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Should I pay off mortgage with potential looming downturn?

Started by RageCage, November 27, 2018, 11:24:41 AM

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RageCage

Greetings all:

Nobody in my circle is financially savvy enough (or geeky) enough to have a discussion on this so I will throw it out to this crowd:

I live in NY (SALT capped at 10K but pay about 20K!) and have a fixed mortgage rate of only 3%.  We max out all available forms of pre-tax savings and aggressively save all extra money and have zero debt.  Current mortgage interest paid is about $9k a year.  That puts us right on the edge of itemizing or taking the standard joint deduction for the upcoming tax year - we won't really know until numbers are crunched in March or so.  I have a relatively conservative investment portfolio that is flat for the year.  With the possibility of a major market downturn, should I just use that money and pay the whole thing off?  I could then "rebuild" the portfolio back up with the monthly savings.  Certainly would be a good peace of mind thing as I look to exit the workplace in the next 3 years (or may even get laid off based on the shrinking industry I am in).

And yeah In know this has been asked before but the twist of the new tax structure and possible downturn is just enough of a difference to ask again.  Thanks in advance for your thoughts!

RC

Jon Sharpe

Given that you are getting ready to exit the workplace in three years, then I would go ahead and pay it off. It will give you a lot of flexibility and allow you to dollar cost average back in over the next few years. This assumes that you have a healthy 6-12 months of liquid assets available in case you do get laid off. If you don't, then I would NOT pay it off and keep the money as your emergency fund.

RageCage

Thx for the input.  Even if I pay it off I have enough money to live on per year until I turn 60 (or later) and can touch the 401K.  Add in the wife's current salary and pension @ 55 and we probably have way more than we spend today.

It's really a question of if there is something I am not thinking of or the math just points to a "no-brainer" investing in a higher yield investment rather than paying off mortgage.  I already have a rental property but don't want to expand that or go the RE crowdfunding route based on the recent Realty Shares shutdown.  I'll probably just pay it off by end of year...

Cheezus

The math on a 3% mortgage would almost always point to keeping the mortgage and using the funds in investments with higher returns.  That's a VERY low rate.  Isn't 3% below the current 10 year treasury bond?

I'm usually totally in favor of paying off the mortgage, but at 3% if does add a little apprehension.  Tough question.  Based on your comment about your financial situation and having more than enough funds available, I think I would lean towards whacking the mortgage then dollar cost averaging back in to the market.  But I'm not sure I'd do that BECAUSE of a potential downturn.  You want to avoid the trap of trying to time the market.

But you may want to pay it off just for that peace of mind.  Obviously you are thinking about it!

Sorry, it's hard to give a great answer.  But simply.  It's not generally "smart money" to pay off a 3% mortgage.  However, based on you exiting the workforce, planning ahead, and even just peace of mind, it's not a bad idea, either.


jekamom

How about you split the difference?  Put the money needed to pay off the mortgage in something safe.  Keep on the plan for savings and make sure there are no crises.  That way at 59 1/2 or so you can see where you stand.  So you miss a tiny bit of mortgage interest deduction--but you can hedge. 

My mother's way to have peace of mind (she lived in hurricane south florida) was to keep enough money in the bank (probably earning just a little) so she could evacuate from a direct hit and be able to pay cash for a new home instead of waiting for repairs. It wasn't agressive, but she knew she could make up a little of the difference by being able to make a cash offer on a new place and be ahead of the crowd (and price increases).  It gave her alot of peace of mind. 

We have a 2 7/8 mortgage--wont pay it off a minute early!  (but I may put the $$ in the bank to pay it if I feel like I need to hedge the risk).

Do what gives you the most peace.


Sam

3% is a sweet rate. You can earn 3.1% RISK-FREE now with the 10-year treasury bond, hence, I would say there's no need to pay it off quickly.

You hurt your liquidity situation until you pay it off in full, b/c even paying it down 50% will still leave you with the same mortgage payment, but more trapped liquidity.

Check out FS-DAIR: https://www.financialsamurai.com/pay-down-debt-or-invest-implement-fs-dair/
Regards,

Sam

surpass

I basically posted the same question here not that long ago with an even lower mortgage rate.  May be worth a read to see other's comments:

https://www.financialsamurai.com/forums/financial-advice/pay-off-mortage/

mbb_boy

No way. You can get 2% in a savings account - the incremental return on paying down your mortgage early is 1%. Plenty of investment options to get to 3%, including treasuries.

Also, if you're looking at exiting the workforce or even getting laid off.....do you REALLY want to lose all that liquidity by putting it into an asset that you can't easily get cash out of?

And of course, the "potential looming downturn" that's been predicted for the past 4 years is a terrible justification.

NYFamilyof4

I have a 30 year fixed at 3.375% and am not paying it off.  After accounting for mortgage interest rate deduction (I will still itemize vs. standard deduction), the risk-free rate is at worst the same.  Since rates are just about a wash, you look to the other benefits when deciding whether to pay it off.  The other benefit of paying it off is being debt free.  This is outweighed by the benefit of having LIQUIDITY when you don't payoff.  If you put the cash in risk-free assets, you have the comfort of knowing you could pay off the mortgage whenever you want with the security of having the cash if something comes up along the way.  The key is to stay disciplined with the cash. 

I'd rather have a $1m 30-year fixed rate mortgage and $1m in cash then no mortgage and no cash. 

Cheezus

Quote from: NYFamilyof4 on December 02, 2018, 03:33:31 PM
I have a 30 year fixed at 3.375% and am not paying it off.  After accounting for mortgage interest rate deduction (I will still itemize vs. standard deduction), the risk-free rate is at worst the same.  Since rates are just about a wash, you look to the other benefits when deciding whether to pay it off.  The other benefit of paying it off is being debt free.  This is outweighed by the benefit of having LIQUIDITY when you don't payoff.  If you put the cash in risk-free assets, you have the comfort of knowing you could pay off the mortgage whenever you want with the security of having the cash if something comes up along the way.  The key is to stay disciplined with the cash. 

I'd rather have a $1m 30-year fixed rate mortgage and $1m in cash then no mortgage and no cash.

If you have a paid off house, you should have a HELOC as your emergency fund.  What kind of liquidity are you looking for?  I don't want $1M in cash, period.  That would be silly.  Money you put in to investments is not risk free. No such thing.  Where I live, your homestead is protected.  Your $1M in cash is at risk of a judgment.  It can be frozen.  It can be seized.  If you invest that $1M in treasury bonds, you are putting your funds at risk to break even?  Why?  A creditor can take your bonds and you still have your mortgage.  For liquidity that you could have from a HELOC?!  Why would you do that to break even?

NYFamilyof4

I welcome the feedback.  Although I was using an extreme to make a point: I would not want $1m in cash just sitting around.  At the same time, I would not want to rely on a HELOC for emergency funds.  Why pay off a loan just to have to take out another loan?  As with most things, somewhere in the middle feels about right when allocating excess cash between liquidity funds and paying off your mortgage.  Using Sam's FS-DAIR formula is as good as any.       

If you are worried about creditor judgments, get a good umbrella policy.  I would also note that the homestead exemption provides limited equity protection in NY.  I would check your state because your home equity could exceed the state exemption limits.  And, there actually are risk-free assets.  If you lose your principal in treasury bonds or FDIC-insured CDs, your fully paid-off home better be in a bunker.

Cheezus

Why pay off a loan to just take out another loan?  That's missing the point.  It's an emergency fund.  Ideally, you would never actually use it.  But that's the point of an emergency fund.  To have quick access to funds in an emergency.  You don't need cash to do that.  Credit cards/HELOC is more than adequate.

When I say treasury bonds are not without risk, I'm referring to creditors.  To be clear.  I'd agree that the risk of an investment loss with a bond is about as risk-free as you can get.

A good argument could be made to put funds in to higher risk purchases like index funds.  But to keep the money in bonds with a similar return as the mortgage payoff makes no sense to me at all.

Where I live, the homestead protection from creditors is unlimited.  Umbrella insurance isn't a bad idea, either.  But this still goes back to my point.  If receiving a similar ROI, why not take the asset protection (if available) by putting the funds in to your homestead?  It could be a bankruptcy, among other things, not just running over a jogger in your SUV.

NYFamilyof4

If my state had the same homestead protection as yours, we'd be in an agreement. If you take that protection out of the equation (as it largely is in my state given home prices in the area compared with exemption caps), I'd rather have liquidity and flexibility all things being equal on rates.

Cheezus

I'd agree with that.  I wouldn't have paid off a house like mine if it weren't for the asset protection laws in my State.  I have FIRE money protected in my homestead.  That has a lot of value to me, and for me it was a guaranteed 4%+ ROI, too. 

LVITBR

I'm really going deep into analysis paralysis with my own situation on this one.

We plan to sell the house, relocate, downsize, and retire in the next 10 years.  I'm in the unfortunate situation of seeing my income decrease when it should be increasing, due to industry dynamics.  It's tough to change industries in your late 40s.  We have $450k left on our mortgage at 4.1% / 30 year fixed.  If we pay it off now, we kill $150k in interest over the next 10 years, and free up cash flow.   

Due to $10k SALT cap, our itemized deductions will be $30k if we keep the mortgage.  Otherwise they'll be $24k with the standard deduction.


RageCage

After starting the topic and seeing the responses, it is clear that there really is no right answer.  With that said I have decided to pay it off right after the start of the new year.  I have always daydreamed about the peace of mind that my largest (and only) debt is gone and want to go that route.  Everyone keeps bringing up liquidity but I would still have $x00K in after tax accounts so I don't worry about that.  Just going to spend the next 2-3 years socking away the savings from not paying the mortgage and having an even better stress free attitude at work.  As I mentioned my industry is shrinking (creative destructionism) and honestly I am burned out; the cliche of hating your job but the money is just too damn good and at my age I won't get it anywhere else.  Knowing I don't have to be stressed or grovel/do anything to keep the job is worth more than any additional revenue the "longer game" option would provide me.  Good luck and happy holidays!

surpass

I see money as a transfer of energy... I think in your case the energy you get is that feeling of paying it off.  That also has a value and is hard to quantify, but it still has a worth.  You can get that feeling today and not sometime in the future when you pay it off, even if you wouldn't make more money waiting.  Best of luck to you and congrats on paying it off!

Cheezus

Quote from: RageCage on December 13, 2018, 06:35:18 AM
After starting the topic and seeing the responses, it is clear that there really is no right answer.  With that said I have decided to pay it off right after the start of the new year.  I have always daydreamed about the peace of mind that my largest (and only) debt is gone and want to go that route.  Everyone keeps bringing up liquidity but I would still have $x00K in after tax accounts so I don't worry about that.  Just going to spend the next 2-3 years socking away the savings from not paying the mortgage and having an even better stress free attitude at work.  As I mentioned my industry is shrinking (creative destructionism) and honestly I am burned out; the cliche of hating your job but the money is just too damn good and at my age I won't get it anywhere else.  Knowing I don't have to be stressed or grovel/do anything to keep the job is worth more than any additional revenue the "longer game" option would provide me.  Good luck and happy holidays!

Perfectly said.  Smart move.  This peace of mind is almost priceless.