Part 3: Should you pay off your home mortgage early?

Overview
This is the third in a series of articles on whether you should pay off your home loan early. In the first article, I covered the importance of considering the opportunity cost, tax consequences, and whether you have other debts to consider paying off first. In the second article, I provided examples of paying cash for your home in only about 10 years with no loan. In this article, I will continue the previous article buy providing an alternative of keeping your funds invested longer before taking out cash to buy your home. A future article will continue this series providing various scenarios for paying extra on your existing mortgage to accelerate payoff of your mortgage debt.

Recap of using a $100,000 mortgage in these articles
For simplicity, I use a $100,000 mortgage in all of these articles. That way you can simply multiply all numbers in the articles by the multiplier that matches your home mortgage. If you have a $200,000 mortgage, then use a multiple of 2 (your $200,000 mortgage divided by $100,000 mortgage of my articles gives a multiple of 2). If you have a $500,000 mortgage, then the multiple would be 5, etc. Just divide your mortgage by $100,000 to get the multiple to use.

Choosing to buy your home with cash
Recall in the previous article that I showed how you could pay cash for your home after only about 10 years of investing. The benefit of doing so is that you never need to have a mortgage and your reward for waiting 10 years to buy the home is a home free of debt. From that point forward, you can continue investing to create wealth for retirement or other plans you may have.

However, using you full investment funds to pay cash for a home would lose the momentum of compounding interest that kicks in strongly at about that same time. In the previous article, I showed how investing instead of making a mortgage payment for 30 years would provide a balance around $500,000 to well over $1,000,000 that would be lost if all funds were withdrawn to buy the $100,000 house. Therefore, another alternative would be to wait until your investments reached a $200,000 balance before removing $100,000 to pay cash for the home. This way the other $100,000 balance would be large enough to continue compounding into a significant sum after 30 years. In fact, waiting for your investments to grow from $100,000 to $200,000 will not take near as long as the first $100,000 did. In the last article, I showed the time it took to reach $100,000 for the different investing scenarios. Here I will repeat those tables and add another line showing how long it will take to reach $200,000 under those same investing scenarios.

When would you have $200,000 to buy the house with $100,000 cash and keep $100,000 to compound?
If $536.82 per month were invested instead of used to pay a 5% mortgage, you would have $100,000 and $200,000 by:

Balance	4%	6%	8%	10%
$100k	13 years	11 years	11 years	10 years
$200k	21 years	18 years	16 years	15 years

If $599.55 per month were invested instead of used to pay a 6% mortgage, you would have $100,000 and $200,000 by:

Balance	4%	6%	8%	10%
$100k	12 years	11 years	10 years	9 years
$200k	19 years	17 years	15 years	14 years

If $665.30 per month were invested instead of used to pay a 7% mortgage, you would have $100,000 and $200,000 by:

Balance	4%	6%	8%	10%
$100k	11 years	10 years	9 years	9 years
$200k	18 years	16 years	14 years	13 years

If $733.76 per month were invested instead of used to pay a 8% mortgage, you would have $100,000 and $200,000 by:

Balance	4%	6%	8%	10%
$100k	10 years	9 years	9 years	8 years
$200k	17 years	15 years	13 years	12 years

What would your 30 year investment balance be under these scenarios?
Here I will show three different 30 year ending balances for each monthly investment scenario. The $0 line assumes you never remove funds from the account to show what the ending balance would have been. The $100k line assumes $100,000 is removed immediately when the funds reach that amount and then the monthly investment is continued through the 30 years. The $200k line assumes $100,000 is removed only when the account balance reaches $200,000 and then the remaining $100,000 is compounded along with the addition of continued monthly investments.

Investing $536.82 per month (a 5% mortgage payment) for 30 years would provide the following ending balances:

$ Removed	4%	6%	8%	10%
$0	372,580	539,244	800,055	1,213,475
-$100k	168,743	227,454	313,878	436,837
-$200k	224,977	328,990	486,482	733,543

If $599.55 per month (a 6% mortgage payment) for 30 years would provide the following ending balances:

$ Removed	4%	6%	8%	10%
$0	416,117	602,257	893,545	1,355,276
-$100k	203,269	274,522	377,408	525,326
-$200k	259,403	376,798	556,195	833,816

If $665.30 per month (a 7% mortgage payment) for 30 years would provide the following ending balances:

$ Removed	4%	6%	8%	10%
$0	461,751	668,304	991,536	1,503,903
-$100k	241,701	325,522	447,221	624,312
-$200k	296,467	427,742	628,606	942,004

If $733.76 per month (a 8% mortgage payment) for 30 years would provide the following ending balances:

$ Removed	4%	6%	8%	10%
$0	509,266	737,073	1,093,566	1,658,656
-$100k	281,769	380,338	523,336	734,159
-$200k	336,099	482,944	705,701	1,053,182

Opportunity cost of both options
Opportunity cost is the difference between what would have been earned by investing without withdrawing funds to buy a house and either the $100k balance or $200k balance option ending balances shown above. For example, in the $599.55 monthly investment table above you see at 8% you would have had an account balance of $893,545. However, if you chose to withdraw $100,000 to buy the house immediately when $100,000 was in the account, your 30 year ending balance would only be $377,408. The difference of $516,137 ($893,545 - $377,408) is the lost opportunity, funds you lost by withdrawing the $100,000 immediately. You can think of this as the $100,000 house costing you $616,137 over 30 years since you paid $100,000 and lost another $516,137 in opportunity cost.

If you chose to wait until the account had $200,000 to withdraw $100,000 for purchase of the house, then you 30 year ending balance would be $556,195. The difference of $337,350 ($893,545 - $556,195) is a much less opportunity loss. However, the house still cost you $437,350 or your $100,000 paid and the $337,350 opportunity cost.

Both of these total costs of your house are much less than taking out a 30 year mortgage with the associated monthly payment where you end up paying several times your home price in interest. You also lose out on the monthly investment and associated compounded balance had you invested the monthly mortgage payment over 30 years instead, as seen in the examples above. If you think about it, purchasing a $100,000 home with a mortgage could cost you well over $1,000,000 and even closer to $2,000,000 with the combined opportunity loss from no investment and the loss from paid interest over 30 years to the bank. Most sophisticated accredited investors understand this fact and wait for this reason to pay cash for their home. They would much rather pur their money to work making more money than give it to a bank in interest payments.

Summary
You can see how having patience to put off purchases and being a debt-free investor can help you create large wealth over your lifetime. I plan to continue this series on paying down mortgages so stay tuned.

Copyright 2009 Ole Cram, President of Marcobe Investments, Inc.

- - - - - - - - - -
Two Investor Learning Resources:
MarketClub is an online charting system with buy or sell signals designed to help traders research and help time getting in and out of trades as quickly and efficiently as possible. Learn more by copying the following URL into your browser: http://www.ino.com/info/69/CD3400/&dp=0&l=0&campaignid=8

INO TV is an online collection of over 500 video trading seminars from some of the foremost experts in their areas, designed to teach new and seasoned traders alike from the comfort of their home. Learn more by copying the following URL into your browser: http://www.ino.com/info/128/CD3400/&dp=0&l=0&campaignid=13

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This article was posted at Accredited Investor Blog: http://accreditedinvestortalk.blogspot.com/

Your feedback is wanted:
Please provide feedback to our generic email at AccreditedIT@yahoo.com on questions you have, ideas for future articles, and any other thoughts that could lend themselves to future articles for the benefit of all readers.

Marcobe Investments, Inc., is a corporation that invests in various oil and gas ventures and refers accredited investors, investment managers, financial advisors, investment funds, and others to the associated oil producer of these projects for their consideration. We are not licensed to sell any interest in a project, nor are we registered advisors.

Disclaimer: This article is provided for educational purposes only and is not meant to be a substitute for tax, legal, financial, or other registered professional advice for your specific situation. Always seek the advice of a professional before making any related decision.

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Part 2: Should you pay off your home mortgage early?

Continuation from the last article
This is the second in a series of articles on whether you should pay off your home loan early. In the last article, I covered the importance of considering the opportunity cost, tax consequences, and whether you have other debts to consider paying off first. In this article, I will cover specific examples to help illustrate some of these points. However, as I said before, you should consult a financial advisor who knows your situation before making a choice on either paying off your mortgage sooner or not.

The total 30 year cost of your mortgage
Assume you recently refinanced or bought a home with a 30 year fixed payment mortgage of $100,000. I used $100,000 for simplicity since the results shown are per $100,000 loan. If you have a $200,000 mortgage, simply multiply the numbers by two. If you have a $500,000 mortgage, simply multiply by five and so forth depending on what your mortgage amount is as compared to $100,000.

The total amount of money you give the lender over 30 years will be shown below at different mortgage rates. The monthly payment against the loan for each interest rate is also provided for reference. This payment does not include property taxes, insurance, etc. that may be included in the total monthly payment for a house beyond just paying against the mortgage debt.

At 5%, the monthly mortgage payment is $536.82
At 6%, the monthly mortgage payment is $599.55
At 7%, the monthly mortgage payment is $665.30
At 8%, the monthly mortgage payment is $733.76

The total amount paid over 30 years at different interest rates for a $100,000 mortgage are:

Year	5%	6%	7%	8%
30	193,254	215,835	239,505	264,150

What would you accumulate by investing the monthly payments instead?
Consider what would happen if you did not get a mortage and took what would have been paid monthly toward accumulating wealth through investments.

If $536.82 per month were invested instead of used to pay a 5% mortgage, the total 30 year account balance would be:

Year	4%	6%	8%	10%
30	372,580	539,244	800,055	1,213,475

If $599.55 per month were invested instead of used to pay a 6% mortgage, the total 30 year account balance would be:

Year	4%	6%	8%	10%
30	416,117	602,260	893,545	1,355,276

If $665.30 per month were invested instead of used to pay a 7% mortgage, the total 30 year account balance would be:

Year	4%	6%	8%	10%
30	461,751	668,304	991,536	1,503,903

If $733.76 per month were invested instead of used to pay a 8% mortgage, the total 30 year account balance would be:

Year	4%	6%	8%	10%
30	509,266	737,073	1,093,566	1,658,656

How can you have a much larger return from investing than if paying a mortgage for 30 years?
When first looking at the numbers above, it makes no sense that a 4% yearly return on your investment can grow a much larger investment balance than a 5% mortgage would cost over 30 years. In other words, how can a lower rate of return on your investment grow much faster than a higher rate mortgage over 30 years?

Keep in mind that the starting point differs for both. For a mortgage, it starts with a balance due of $100,000. Each month, only a very small amount of you payment goes toward reducing this balance with the bulk of the payment going toward interest. However, when investing, your entire monthly payment goes toward accumulating more money the next month. You also get the huge benefit of interest compounding as well. Each month interest is paid on the full payment you put in the previous month and on the total balance of the account to date. So, as your balance grows, so does the amount of interest that is paid to you each month. This is the power of compounding growth.

I wrote a four part series that goes into detail on how compounding is a key tool, if not the most important tool, most sophisticated and accredited investors use as part of the wealth building strategy.

When would you have $100,000 to buy the house with cash instead of with a mortgage?
Consider the fact that consistently investing what would have been paid on a mortgage into investments would allow you to accumulate a balance of $100,000 very soon. You could then buy the house with cash and still be able to continue investing each month. Here is when you would accumulate $100,000 balance.

If $536.82 per month were invested instead of used to pay a 5% mortgage, you would have $100,000 by:

4%	6%	8%	10%
13 years	11 years	11 years	10 years

If $599.55 per month were invested instead of used to pay a 6% mortgage, you would have $100,000 by:

4%	6%	8%	10%
12 years	11 years	10 years	9 years

If $665.30 per month were invested instead of used to pay a 7% mortgage, you would have $100,000 by:

4%	6%	8%	10%
11 years	10 years	9 years	9 years

If $733.76 per month were invested instead of used to pay a 8% mortgage, you would have $100,000 by:

4%	6%	8%	10%
10 years	9 years	9 years	8 years

Opportunity cost of having a mortgage instead of investing the payments
Opportunity cost is the difference between what would have been earned by investing instead of paying a mortgage. To see what the opportunity cost is over the 30 year period, simply look at the table that shows the total mortgage paid at the different interest rates against what the associated monthly mortgage payment would have grown to had it been invested at a specific rate for 30 years.

For example, consider the 5% mortgage which had a monthly payment of $536.82. The total you would pay for the mortgage is $193,254. However, you could have invested that monthly payment instead for 30 years and earned from $372,580 at a 4% yearly return to $1,213,475 at a 10% yearly return. The 30 year opportunity cost the difference which ranges from $372,580 - $193,254 = $179,326 to $1,213,475 - $193,254 = $1,020,221. The range shows the significant loss of earnings that would have been realized if the money had been invested instead of spent on the mortgage. Continue this for any of the interest rates and associated monthly payment shown above over the 30 year period. The opportunity loss ranges are even more dramatic.

Consider buying a house with cash from investments
As you read earlier, your investment account could have accumulated a total of $100,000 on average in about 10 years. If you had saved first to buy the house with cash, then from that point forward you could continue with the same saving plan to again build up your investment account for other purchases or investments. This opens doors for you to continue building your wealth without debt. You will have more options on how and when you want to retire with a paid off house and a growing investment portfolio that would grow to where the yearly returns eventually pay your day-to-day expenses in a short time.

Examples above don’t really consider rent verses owning a home
The above examples don’t take into consideration that you need to pay for some type of housing during the 30 year period of investing if you don’t buy a home with a mortgage. In that case, you would be paying a comparable amount on rent so it could not be invested. However, I wanted to keep it simple and just focus on the opportunity cost of investing verses having a mortgage. Ideally you would have started an investment plan early in your career by renting a cheap place while investing significant amounts monthly into your investment account to where a home could be bought with cash in a few short years.

The above example also do not consider the added benefit of tax deductions on the mortgage interest paid yearly, the capital gains that would be paid selling your investment to pay cash for the house, and other factors for the sake of simplicity. Again, I wanted to keep the focus on the benefits of investing verses getting a loan.

Summary
I don’t want to say that it is best to always pay cash for a home instead of getting a mortgage. I strongly advise working with a qualified financial planner early in your career to look at your long term financial goals. Then divide those goals into a workable plan of action to know what you need to do periodically over time toward reaching those long term goals. However, the information above does show that for some people, building wealth without debt can definitely have significant advantages, especially in today’s environment where credit is bringing down economies around the world. I wrote another series of articles in the past that tells how to get debt free that might also be of interest to you.

I hope these articles help you consider the bigger picture when evaluating a plan of action. Always play out the numbers over time. See what you will gain and what you will lose. Understand why the numbers are what they are. Learn how to use those differences to your advantage.

Next article in the series
The next article continues this series continues this discussion providing several scenarios for payying cash to buy your home. Other future articles in this series will explore scenarios for paying extra each month on your mortgage for faster payoff.

Copyright 2009 Ole Cram, President of Marcobe Investments, Inc.
- - - - - - - - - -
Two Investor Learning Resources:
MarketClub is an online charting system with buy or sell signals designed to help traders research and help time getting in and out of trades as quickly and efficiently as possible. Learn more by copying the following URL into your browser: http://www.ino.com/info/69/CD3400/&dp=0&l=0&campaignid=8

INO TV is an online collection of over 500 video trading seminars from some of the foremost experts in their areas, designed to teach new and seasoned traders alike from the comfort of their home. Learn more by copying the following URL into your browser: http://www.ino.com/info/128/CD3400/&dp=0&l=0&campaignid=13

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This article was posted at Accredited Investor Blog: http://accreditedinvestortalk.blogspot.com/

Your feedback is wanted:
Please provide feedback to our generic email at AccreditedIT@yahoo.com on questions you have, ideas for future articles, and any other thoughts that could lend themselves to future articles for the benefit of all readers.

Marcobe Investments, Inc., is a corporation that invests in various oil and gas ventures and refers accredited investors, investment managers, financial advisors, investment funds, and others to the associated oil producer of these projects for their consideration. We are not licensed to sell any interest in a project, nor are we registered advisors.

Disclaimer: This article is provided for educational purposes only and is not meant to be a substitute for tax, legal, financial, or other registered professional advice for your specific situation. Always seek the advice of a professional before making any related decision.

Find similar articles by clicking the Sphere.com icon below (viewable on blog site only):

Sphere: Related Content

Should you pay off your home mortgage early?

Overview
This is a question that many home owners ask themselves – “Should I apply additional funds toward paying off my home mortgage early or invest this money elsewhere?” There is no universal answer. You should consult a financial advisor who knows your situation before making this choice. However, my intent is to help you consider various factors involved with this decision. This topic will be covered over more than one article in order to provide the depth needed.

Do you have other debts?
If you have other debts, then it may make better sense to apply the extra funds toward paying those debts off first. I wrote a three part series that give insights into what credit card debts really cost you and strategies to remove all of your debts. You can read the first article in the series by clicking here.

Consider the opportunity cost of paying your mortgage off sooner
The opportunity cost of money simply means the difference between the rate off return you could earn by investing in something else verses using the funds to pay down your mortgage. Since money used to pay down your mortgage reduces the principle balance of the loan, you are saving the mortgage interest that would have been paid on the extra amount applied toward paying down the loan balance. In other words, if you have a 6% annual interest rate on your mortgage, then applying an extra $100 toward your loan payment would save paying 6% against that $100 or $6 over a year. Now assume you could have invested that $100 in a fund that paid 8% annually, then you could have earned 8% of $100 or $8 over a year. Since you could have earned $8 and only saved $6 by paying down your mortgage, the opportunity loss is the difference between the two or $2 annually ($8 you could have earned - $6 you saved on mortgage interest).

Consider the mortgage interest deduction
I wrote an article in the past about not buying a house simply for the mortgage deduction (click here to read the article). Bottom line is that you only deduct a portion of the total amount paid yearly on your mortgage according to your state and federal tax bracket. In the article I show how someone in a combined state and federal tax bracket of 40% and who paid $25,000 in mortgage interest would receive a $10,000 benefit ($25,000 x 40%). However, the difference of $15,000 ($25,000 paid on interest - the $10,000 benefit) was paid to the bank with no benefit to you. The lost opportunity cost must be considered for what the $15,000 could have received had it been invested in an investment vehicle that paid a higher rate of return than the interest rate on the mortgage. This becomes an even bigger issue for people with a lower combined state and federal tax bracket.

Assume someone has a combined state and federal tax rate of 30%. The benefit then would only be 30% of $25,000 mortgage interest paid, or a $7,500 benefit ($25,000 x 30%). The remaining $17,500 paid to interest ($25,000 - $7,500) must be considered for the associated opportunity loss.

Consider the benefit of reinvesting the tax benefit received
If you have accurately projected your tax exemptions to reduce taxes paid through the year by the $10,000 or $7,500 benefit (based on your tax rate), then the money saved on paying taxes could be invested for an added benefit.

For simplicity, lets just talk about someone in the 40% combined tax bracket that receives the $10,000 benefit yearly. This person increased his or her tax exemptions to reduce the taxes paid from income throughout the year to equal $10,000. If the person receives a monthly paycheck, then the take home pay is increased by $833.33 each month ($10,000 divided by 12 months). This person can now invest $833.33 each month in some investment and receive additional benefit from the associated return.

A secret of the sophisticated accredited investors
Think about this…You paid $25,000 total in mortgage interest over the year and received $10,000 back as a result of tax deductions. In this case, you paid a total of $2,083.33 each month on interest ($25,000 divided by 12 months) of which $833.33 was returned each month to you for investing. Sophisticated investors recognize this double use of the money as part of their investment strategy. However, they don’t do this just with their mortgage, but when structuring all of their investments. Look for ways of getting multiple benefits from the same dollar.

Next article
The next article will continue this discussion. Stay tuned.

Copyright 2009 Ole Cram, President of Marcobe Investments, Inc.
- - - - - - - - - -
Two Investor Learning Resources:
MarketClub is an online charting system with buy or sell signals designed to help traders research and help time getting in and out of trades as quickly and efficiently as possible. Learn more by copying the following URL into your browser: http://www.ino.com/info/69/CD3400/&dp=0&l=0&campaignid=8

INO TV is an online collection of over 500 video trading seminars from some of the foremost experts in their areas, designed to teach new and seasoned traders alike from the comfort of their home. Learn more by copying the following URL into your browser: http://www.ino.com/info/128/CD3400/&dp=0&l=0&campaignid=13

- - - - - - - - - -
This article was posted at Accredited Investor Blog: http://accreditedinvestortalk.blogspot.com/

Your feedback is wanted:
Please provide feedback to our generic email at AccreditedIT@yahoo.com on questions you have, ideas for future articles, and any other thoughts that could lend themselves to future articles for the benefit of all readers.

Marcobe Investments, Inc., is a corporation that invests in various oil and gas ventures and refers accredited investors, investment managers, financial advisors, investment funds, and others to the associated oil producer of these projects for their consideration. We are not licensed to sell any interest in a project, nor are we registered advisors.

Disclaimer: This article is provided for educational purposes only and is not meant to be a substitute for tax, legal, financial, or other registered professional advice for your specific situation. Always seek the advice of a professional before making any related decision.

Find similar articles by clicking the Sphere.com icon below (viewable on blog site only): Sphere: Related Content