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February 06, 2006


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I can respect the pay-early viewpoint, even though my preference is for higher yielding investments, but what really tipped me off in the article is the oft-quoted advice to plan for 70-80% of your expenses in retirement. While this may work as a patchwork plan for someone in their 50s I think anyone under 45 should budget retirement with 120% of their present income, adjusted for inflation. I suggest this for two reasons:

1) In all things planning, it is wiser to aim high and settle low if circumstanced demand it
2) It is much more motivating to think of living well in retirement, versus cutting back and hoping that inflation and medical expenses don't derail the plan

I'm not a financial advisor, and this shouldn't be construed as such, but in my many consultations with professionals they consistently disparage the 80% rule for retirement. I think it is misleading for older persons and sets a low bar for the young.

I think the key to the article is this:

'You might sleep better knowing you're paying off your mortgage.'

Amen. I do.

This question always causes me trouble. I am never sure what I should do about my mortgage. I am 29 years old and my rate is only 4.875%, so on one hand I should just take the extra money and put that into my Vanguard account. I think that is probably best for me to do...then my extra $200 a month has longer to grow, but I have also always been told to pay a little extra to shave years off my mortgage. What a difficult decision.

I am in mid 50s. I owe only 25000.00 on my house.I can no longer deduct the interest on my taxes. I am already putting 18% of a 58000.00 income in my 401k. My spouse is putting 15% of a 30000.00 income in her 401k. Should I pay off my house?

Randy -- Did you read the entire article (the one I linked to at the start of the post)? I think that may answer your question for you.

I think payng off your house is one step of the building wealth process. Once you paid off all your other debts, save at least 15% towards retirement, then work on paying off your house. You then have more to save more importantly you reduced your risk. "The borrower is slave to the lender." Only a small percentage itemized on their taxes. Best to be debt free.

It's worth mentioning that, even when one comes into a sudden windfall, it always makes sense to run a lot of different scenarios on paying off a mortgage. My fiancee recently came into a fairly sizeable inheritance...enough to pay off 80% of our outstanding mortgage. But after comparing the tax situation, our income volatility, and the various automatic-repayment-from-savings scenarios, we've discovered it makes the most sense to pay off only 20% right away, refinance the rest at a lower rate than we're paying today, and put the rest of the inhertance money into a high-yield money market account, using that account to make the majority of the mortgage payments going forward. (Using only the interest from an account earning at today's rates, the portion of our remaining mortgage payment we'd have to come up with out of other income is less than $300/mo. If we make the _full_ mortgage payment out of that account, it still takes longer than the 30-year life of the mortgage to deplete the money. And with interest rates likely to spike insanely high in a few years, projecting 30 years based on current rates leads to a very conservative number.)

Everyone's situation is different, of course. But my point here isn't that this example should be followed precisely, but rather that the optimal solution is very often not the most obvious one, or even one that you'd ever guess before actually doing the math. Most people, confronted with this choice, would go for either "use all the money to prepay the mortgage" or else "don't use any of the money to prepay the all of it". And while neither of those choices is completely _wrong_ (the way something like "buy 120,000 lottery tickets" or something would be), neither of them is the financially best choice either.

Owning a mortgage is an important financial strategy that most people should have as a part of their larger financial picture. Below are 4 benefits of owning a mortgage instead of paying it off early. Feel free to comment on any one of these and I can elaborate in a follow up post

1) A fixed rate 30 year mortgage gives you an inflation hedge. (The bank can never ask you for more Principal & Interest for the mortgage so the payment you make thirty years from now will be significantly easier to make due to inflation

2) Tax Advantage - Not paying off your mortgage early allows you to fully take advantage of one of the largest tax advantages left - mortgage interest deduction

3) Your equity in your home has a 0% rate of return. - The home appreciates but putting the equity in the home has a 0% return. Feel free to challenge me on this - I can go into more detail.

4) Disability Implications. If you have been prepaying your mortgage and you suddenly become disabled, the bank will not give you a free pass - you must still make that payment. Moreover, you will most likely be unable to get at your equity to help pay bills. If you would have instead put the extra money or equity that you were paying to your mortgage into a side account you would have had the flexibility to draw off that money during your disability.

To Aaron: Sounds like your a mortgage broker from or something.

1. How is a fixed rate mortgage "monthly payment" better than "0.00" nothing, nada, zip, zero payment? I don't understand the logic on this one!

2. Tax Advantage. This is the most misleading reason to retain a mortgage. The true value of this deduction is about 20 to 25 cents on the dollar. I'll gladly give you .25 cents for everyday you give me. Heck, I'll give you .80 cents for every dollar you give me. Like me know which account to wire the money too. HE HE

3. Yes, your right, your home does have a 0% rate of return, but the monthly payment you place in a IRA doesn't. How about this. Take a $200,000 @ 6% fixed for 30 years $1199.00 monthly payment = $231,676.00 in interest plus the orginial $200,000 purchased price. Total of $431,676.00. Ok. Let's pay off the same home in 20 years. Reasonable right. Let's take look. Interested paid $143,886.00. Total purchase price $343,886.00. Take that same mortgage payment of $1199.00 per month for 10 years at a return rate of 6% would = $196,491.00 in a tax free IRA. If may tax deduction saves me $2,000 per year over 30, I would have $60,000.

Ok so to recap the numbers.
$200,000.00 Purchase Price
$231,676.00 Interest over life of the loan At 6% fixed
$431,676.00 Total Cost of home
$ 60,000.00 Less Tax saving deductions
$371,676.00 Total cost of home at 30 years

Pay the home off in 20 years.
$200,000.00 Purchase Price
$143,886.00 Interest over life of the loan At 6% fixed
$343,886.00 Total Cost of home- skip tax deductions cause most people can't itemize anyway.
$ 27,790.00 instant savings by paying home off.
$196,491.00 Add money in IRA "Here's the real kicker"
$224,281.00 Total savings and increase.

Oh, I forgot to mention that the home after 30 years would be worth $485,452.49 at a 3% Appreciation year over year. Total net worth $709,733 with a home free and clear for retirement.

4. Disability - Ok If it happens in the first 20 years of my example above I would hope they have disablity ins or term ins in the event of a death to cover the home. If this is the only reason for obtaining a mortgage ot keeping a mortgage then I need to place myself in a bubble free from people and deasease.

My only acceptance of a mortgage and not paying it off early is if you in your career early and you move a lot for upward progression (may want to concern renting) less hidden cost involved or for investments. Now, I do love those tax advantages.


Before you start paying off your house, I recommend fully funding your 401K. For a couple this is up to 30,000 dollars. In this case you can save 30,000 * .25 = 7,500 from the government every year. This does not include the interest that you will get from the investment. Lets say the 401K interest is 6% which will then earn 1,800 for that year. 7,500 + 1,800 = 9,300 saved. If you invested that 30,000 dollars to pay down your mortgage then the govement will take 25% of that 30,000, which is $7500. So instead of gaining 9,300 you lost $7500. This is a total of 16,800 dollars of lost revenue for that year. That lost revenue is greater than one half of the initial 401K investment.

People talk about paying down the mortgage for security reasons. On the surface this sounds nice but in actuality it is not. Unlike other investments, Your home value will increase no matter how much you owe on it. So paying down the mortgage does not improve the home gain. Also, you still have to pay the mortgage and interest payments until you completely pay it off. If you pay 1/2 of the loan the morgage and interest payments do not change. Lets say you are at 1/2 of the loan. You then lose your job. There is no bank in the world that will let you refinance the remainding of the loan, because you do not have a job. Also you cannot get the money out of the house because you do not have a job. You will only be forced to sell and move for the money placed inside the house. If the money was in a 401K then you could cash it out (yes you would have to pay penalties but at least you will have cash and a home.

I know this works because I now have enough money in the 401K to pay off the house. The 401K is continues to earn interest and the House has doubled its value.


Rather interesting comments. I am old enough to have the honor of having a mortgage rate of 14% at one time. Also have been through times where money markets were paying over 10%.

There is a great warm fuzzy feeling one gets from owning their home free and clear. However, with interest rates being in the 5-6% range for 30 years right now, that is extremely cheap money. Factor in the inflation rate and then the tax savings and a mortgage isn't such a bad thing to have.

For those disciplined enough and having an understanding of investing where returns are higher than 6%, it makes sense to use the money for other investing opportunities as opposed to having money sunk into one's home which realistically isn't an investment at all.

Now of course, if you aren't good with money and you come into a windfall, the wisest choice very well may be to pay off your home. At least you will have that.

We just bought a house with a 15 year note. We only financed $78K because we put a substantial amount down. We have recently sold an acre of land that was adjacent to our primary residence. We plan to retire in 4-5 years. Is it better to pay off the mortgage and avoid any interest on the loan or should we keep the mortgage and deduct the interest?

Gale --

That's the issue being debated here -- which is better.

Much of the issue depends on your specific situation, goals in life, ability to save (not spend) the difference if you choose not to pay off the mortgage, etc.

Anyone else with any thoughts?

I go round and round on this myself.

One thing I see rarely mentioned is that retirement money is pretty much safe from any outside forces - bankruptcy, lawsuit, etc. While so many people find comfort in paying off their mortgage, I do not. My mortgage is 90% of my net worth, we have equity 3 times our mortgage, and we are young. To me it seems a waste to tie up so much of our net worth in the mortgage when someone can trip in front of our house, sue us, and take all our hard-earned savings. In retirement I feel it is a lot safer.

Plus tax-deferred retirement funds (As mentioned) are a total different animal than other investments. My tax rate is currently only 15% so I would not dream of putting a penny to my mortgage unless our ROTHs were fully funded. not only do I expect at least an average 8% over the long haul (vs. my 5% tax-deductible mortgage) but when I Withdraw it, it will be completely tax free. If we had 401ks I would fully fund those best I could as well.

I think youth is a huge factor. Our investment horizon is far and I have none of the concerns that we will owe money when we retire. Even if we take 30 years it will be paid at 52. We are only 5 years in our mortgage and I only expect our income to increase and that we will indeed pay it off early. But focusing on it now without a lot of liquidity, retirement and investments does not seem like the smartest choice for us.

I think as mentioned, not looking at it from an all or nothing perspective is important.

If I had a windfall, frankly, paying off the mortgage would not be my first choice. We have talked of cashing out our equity and moving somewhere cheaper. KEeping a mortgage would buy us greater wealth, liquidity and flexibility. I have never had any sort of consumer debt and despise debt, but I just feel a mortgage is SO different. Instead of feeling like a chain, at these rates anyway, it may just buy us an relatively early retirement. I may feel differently if I did not have such a significant amount of equity in such a short amount of time - I know for me that is a big factor. I notice that when this discussion comes up that those of us in high COL areas are usually more weary of prepaying too early (and have much equity). I think it just has a lot to do with putting all of our eggs in one basket.

We have payed down our mortgage significantly in the past and I actually regret it today.

We are on 1-income now and save 25% which doesn't even max our ROTHs, but when we are back to 2 incomes if we both had 401ks, we could save about $50k/year tax-deferred. As long as we have a lot of retirement options, I think we will take advantage. not that we will make the $50k limit, but if we could pull it off would be huge. & if we ever make the limits and have money to spare, then yes it will be worthy to prepay the mortgage, indeed. It's on my list, it's just dead last on my list right now.

To Rod:

Your calculations use a flawed assumption. You advocate paying off the mortgage in 20 years, but do not take into account that the monthly payment would be $1433, that is $234 higher that the 30 year monthly payment. You also note the homes value after 30 years and that it would be owned free and clear for retirement. That is irrelevant as the appreciation would be the same and the home would be owned free and clear after 30 years for both of your secenarios.

A different analysis would be to compare the assets of two homeowners after 30 years.

Owner 1 with a 30 year mortgage
$1199 monthly payment
$234 monthly savings (difference between 20 and 30 year monthly payment)
$103,184 in savings after 20 years at a 6% rate
$221,758 in savings after 30 years at a 6% rate.

Owner 2 with a 20 year mortgage
$1433 monthly payment
$0 monthly savings (all his money goes toward the mortgage)
$0 total savings in 20 years (all his money went toward the mortgage)
$226,631 ($1433 savings per month for 10 years at 6% rate)

As you can see both homeowners would end up with roughly the same savings after 30 years, but what about at year number 20? Owner 1 has $100k in savings to use for college expense, emergencies, home repairs etc. Owner 2 has no savings at year 20 because of his higher mortgage payment. Your calculations show that he would have an “instant savings” of $27,790, but that’s not the case. The $27,790 is an unrealized difference between the total cost of the two homes used in your example. The tax savings for the 30 year mortgage would also be roughly $15 to $20 thousand (depending on the tax bracket) more than the 20 years loan

Sell that house if you're single or even married without kids. Live in a hotel room with a kitchenette at less than $100/night including all taxes near your place of employment. No car payments, insurance or utility bills. No home or car maintenance. Plus a free breakfast and a maid. Fresh towels everyday. Free treadmill and ice. Free time.

$3000/month for hotel room


$1200/month mortgage
$400/month property taxes
$50/month homeowners insurance
$300/month car payment
$100/month car insurance
$200/month gas
$200/month utilities
$100/month cable and internet
$150/month home maintenance
$50/month car maintenance
$200/month maid service
$25/month gym membership

Total $2975/month

$25 difference and forfeiting the tax break well worth ridding myself of a major pain in the ass.

I am struggling with the idea of selling my house and taking back the mortgage since the market is so soft now, I am a disabled widow and really can't maintain the property (4 acres)...the house is only 3 years old and I have no mortgage or credit card debt. I already have another place to live so I really don't Need to get a lump sum, also would it offset the capital gains???...When I do the math it seems like a logical plan, is it???

my husband passed away and left a $500,000 policy. I'm 40 have two children ages 9 and 11 ( who have their own 82K in blocked funds. I owe 230,000 on my mortgage and have no other debt my income is 3,400.00/ month. Pay it off or not???? very confused. I love reading all the comments but it seems they all have shorter mortgages, I should also mention the mortgage has just switched to an ARM and it's approx. 25 years left.

Sorry for your loss. First I would put the money aside in a safe, liquid, and interest earning account. My advice is to get educated first on investing and ultimately how money works.

But if you can't wait that long, I would not pay off the mortgage. I would refinance, get the equity out and do an interest only loan for as long of a term as you can (controlling the property for a little as you can). This will separate the equity from the house and keep it safe in your hands.

Then, I would get the max on life insurance, especially since you are the sole provider now. Again, against conventional wisdom, I would try to do all whole life policies for as much as they would give me. The money that you would be saving on your monthly mortgage, you could put into your policies to overfund and ultimately create your own bank. Make sure you have privately owned disability and an umbrella policy.

Best of luck.

BLM --

Check out this link -- I think it was your original question and there are lots of suggestions:

has anyone on this thread considered that your retirement savings may not be safe from the Obama administration ?

they are currently holding hearing on GRA (govt retirement accounts) and looking at taking your money to pay of the federal debt in return for an IOU....

I am seriously considering cashing out a couple 401Ks to significantly pay down the mortgage while I still have the opportunity !

and cancelling all contributions for next year and rerouting that money to my mortgate.

I always thought we would be in a lower tax bracket when we retire... not so sure anymore.

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