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« Review: The Drummer Boy by Ted Dekker | Main | Do You Do Stupid/Risky Things that Jeopardize Your Financial Future? »

October 30, 2006


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"2. What if the interest rate increases? For holders of variable-rate loans, the interest rates can (and do) go up."

This is perfectly applicable for a HELOC or other interest-only loan, but it won't make an immediate difference on a traditional 15 or 30 year loan. The maturity date will inch closer but the monthly obligation will remain the same. If someone doesn't have at least six months of liquid savings he is locking his money up to pay down the mortgage, given the transaction costs to draw out funds. Keeping a zero-balance HELOC reduces the transaction risk.

The only good thing I can say about paying down a mortgage early is that it has a guaranteed return. It might makes sense during a bear market, but I would rather bulk up on cash during such times in order to buy stock when others panic. Sinking money into the mortgage isn't bad per se, but it may truncate opportunities.

I may have written here before, but I think a healthy net worth statement is one where liquid assets exceed the outstanding balance on the mortgage. In other words, you could pay it off, but the numbers validate the choice to let your investments ride.

It's important to keep in mind your overall risk profile. If your stock investments are in highly volatile areas, reducing your real estate leverage might make sense. If you invest in low-risk items, a little extra risk via real estate borrowings may bring you up to your risk preference. There's no right or wrong answer. The author here has a very very very low risk tolerance. Other people are different. I suppose that's why this is one of the more disputed posts.

Yes, if the difference is only a certain 5% or a variable 6%, than even I would recommend paying it off, but if it were a certain 5% versus a variable 10%, I would strongly resist. Too many people fear volatility though, and after they have paid it off, only want to buy tbills. Paying it off plays to their fears, not their hopes.

I can see both sides of the debate. Yet, I just want to point out a possible conflict in the advise being given by many in regards to guarunteed returns.

Many say to prepay your mortgage because, for one reason, it is a guarunteed return (e.g. 5%-6%) versus risk stock market returns. Yet, in the next breath on where to invest long-term, they suggest being in the stock market due to the greater returns over the long-term. For a 30 year old paying off a 30-year mortgage in 25 or so years, I see this as a long-term horizon, so how should we reconcile this advise?

Now, this is different than a 50 year old prepaying his mortgage because he should be starting to invest more conservatively for retirement.

Another reason why I don't like this advice is we're always trying to get young people to invest. If they spend several early adult years prepaying their mortgage, they're forfeiting those years of compounding, if variable, interest by not having their investments in the market. As you know, this massively impacts long-term net worth.

Remember the interest saved on the mortgage is also compounded (if not spent).

This is true, but less large than the forfeited compounding in higher earning interests. There are also other effects, such as inflation _helping_ you as the mortgage ages, versus hurting you whey you pay ahead with pre-deflated dollars, etc. I have a post on my blog that discusses investing versus paying down a mortgage with worked examples.

I agree that this is one of those emotional versus financial issues where emotional people should probably follow their gut, but the finances can't be disputed - mortgage paydown is not the optimal financial use of one's potential savings.

For the most part, I agree. If you are sitting on extra cash that you don't have earmarked for something, go ahead and pay off your mortgage. However, be sure to check your rate first. If you're mortgage is at 6%, your tax rate could make this really under 4%. Meaning the benefit from the tax deduction of the interest could mean you are effectively paying 4%. So if you are earning 5% in a savings account, it might be worth while until the two rates cross each other and the savings rate is lower.

In any event, kudos to you for being debt free. It must feel good!

Accelerating the payments on my mortgage was a no-brainer. Had a 8.75% fixed interest rate. Could have refinanced at a lower rate, but the costs were a serious consideration.

In the end I turned a 30-year mortgate into a 12-year mortgate. Perhaps I could have made a few bucks more in the long run (sometime in the future) by refinancing at a lower rate and investing in the stock market. But not having to write check to the mortgage company every month is well .. "priceless".

One big thing to remember -- NEVER pay a debt off using money from your "emergency account". It may feel good to be out of debt, but emergencies happen, and can leave you far deeper in debt.


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