Paying off your mortgage early

[IRQVET]

So I was fortunate enough to come into financial security about the time when the RE market hit rock bottom. I purchased my first house, held onto it for 7 years, road the housing wave skyward, and sold it making a $170K profit. Then I moved out of state where the housing market is not as strong as where I came from, although in the 3 years I've been here my current house, the value has risen 60K +/- as the market fluctuates.

I'm currently locked into a 30 year VA loan at 3.385%. I've been kicking around the idea of refinancing to a 15 year loan, but I'm not sure by doing that I could best my current interest rate. So the other part of me thinks I should just pay more each month since I don't have a pre payment penalty.

Anyone navigate these waters before? If so, any words to the wise?

[md2018]

I was in a similar situation about 17 years ago. I decided to finance my house with a 30 year fixed but I paid extra each month towards the principle and paid it off in 16 years. Retiring at the end of the year with zero debt. My thought was with a 30 year I would have a lower monthly payment than with a 15 year but I could still pay on it like it was a 15 year, but still had the flexibility to not do that if I couldn't make the higher payment in that month.

The downside was that I was not able to put as much extra to my TSP as allowed but it was a choice I made to feel better about owning my house.

[bloobs]

So I was fortunate enough to come into financial security about the time when the RE market hit rock bottom. I purchased my first house, held onto it for 7 years, road the housing wave skyward, and sold it making a $170K profit. Then I moved out of state where the housing market is not as strong as where I came from, although in the 3 years I've been here my current house, the value has risen 60K +/- as the market fluctuates.

I'm currently locked into a 30 year VA loan at 3.785%. I've been kicking around the idea of refinancing to a 15 year loan, but I'm not sure by doing that I could best my current interest rate. So the other part of me thinks I should just pay more each month since I don't have a pre payment penalty.

Anyone navigate these waters before? If so, any words to the wise?

Based on what you described, it seems like you presented a solution looking for a problem that is not there.

Tell me what would be the advantage of refinancing to a 15-year loan with a matching OR HIGHER interest rate (than your existing loan that already allows you to prepay off in 15 years sans penalty) PLUS paying loan closing costs and fees PLUS now being FORCED TO PAY IT OFF IN 15 YEARS?

The only advantage i can think of is that you have the hots for your mortgage broker and you love spending time with her while making her richer

[cjp200]

With a mortgage rate that low, any additional money you have at the end of the month would be better used investing in the market with a much higher return.

Here's an example:

200k mortgage at 3.75% would be $926/month. If you paid an extra $528/month this same mortgage could be paid off in 15 years.

However if you took that same $528/month and invested in an account returning 8%, you would have $182,708 at 15 years with only $120,917 left on your mortgage. You could cash in your investment, have no further mortgage and have $61,791 left in your pocket. With this being said, it would still make no sense to pay off the 3.75% mortgage with your gains when you can continue to make returns at 8% or higher.

[aev]

just pay extra and get out of debt as soon as you can.

[bloobs]

With a mortgage rate that low, any additional money you have at the end of the month would be better used investing in the market with a much higher return.

Here's an example:

200k mortgage at 3.75% would be $926/month. If you paid an extra $528/month this same mortgage could be paid off in 15 years.

However if you took that same $528/month and invested in an account returning 8%, you would have $182,708 at 15 years with only $120,917 left on your mortgage. You could cash in your investment, have no further mortgage and have $61,791 left in your pocket. With this being said, it would still make no sense to pay off the 3.75% mortgage with your gains when you can continue to make returns at 8% or higher.

that plan makes perfect sense. but i can imagine how most people would not have the discipline to follow through on this for 15 years. lol

[WxMan0523]

Look at it conversely. The bank is giving you money for next to nothing. Sure you are paying tens (if not hundreds) of thousands of dollars extra over the life of the loan in interest, but that argument is only true if your free cash that you would use to pay down the mortgage is just sitting there doing nothing.

1.) Do not re-finance to a 15 yr. Closing costs aside, the rates are barely better than your 30. All you're doing is being FORCED to pay the loan faster. You could achieve the same goal at YOUR free will buy putting extra $$ toward the principal each month.

2.) But I'm saying don't do that either. Take that money that are thinking about using toward paying down the principal and invest it. This is very simple math. If you're able to make 8-10%+ a year by throwing a few hundred bucks a month into an investment account, you are going to make a CRAPLOAD more over the course of your mortgage than if you paid off the mortgage early and had all of that extra income from your pay after the fact. Heck, even a conservative 5-6% return would fare better than paying off your mortgage early.

I literally just did all this math this week. We are moving, and are hopefully going to cash in big on our current home. I was planning on throwing all the proceeds toward the next house (plus a bunch of reserves) and take out a small 15 year mortgage. After spending hours with various calculators, it became obvious to do exactly the opposite. Instead, I decided what monthly mortgage payment leaves me enough free spending cash to live comfortably each month. That's what I set the mortgage at, and milked it for 30 years at 3.5%. I honestly don't care if I ever own the house outright because I'll have a crapload of equity in it anyways. More importantly, I've now got 6 figures of free spending cash to turn that home into MY home at 0% interest with upgrades/makeovers, and the rest to invest at a rate that should grossly offset a measly 3.5% loan.

Sure being debt free is a great thing when your paycheck is 100% pure profit. However, you can technically be "debt free" and still have mortgage debt if you're earning investments exceed the interest paid.

[harpole]

This is great information. My mortgage rate is 3.25% and I've considered paying extra every month as well. However, after reading the comments above it does make sense to invest that money. I'm currently not maxing out my TSP, so maybe that's what I should do instead of paying mortgage off early.
Thanks,

[Jamters]

The first several years of a mortgage very little goes to your principal. It's mostly interest. Banks want you to refi as the mortgage gets older so they can reset that interest clock back to zero. Just when you are starting to pay more principal they offer you the chance to 'use that equity'. Don't fall for that. That equity is only yours when you sell, otherwise you are paying it back with interest and when you refi they add in a new round of closing costs which can be several K. You can have the benefits of a refi from 30 years to 15 years without the closing costs and interest reset by simply paying more each month and applying that to the principal. You can also make a lump sum payment once a year that will make a big difference. Check your mortgage website - they should have a calculator that lets you run different scenarios.

Like others have said, give yourself the flexibility and do it on your terms not the banks.

[Ericdelee]

I was in a similar situation about 17 years ago. I decided to finance my house with a 30 year fixed but I paid extra each month towards the principle and paid it off in 16 years. Retiring at the end of the year with zero debt. My thought was with a 30 year I would have a lower monthly payment than with a 15 year but I could still pay on it like it was a 15 year, but still had the flexibility to not do that if I couldn't make the higher payment in that month.

The downside was that I was not able to put as much extra to my TSP as allowed but it was a choice I made to feel better about owning my house.

This option is what I do. Many will tell you to NOT pay it off. And there is a solid reason behind that. However, I felt that I needed to get rid of the debt... it was a personal thing to me. I was going to refinance to a 15 year mortgage, but decided to keep it at the 30 year so I had the choice to make the smaller payment if I want to. Normally, we toss an extra $2500 or so a month at the principle. The result is being years ahead of schedule and the house likey being paid off in 10 or 11 years rather than 30.

[dearsmiths]

Pay off the mortgage off and go into retirement with less debt. There are financial reasons not to pay your house off but I can think of about 2000 reasons each month to pay it off and not have to pay and retire. I plan to retire in 2.5 years and saving everything to pay off the mortgage by then. My thought is, if I have no mortgage, I really do not need to use my TSP just yet, so that can build more, and then when I need it, I will hopefully have more money for whatever life brings. Or, I just take out a minimum amount each month as I need it.

dearsmiths

[GPIN]

With a mortgage rate that low, any additional money you have at the end of the month would be better used investing in the market with a much higher return.

Here's an example:

200k mortgage at 3.75% would be $926/month. If you paid an extra $528/month this same mortgage could be paid off in 15 years.

However if you took that same $528/month and invested in an account returning 8%, you would have $182,708 at 15 years with only $120,917 left on your mortgage. You could cash in your investment, have no further mortgage and have $61,791 left in your pocket. With this being said, it would still make no sense to pay off the 3.75% mortgage with your gains when you can continue to make returns at 8% or higher.

Another thing to consider in the above scenario is the tax burden in 15 years when you cash in your investment to pay off the house. Assuming you are in the current 22% bracket, cashing in $120,917 likely gets you into the 24% or higher bracket which means you end up with closer to $40 K (assuming the cash in puts you into the 24% bracket) left over instead of $$61,791.

Now if I did the math right, and the above assumption about taxes is close, let's look at the two scenarios. Scenario one, invest $528/month for 15 years and pay off house with $40K (+/- after taxes) remaining in investments. Not a bad way to be, if it works out. What if there is a recession in that time frame and the investments loose 15-20% one or two years. Do you still end up with $40K at the end?

Scenario 2, pay that extra $528/month on mortgage and own your house in 15 years then take the principal and interest payment and put under your mattress. In less than 3 years you would have $40K under there. Or rather than put under your mattress invest for those 3 years in IRAs and other investments accordingly and you may be as good or better off than scenario 1 with less risk.

Finally, ask your self this. "Would I borrow $528/month at 3.75% to invest somewhere?"

Lots to think about.
Regards.
G

[IRQVET]

Great input folks, your driving the point home that was kinda already bouncing around in my head. Admittedly this is a good problem to have, I just wanted to heard back from those with more experience than I do in these matters to ensure I wasn't over looking something.

Thanks again.

[honyant7]

Perhaps I overlooked it, but I didn't see any comments about the "True cost" you'll pay over the life of a 30 year mortgage. The costs are in the Amortization tables when you took out the loan. If you have a 200k loan and pay only the minimum over 30 years, you'll could end up paying 2x that amount depending on your interest rate.
If able... Why not pay at least a few hundred extra towards your mortgage and also increase payments into TSP. Even $100 a month would cut years off your mortgage and save 10's of thousands of dollars.

[WxMan0523]

Perhaps I overlooked it, but I didn't see any comments about the "True cost" you'll pay over the life of a 30 year mortgage. The costs are in the Amortization tables when you took out the loan. If you have a 200k loan and pay only the minimum over 30 years, you'll could end up paying 2x that amount depending on your interest rate.
If able... Why not pay at least a few hundred extra towards your mortgage and also increase payments into TSP. Even $100 a month would cut years off your mortgage and save 10's of thousands of dollars.

Again, this misses the point. Now, if you want to pay bi-weekly just because it matches your pay check, I'm always in favor of that. The two extra principal payments a year will cut a 30 yr mortgage to around 22 years alone!

Your point is that over the LIFE OF THE LOAN, you are essentially paying for your house twice. True! And this statement is the number one argument that people use to paying it down fast.

First, consider, how many people actually live in the same home that long...VERY VERY few.

What you're not considering is that over 30 YEARS, $200K in interest is actually a very SMALL number. It's difficult for most people (including my former self) to rationalize that a 6 figure number is small, but it is. While you're paying this extra $200K to the bank, calculate what would happen to your free cash if you, instead of paying down your mortgage, auto-contributed it into an investment account. Even conservative growth should yield 6-8% (likely more). Not only are you going to offset that $200K, but you're going to have a boatload more cash in your pocket. The best part, if you NEED that cash you can liquidate it. If you need that cash after you've given it to your mortgage lender, now you've got to pay them interest to get it back with a Home Equity Loan or HELOC.