Debt sucks.
Homedebtor does not equal Homeowner.
Cash out refi = financial suicide.
Here's a take on why you should strive to OWN a house, versus RENT money from a bank.
Give Your Mortgage the Flick! Why You Should Pay Off Your Mortgage Quickly
This is a simple concept, which is to pay off your mortgage as fast as you can and then invest the amount you were paying off your mortgage into assets which have capital appreciation plus income.
Even though the concept is simple, and will work every time, very few people get a free mortgage calculator and actually do it.
We all have a vague idea about the power of compound interest, but mainly in the arena of generating income - we forget that the same principle applies to the mortgage lenders - they are lending to you knowing that you will eventually pay them over double the amount you have borrowed.
December 19, 2006
Getting out from under the rock - how paying off your mortgage is the best thing you can ever do
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I'm not sure I agree with this premise. Lets say I own a $500,000 house and it's paid in full. Am I better off just watching it appreciate at 3% or should I refinance 100% of it at 6% and get the mortgage deduction along with it?
With the 1/3rd mortgage deduction that's like a 4% loan. If you can do better than 4% with the money (ok make that 5% with a 15% long term capital gains figured in) why not use the free money?
I mean isn't that what's causing all the inflation to begin with? People are overconsuming because the government is freeing up capital by encouraging consumers to leverage up as much as possible? I don't agree with it because it creates the likelihood of a systemic event, but why not take advantage of it.
Personally, I don't think I'll ever put any money into a house. Just refi every few years and throw the money into the stock market. If the government is willing to effectively take all the risk by allowing consumers, rich and poor to be highly leveraged why not play the game, especially if you are not spending the money on stupid sh*t and are actually investing it?
If you really think about it, if housing ever crashed substantially, the government would just take over Freddie and Fannie. In England, the government dictates what the interest rate on loans will be and everyone gets a variable rate. We're probably just one soon-to-be-popping bubble away from that happening here too.
BTW, if anyone has been looking around So-Cal, the housing price to income ratio is exceeding 10 and even 12 in some areas. Totally insane.
BB
The whole idea is leverage a house with the lowest downpayment, and all the equity is yours with the lowest possible investment and greatest percentage return. You cannot argue with that. These are very compelling facts that have been working in favor of smart investors for a long time.
"The whole idea is leverage a house with the lowest downpayment"
No, not any more.
$500,000 house with $0 down. Drops 20%. You're bankrupt.
Get it?
Some people will never be convinced that mortgage = debt.
It also appears by the looks of our anonymous posters that people out there are still looking at their houses as get-rich-quick schemes. It's a really dangerous way to do things, as we're seeing now.
I bought my house a year ago with a plan to pay it off in 7 years. A year into my mortgage and I'm right on schedule. Then, only when I'm free and clear, will I either look at buying an investment/vacation property, or invest in other assets, depending on what the market is doing at that time.
On a 25-year mortgage (because the Canadian standard is 25 years, not 30), at my mortgage rate of 4.5%, my $250,000 mortgage is worth $165,105.01 in interest to the bank. Paying the mortgage off in 7 years, the bank only gets $41,497.14 in interest, for real savings of $123,607.87. Also, my mortgage-term is 5 years fixed, meaning that my mortgage terms need to be renegotiated in 2010. You think I'm going to be lucky enough to get another 4.5% rate in 2010? Probably more like 7.5-8%. So I want my principal to be as low as possible when that happens.
Then, there's the matter of being debt-free 18 years sooner, and the positive effect that has on quality of life. I'll be free and clear when my oldest child is 6. Then, I can start doing stuff on my terms, and I doubt you'll ever see me work a summer again. I could go back to school, my wife could go back to school, or stop working all together. All the heavy lifting is done. I'm not out to make millions of dollars, just to be comfortable through hard work and intelligent buying and spending. And having no debt is the easiest way to achieve that.
Paying off your home as fast as possible is one of the best things you can do. People need to remember that your home is not your business and not an investment, it's a place to live. If you are looking at it as an investment, you need to consider why it's not.
1. Appreciation may not happen at the rate of inflation, or at all.
2. The mortgage interest tax deduction can go away at any time. Last year's congress discussed lowering this from maximums values of $1M to $500k and then eventually $250k. It wouldn't surprise me if this doesn't go away completely in the next few years to find ways to pay for increased government spending.
3. RE is a depreciating asset.
4. REFI money runs out when your home is worth less than what you owe.
5. If your going to use the tax deduction and refi money for investments and not pay off your home, you may as well rent because you will have more money to invest and still never own a home.
The biggest reason I believe people should pay off their home is that in many states a homestead that has not been HELOCed can not be taken away in the event of a bankruptcy. If your home is paid for, you can not lose your home for reasons bankruptcy or foreclosure (can't foreclose a paid off home). It's also great to live debt free.
Personally, I don't think I'll ever put any money into a house. Just refi every few years and throw the money into the stock market.
You would be much better off renting. If you rented, you would more than likely have more money to invest in the stock market and would not have to pay all of the refi fees every few years. Either way, you will never own the home.
The whole idea is leverage a house with the lowest downpayment, and all the equity is yours with the lowest possible investment and greatest percentage return. You cannot argue with that. These are very compelling facts that have been working in favor of smart investors for a long time.
If you did this between 2005 and the next few years you will have negative equity. Not a smart move.
For every borrowed dollar that these folks have spent on a traditional 30 year mortgage, they are spending about $2.30 to $2.40 over the long haul. So, if you bought a house at peak with cash, your loss is just dollar for dollar. If you bought a house at peak with a mortgage, every dollar you overspent will cost double or better over the long haul. It is the Christmas Miracle of interest. It is taking it up sh*t chute, and passing on the anal lube.
"If you paid your mortgage off, it means you probably did not manage your funds efficiently over the years," said David Lereah, chief economist of the National Association of Realtors and author of "Are You Missing the Real Estate Boom?" "It's as if you had 500,000 dollar bills stuffed in your mattress."
He called it "very unsophisticated." (Los Angeles Times Aug 28th, 2005)
David
Bubble Meter Blog
Theoretically, if you can get a higher after tax return on investments than your after tax cost of financing your house...you are better off NOT paying it off. Keep the highest outstanding balance on mortgage you can, taking advantage of the interest deduction. It's basically a very low cost loan.
That being said, it's a great feeling to know that no matter what happens in the stock market, etc.....at least the house is PAID OFF.
"If you paid your mortgage off, it means you probably did not manage your funds efficiently over the years," said David Lereah
I'll always remember that one!
What an ASS !!!
My husband and I want to buy a house cash in about 3 years. I dont care about the write off- its peanuts compared to the monies we'll be saving by not paying mortgage interest.
we just received a notice of the tax re-assessment on this home we rent. I'm forwarding it tomorrow to the owner with his xmas card...we're happy because we have another year lease with no rent increase.
Back to the topic...none of us are covered under prop 13 to protect us from huge increases in taxes as our parents. Todays silly sheeple homeowners (only thinking of the present) dont seem to mind voting in higher taxes when their homes are going up in value. This is bad because the county assessor now has the green light to raise taxes to the moon, having the homeowner vote to pass multiple bond issues by smaller vote pertcentages.
Count me in- paying cash for a home covers those rising costs of owning a home that is beyond control.
People are so stupid. My sister in law had a $180,000 15 year fixed on a nice house. Now that mortgage is a $440,000 30 Year ARM for the same house. She just had to have that SUV, and that remodel, oh yea, the divorce didn't help either.
All that crap she spent money on and she is never happy. Listen honey, money can buy you happiness. Enjoy your debt.
I use to agree with this premise, until I refinanced and threw a bunch of money at it, lowering my 30 year fixed payment to 475 bucks a month. Add in taxes and Insurance, and I'm paying 825.00 per month. In my area, there is no way i could rent a 3 bd 2 bath house for that much. The only problem with this is our personal exemption exceeds the itemized, so it is no longer a tax writeoff. So what, you only get dimes on the dollar and were already saving for another house, this one will one day be a rental, or used to take care of parents. In the mean time, I plan on going sking, kayaking come summer time, family vacations etc. Can you imagine in 15-20 years what a burden this payment will be? It'll wipe out all of our pocket change. That makes me want to play the air banjo again!
I mean isn't that what's causing all the inflation to begin with? People are overconsuming because the government is freeing up capital by encouraging consumers to leverage up as much as possible? I don't agree with it because it creates the likelihood of a systemic event, but why not take advantage of it.
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Tempting fate is not a good idea. What if the life guard runs out of life preservers before he cna get to you?
YoungExec2B,
In Canadia interest is not tax deductible, so your example is meaningless.
Don't you have a moose to play with or something?
1. Appreciation may not happen at the rate of inflation, or at all.
1970 to 2000 median home prices increased by 600% nationally
2. The mortgage interest tax deduction can go away at any time. Last year's congress discussed lowering this from maximums values of $1M to $500k and then eventually $250k. It wouldn't surprise me if this doesn't go away completely in the next few years to find ways to pay for increased government spending.
There will be riots in the streets if this deduction ever goes away. You think messing with Social Security is political suicide? HA, just watch the political career fall of a cliff for anyone who suggests no more mortgage deduction. I can see a cap $500K or something, but that will still leave the vast majority of mortgage interest deductible
3. RE is a depreciating asset.
See 600% in #1
4. REFI money runs out when your home is worth less than what you owe.
See 600% in #1
5. If your going to use the tax deduction and refi money for investments and not pay off your home, you may as well rent because you will have more money to invest and still never own a home.
Assuming you refi 100% of equity each time, yes you are right. But if you only refi say 70% of equity, you're still better of than renting.
For every borrowed dollar that these folks have spent on a traditional 30 year mortgage, they are spending about $2.30 to $2.40 over the long haul.
I agree with you... but this is also assuming that you will have 6-8% interest over the whole 30 years. What exactly are the odds of that now that the American dollar is plumetting.
You have to remember that the interest rate was as high as 17% at some point back in the 1980's - this would mean that on a 30 year mortgage, every dollar borrowed would be more like $10-$20 over the long haul.
The question becomes - how far will the Fed go to save the US dollar. In order to stop the dollar from falling, the Fed will have to raise interest rates so that foreigners will hold on to US dollars - this would mean that the economy in the US will be devestated.
Or... Bernanke will watch the dollar plummet which will keep the economy chugging along. But since the VALUE of the US dollar will be dropping, the cost of oil (in US dollars) will go through the roof. And so too will gold, steel, zinc, electricity, t-shirts, jeans, natural gas, and anything else you need to import.
So - which do you think Bernanke will choose? Kill the exonomy with 35% unemployment rates, or kill the dollar so that gas costs $12 a gallon and $5 for a loaf of bread.
Hmmm... exonomy. I think I just invented a new term.
IB
1970 to 2000 median home prices increased by 600% nationally
That's funny - because the VALUE of the US dollar has dropped more than that in the same time period.
Lemme give you an example - in 1999-2000, the price of oil was $10 US a barrel, while today it is at $60 US a barrel. Guess what... that was a 600% increase in price.
Hmmm... I guess oil is a better investment than your house - since it only took 6 years to rise in price - whereas it took realestate 36 years.
But... these "PRICES" are very deceptive. In 1970, you could buy a loaf of bread for 25-50 cents. A big mac would cost you 20c. So... just as house prices have been rising for the past 36 years - so have all of your costs. In the 1970's - the average American family could save some money - but today, they have to choose between heating or eating.
The fact is - a house is a house. It is of equal VALUE today as it was back in 1970. The reason it has gone up by 600% is because the US dollar has been dropping in value. (mostly because they keep printing more of the stuff)
So yes... if you have excess cash, invest your money wisely, BUY some realestate since it will probably stay the same value over the long run (just as gold and other commodities). But for crying out loud - learn to recognize a bubble and don't invest in it when it's at it's peak.
This goes for houses, gold, tulips, or anything else for that matter.
IB
So, if paying off the mortgage should be one’s number #1 priority, does that mean that people should empty out their 401k and use the proceeds (what’s left after taxes & the early withdrawal penalty) to do this?
Anyone out there care to comment on this?
I paid off my house four years ago. The only monthly budget items I need now is for an accrual for taxes, and property insurance. The use of ones family home as some leverged commodity is wreckless. While I have no problem with owning inventment real estate, ones family home is a consumed commodity, (food, clothing, SHELTER. Its not a leverged speculation, it where I live. Third party ownership with a right of recourse is simply added risk no family should face. Pay cash for your family home, and any other investment is open for leverage. Best insurance one can have.
So a 600% increase in median home price between 1970 and 2000 is not a good investmet because inflation was higher? Uhm yeah sure thing dude.
US HOUSEHOLD MEDIAN INCOME
1970: $8970
2000: $43,318
383% increase
(US Census Data)
Price of an average car
1970: $3,708
2000: $18,684
403% increase
(U.S. Department of Commerce)
Price of average movie ticket
1970: $1.55
2000: $5.39
247% increase
(MPA)
Average 4 year public university tuition, room and board:
1970: $4,200
2000: $12,127
188% increase
(College Board)
What about balance sheets, Keith? Are these useless tools, not suitable to family life? If assets are out of whack, that is also bad management.
What about the lowest risk loan to exist, which is why rates are the lowest? Cheap money is not a bad thing. Try getting $300k at 5% for anything else.
Hey 1 800 PARANOID, are you trying to raise cash to make the monthly nut on that "ass clown, mental midget, I see things as I'd like them and not as they truly are" mortgage you took out last year on the house Bob Toll sold you with a wink and a nod? Were you on drugs when you signed the dotted line or were your parents closely related? Are your feet webbed? Are your eyes a spread out a little far on your face? Did you take the gold in your event last year? Can you spell the word economics? Did your friends call you “Potsy” in high school or are you just really fond of “dem French fried per ta ters”?
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Well, to get some skills in the auction process (since that's probably the method most of the folks here at HP will use in buying a reasonably priced house in the very near future), I say we use a bidding system for your newsletter and opinions.
I'll open the bidding with one slightly stale dog turd.
Signed,
Sparky
(Keith's dog)
Man, this is totally fun!
Anonymous said...
1. Appreciation may not happen at the rate of inflation, or at all.
1970 to 2000 median home prices increased by 600% nationally
Hello genious!!! This blog is about the housing bubble era and not 1970-2000. If your bought your home in 2004-2005 it will more than likely depreciate or appreciate less than the level of inflation. This will make your responses to items 1, 3, 4 and 5 invalid.
There will be riots in the streets if this deduction ever goes away. You think messing with Social Security is political suicide? HA, just watch the political career fall of a cliff for anyone who suggests no more mortgage deduction. I can see a cap $500K or something, but that will still leave the vast majority of mortgage interest deductible
Yes. The mortgage deduction is in real danger. There have been several proposals to replace this deduction with a deduction for health care coverage or just get rid of it all together. Please read this article.
Its definetly a comfort to know your house is all your own ... but here are some problems with that ...
Your own example ... your house was $500K. You put 0 down ... lets say the house drops 20% already happened in many places. You are bankrupt - OK you are not. Your credit is frocked, your fine if you just walk away ... OK you'd get dinged for the 100K forgivance in your taxes.
If you owned that house. It drops 20% - You may not need to sell it, and you can sit tight for 20 years till it recovers, but if you do have to sell in the middle somewhere - you will lose that 100K.
Of course you can do better with the 500K - because interest rates are pitiful, you are better off playing the equities and options side of things among other things.
Diversification is always important. House - best to leave that as a place to live in. Cheapest option is fine. In my case a 150K purchase at 5% on a 15 year straight fully amortising mortgage makes me think I can weather a good sized down turn after 3 1/2 years and no problem if it appreciates either cos I do get to keep the difference. I have lived in it and paid rent for 3 1/2 years (my payments are just under 1% of purchase price - used to be waaaaay under till property tax and crap ate more) and in the process eaten 30K off the purchase price. There is something to be said about not having all your $$$ tied up in 1 place.
Cool.
Cow_tipping.
GREAT THREAD.
IW
So - which do you think Bernanke will choose? Kill the exonomy with 35% unemployment rates, or kill the dollar so that gas costs $12 a gallon and $5 for a loaf of bread.
Hmmm... exonomy. I think I just invented a new term.
**************
NOT TO ASK THE OBVIOUS, BUT WHICH WILL HE CHOOSE, IB?
YoungExec2B,
In Canadia interest is not tax deductible, so your example is meaningless.
Don't you have a moose to play with or something?
Naw, I only play with beaver.
Interest on an investment property is tax deductible in Canada, but that's neither here nor there. Look at the ramifications of moving my example to Americuh:
In my example, I'm saving approximately $125,000 in mortgage interest, but I have no tax deductions.
If I were in the 40% income bracket in the States, the $160,000 of mortgage interest that I would pay would net me a return of $64,000, which is fine.
Paying my mortgage off early in the States saves me $125,000 in interest, PLUS 40% of the $40,000 in mortgage interest that I would have paid, providing an additional $16,000 in savings. So if I were in the States, I save $131,000 instead of $64,000. Last I checked, $131,000 was $67,000 more than $64,000. Also, I'd be able to take those tax returns and make principal prepayments, which would in turn further reduce my balance owing and render me debt free in less time.
You can get into examples of taking out HELOCs to invest in the stock market, which would then make your mortgage interest tax-deductible in Canada, because it technically becomes an investment loan (a favorite loophole of aggressive investors up here), but I'd just as soon not leverage my money twice before I've spent it. Because if the values of your house tanks at the same time as the stock market, your portfolio just turned into a royal mess.
Sorry, forgot to carry the one in my last post. My American example saves me $141,000, not $131,000, so I'm even better off than I first thought.
This is the lesson people have to re-learn once this madness is over:
Paying off your mortgage makes you rich. Not paying it off makes the bank rich.
Can't believe how they were able to snow people with the idea that it was somehow a good thing to keep paying interest on a loan.
The idea that you own your home once you pay off the mortgage is absurd.
In Florida the property tax rate is about 2 percent of assesed value per year. That is about 5 grand on a median value home.
If you have to pay the county over 400 dollars a month just to live in your own home, you dont own it.
Unlike income taxes, and sales taxes, the property tax is not based on your ability to pay. You either pay or the county mafia takes your property. You pay them year after year an ever increasing rate.
You may own your TV once you pay for it but not your house.
"Hello genious!!!"
LOL!
The idea that you own your home once you pay off the mortgage is absurd.
In Florida the property tax rate is about 2 percent of assesed value per year. That is about 5 grand on a median value home.
If you have to pay the county over 400 dollars a month just to live in your own home, you dont own it.
Unlike income taxes, and sales taxes, the property tax is not based on your ability to pay. You either pay or the county mafia takes your property. You pay them year after year an ever increasing rate.
You may own your TV once you pay for it but not your house.
The idea that you "own" your tv once you pay it off is absurd.
I mean, you still plug it into a wall, right? You still have to pay an electrical bill to keep it running, right? You still have to pay for your cable or satellite to get channels, right? Otherwise, it's just a useless box.
Taxes paid support the infrastructure that builds the roads, schools, hospitals around your house. And considering that $5,000 a year in property taxes pales in comparison to what a yearly mortgage payment turns out to be, even if you are able to deduct interest payments.
If that's your view of the whole thing, might as well just keep renting. Nothing wrong with that, a lot of my friends feel the same way you do.
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