I believe that you should pay of your mortgage early. I did it and I still consider it one of the best things I've done. However, there are a number of people claiming that paying off your mortgage is foolish. Let's debunk some more of these myths.
The blog 7million7Years has an article about why paying off your mortgage is the dumbest move you can make. The author lists 4 reasons why paying off your mortgage is a mistake.
I've listed his argument and my counter argument below.
1. You have access to ALL of the upside … so as inflation and market conditions push the value of the property upward over time, you gain 100% of the increase, the bank gets none of it.
Real estate has appreciated at about 3.8% a year historically (excluding the bubble). This is also about the rate of inflation. So unless you are in a hot real estate market, there is no upside. The real estate bubble has popped and there's no way to tell when we'll see the massive property value hyper-inflation of the last decade. For more facts and figures about stocks and real estate see www.irrationalexuberance.com.
2. Sure you pay the bank interest on their $80,000 share … but this is fixed (you did take out a fixed interest rate, didn’t you?!).
At 8% interest rate that’s approximately $6,400 per year … this year.
Why only this year? Because the same inflation that is increasing the value of the house (and you get to keep 100% of that increase) also decreases the effective amount that you pay to the bank; as each year goes by, the bank gets less and less in real dollars and your salary goes up.
Close, the interest is compounding so you don't just pay 8%. That's why you pay so much interest over the life of the loan. That 8% is compounding each month (at .6%) on the entire balance. So again there is no convincing argument.
3. You either get 100% of the value for the payments that you make to the bank (call it ‘rent avoidance’ if you live in the property) or you take 100% of the income if you decide to rent it out … all as 20% minority ‘partner’ going in. The bank on the other hand, gets their $6,400 and ONLY their $6,400.
I'm not sure what the argument here is. This seems to support buying vs. renting. There doesn't seem to be any argument for a mortgage here.
4. The government gives you tax breaks and incentives to do all of this!
Again, an argument for home ownership not mortgage indebtedness. The majority of tax payers either can't or choose not to itemize. According to the Urban Institute, only 35% itemized in 2004.
Also, there are limitations on deductions. So the famed mortgage interest tax deduction is mostly irrelevant here.
The rest of the "tax breaks and incentives" are available to home owners, not just debtors.
I really wish someone would come up with a list of convincing arguments for the mortgage. I'd hate to see the mortgage industry suffer. However, that hasn't happened yet and I'm not holding my breath. I think the mortgage industry is in no danger, at least from me. However, they do have their own messes to clean up.
Tags House & Mortgage Interest Loans Mortgage Tax Deductions TaxesRelated Posts
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Comments
7 Comments so far
I always like the historical 3.8% argument for the growth of real-estate … compound your house (or even your parents' house) and see if anybody that you know has ever bought a house appreciating at or below 'average'?
Didn't think so …
AJC,
Facts are stubborn things. Real estate can and does lose value. Many people and companies are losing their behinds in real estate right now.
Thanks for the comment.
"I really wish someone would come up with a list of convincing arguments for the mortgage."
1. Opportunity Cost
Can you find a reasonably secure investment that has a rate of return greater than your current mortgage interest rate? If the answer is yes, then you should buy that investment instead of paying down your mortgage. It is that simple.
Why not let your money work for you compounding at 8-12%, instead of using it to avoid your ~6% mortgage?
2. Tax Benefits
Although trivialized by this blog, the mortgage interest tax deduction is a substantial benefit received by millions of Americans each year. You appear to argue since only 35% of Americans itemized their deduction, that this tax benefit should be completely discounted. This statistic, however, is not persuasive and it provides no insight into the number of homeowners that have mortgages that cannot or do not take advantage of this tax break.
3. Refer back to Reason 1…making more money should be reason enough.
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@AJC
Is that really your answer? No explanation of why the historical average is flawed? No explanation of why we should reasonably expect real estate values to appreciate above historical averages going forward? I guess I expected anything but the quasi-anecdotal evidence that you offered…and then I started reading your blog and it all became clear.
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A reason to pay-off a mortgage with all-else considered equal: If either spouse (or a single person) loses their job, they can typically take longer and be more relaxed in finding another good job when they do not have to make a house payment: there IS no other money to use to invest elsewhere with coming in. If one has built up some savings/stocks and then become unemployed, they may have to cash-out early and lose money on their investments as well as suffer the physcological affect of losing $1000s a month from those investments to pay a mortgage. In addition, with money liquid in stock/fund/cd investments instead of a home, many people will keep dipping into it and spending it as opposed to it being not-easily touchable in real estate.