a lower interest rate than a 15 or 30 year fixed and is locked for 5 years (ultimately letting you pay off the mortgage even faster).

One more consideration: If you have a 401k or similar plan, I would still put in enough to max out the matching contribution.

[lillyb]

Re: Paying off house, accelerated or not?

Mathematically you'll come out ahead by investing if you believe you can earn more than 6.5% (which is pretty conservative and doesn't even count the tax-deductibility of your mortgage payment).

Having said that, if it were me and I could pay off my mortgage in just 4 years, I would probably do it. In fact, if you're really confident that you can pay off the mortgage that quickly, you would've been better getting a 5/1 ARM which has a lower interest rate than a 15 or 30 year fixed and is locked for 5 years (ultimately letting you pay off the mortgage even faster).

One more consideration: If you have a 401k or similar plan, I would still put in enough to max out the matching contribution.

Very good point. I haven't delved into investing yet, so have no clue what a good rate of return is. I admit, I've got a lot to learn. Is why I'm here, yeah. I wonder if the figures would come out close to the same for the two situations were the rate of return be 8% or 9% etc. Will have fun playing with those numbers.

I did try to get the 5/1 ARM with ING. Unfortunately, a past bancruptcy on my history caused them to turn us down. Was able to get a 30 year fixed at 6.75%, which was better than the other offers we received. But thank you for adding it in there, maybe someone reading this can find it useful.

We do have a a matching IRA we contribute to, it isn't much, 3%. Free money I won't turn down.

[Ima saver]

Re: Paying off house, accelerated or not?

I have had my house paid off for many years, and it is a wonderful feeling.

[getforfree]

Re: Paying off house, accelerated or not?

We bought our house almost 2 yrs ago for 205K. Got a loan for 195K at 6.5% 30 yrs fixed. I try to add at least a few dollars to the monthly payment. Not sure if it worth it. We don't have any other debts.

[jmjj215]

Re: Paying off house, accelerated or not?

There's definitely a qualitative aspect to paying off the home vs. investing to get a better spread. I like to think of my desire to pay off our home as giving me 1) financial agility and 2) a higher risk tolerance (because I have a lower cost structure to support). Those two things can pay off in exponential ways in regards to having the agility to start a new venture and being able to tolerate the risk that is inherent with startups.

[cschin4]

Re: Paying off house, accelerated or not?

This is a debate that will always go back and forth. But, why look at it as an "either/or" situation? Take money and max out your retirement funds. And, any additional money you have, put it onto your mortgage principal as it comes. So, maybe it takes you 7 years to pay down the mortgage instead of 4, but you accomplish both goals and either way you win. We added any extra money to our mortgage whenever we had it but had continued funding our retirement plans. Now, at age 41, our mortgage is paid off and we have had time on our side for our retirement plans.

[flash]

Re: Paying off house, accelerated or not?

Take the ARM as low as you can go, pay minimum to get the interest tax break, invest. Then, when the rate spikes, pay it off.

One thing that concerns me, though, is the bankruptcy in your past. That probably needs to be reflected in any planning you do.

[lillyb]

Re: Paying off house, accelerated or not?

There's definitely a qualitative aspect to paying off the home vs. investing to get a better spread. I like to think of my desire to pay off our home as giving me 1) financial agility and 2) a higher risk tolerance (because I have a lower cost structure to support). Those two things can pay off in exponential ways in regards to having the agility to start a new venture and being able to tolerate the risk that is inherent with startups.

Excellent point! And agree with you there.

Take money and max out your retirement funds.

Okay, bring on the wet noodles... gonna ask a really dumb question (hey, I warned yall I'm still learning, right?). Exactly what is maxed out? We already contribute to get the company match on 3% to our IRA at dh's work. Next, I would imagine, is maxing out the ROTH's (it's 4k each, correct?). Is there anything above those?

One thing that concerns me, though, is the bankruptcy in your past. That probably needs to be reflected in any planning you do.

How do you mean? Still learning and would like to hear of things that I'm not taking into account. Thanks!

[Elgin526]

Re: Paying off house, accelerated or not?

Remember that the tax deduction on the mortgage interest isn't all it's cracked up to be.

If you pay $10,000 in interest you get something like a $3500 tax break, more or less depending on your gross income of course, but for this example lets use $3500. So, after the $3500 refund you've spent $6500 in interest. But, if you have no mortgage, you pay no interest, you get to keep that $10,000. I would always rather have $10,000 than $6500 any day of the week and twice on Sunday.

If you have to have a mortgage, then the tax break is a wonderful bonus. But the tax break, in and of itself, is NOT a reason to keep a mortgage!

With the senario you've presented, I'd pay off the mortgage ASAP.

[poundwise]

Re: Paying off house, accelerated or not?


I'll let others address those questions raised, but I wanted to chime in with a thought.

My initial view was to pay off the house. And then I thought about the math of delaying that payoff and investing and was reconsidering the poistion. Still, in the end, my 'gut' said pay off the house. It felt odd to me because I am usually not short-sighted when it comes to financial planning. Then it struck me. A side-by-side comparison of paying the house v. investing v. etc. assumes one thing, the life goes as expected. When does that happen? A serious illness, a car accident, death in the family, etc. and the landscape changes quickly and dramatically. I'd pay off the house. Then invest. If you have the money to pay it, do it and be done.

That's my view anyway. Of course, I do not know all the details of your life or finances, so I cannot honestly say what I would do in your shoes. However, based on what I do know, this is it.

[cschin4]

Re: Paying off house, accelerated or not?

Yes, by maxxing out the retirement I would mean contributing to the things you are eligble for including plans at work and personal IRA. I would not stop contributing to these in order to pay the mortgage. But, I would take any extra money and aggressively pay down the mortgage as fast as possible. I think the mortgage deduction is just an overblown gimmick. To spend $1 in interest and get back 20 cents doesn't sound like any kind of great deal to me.

[jmjj215]

Re: Paying off house, accelerated or not?

Remember that the tax deduction on the mortgage interest isn't all it's cracked up to be.

If you pay $10,000 in interest you get something like a $3500 tax break, more or less depending on your gross income of course, but for this example lets use $3500. So, after the $3500 refund you've spent $6500 in interest. But, if you have no mortgage, you pay no interest, you get to keep that $10,000. I would always rather have $10,000 than $6500 any day of the week and twice on Sunday.

If you have to have a mortgage, then the tax break is a wonderful bonus. But the tax break, in and of itself, is NOT a reason to keep a mortgage!

With the senario you've presented, I'd pay off the mortgage ASAP.

While I agree with the above post, just wanted to point out that you wouldn't get to keep the entire $10000. You'd have to pay taxes on it (because you couldn't deduct it) of 35% (per the example).

[lillyb]

Re: Paying off house, accelerated or not?

Couldn't agree more with the tax break on keeping a mortgage. Overblown gimmick, for sure. No way do I think it's better to send the mortgage lender more in interest to save paying a small bit to the IRS. Yet another reason I'm leaning towards paying the house off early. Thanks all!

[TBH]

Re: Paying off house, accelerated or not?

Sounds like you're in great shape, Lilly! I hope you really can pay off the house that quickly.