Can someone please explain to me why people pay off their mortgage early?

Thrugelmir

richyg wrote: »

If you have paid eg a £300,000 mortgage with 25% there is a lot of money tied up £900,000 ?
R.

How many people have the income to build a £1 million pension pot by the time they are 55.

Certainly not the average man in the street.

vectistim

In theory the pension mortgage was a third alternative to repayment/endowment. It generally required people to be pushing against the limits of pension contributions, which for most people wasn't really practical.

(I've encountered a total of one - I arranged the mortgage for someone and their solicitor intervened using the financial advice regulations available to solicitors at the time and arranged a huge pension to repay it - I have no idea whether it was continued with, but it wouldn't surprise me if the case has gone through the complaints system)

wotsthat

It'll be a sad day in my house when the mortgage gets paid off. It's been possible for a few years now to achieve a better return on deposit savings than my mortgage rate.

Is someone is wealthy enough to have paid off their mortgage by 35 the only reason to pay it off is psychological. They could have, instead, channeled overpayments into a pension and received 40% tax relief and, eventually, have paid off the mortgage with a tax free lump sum rather than post tax income.

bigadaj

wotsthat wrote: »

It'll be a sad day in my house when the mortgage gets paid off. It's been possible for a few years now to achieve a better return on deposit savings than my mortgage rate.

Is someone is wealthy enough to have paid off their mortgage by 35 the only reason to pay it off is psychological. They could have, instead, channeled overpayments into a pension and received 40% tax relief and, eventually, have paid off the mortgage with a tax free lump sum rather than post tax income.

That's one view. Alternatively some one could earn a very modest salary outside the south east and have bought a cheap property, you've made one assumption and I've made another.

Cloudydaze

It's taken a while for me to come round to this way of thinking. For years the holy grail was to be mortgage free. But recently I've been looking at the bigger picture & longer term.

Right now, the plan is to pay into pension and use the lump sum at 55 to pay off the mortgage. As a 40% tax payer it seems like a no-brainer to me.

All thanks to this site. I'm not sure I would have thought of it otherwise.

gadgetmind

Thrugelmir wrote: »

How many people have the income to build a £1 million pension pot by the time they are 55.

Many people with public sector pensions.

jamesd

richyg wrote: »

But unless I misunderstand isn't the rest of the money (75%) available to get paid out only at the rate agreed by the government e.g. annuity rate of 4% or so until / unless you have £20000 per annum guaranteed from final salary / pension / annuities.

Income drawdown is available with any size pension pot over perhaps £10,000 or so due to costs and regardless of how much other income you have. Flexible income drawdown requires at least £20,000 of guaranteed income from the state pensions, work defined benefit (like final salary) pension or annuities.

Capped income drawdown income levels go up with age and also vary with the GAD limit. I put together a table of the income levels per £1,000 that should be multiplied by 1.2 to get current values. Current gilt yield is around 3-3.5%, more normal is around 4.5%.

At a 3% gilt yield the income permitted is 5.76% at age 55 rising to 7.08% at 65 and 16.8% at 85 and over. At 4.5% gilt yield it's 6.96%, 8.4% and 18.96%.

richyg wrote: »

If you have paid eg a £300,000 mortgage with 25% there is a lot of money tied up £900,000 ? that you may want your hands on eg at the age of 75 no lets say 55.1 in failing health in bigger lumps than 4% per annum at the whim of the bond markets.

That possible need for access is one reason why I tend to suggest withdrawing the maximum permitted amount from the pension in income and reinvesting what isn't appropriate to spend in a S&S ISA so it gradually becomes more accessible in lump sum form outside the pension.

There are currently some discussions going on about how to modify capped drawdown to increase for those who'd qualify for an enhanced annuity. At the moment the reference rate used by GAD is a normal good health annuity.

richyg wrote: »

If you have paid eg a £300,000 mortgage with 25% there is a lot of money tied up £900,000 ?

That's probably too much in today's money to use the pension lump sum for all of it. Need to remember that the pension lifetime allowance is to drop to £1.25 million in April and may drop lower still. But also, the 75% remaining from the £1.2 million pot it takes to deliver £300,000 could produce an income at 5% of £45,000 a year. A lot of people would want to retire before getting to a pension pot that could deliver that level of income. But important, see my next post for the difference between mortgage paying (no increase in debt due to inflation) and pension income producing (need to adjust for inflation to get numbers in today's money).

Using only the pension is practical enough for a £100,000 mortgage, where the remaining £300,000 could produce a 5% income of £15,000 a year. The £30,000 for a £200,000 mortgage is also not unreasonable for many retirement aspirations and seems likely to remain below any likely pension lifetime allowance. Very reasonable is at least £50,000 of mortgage because that's £7,500 a year of income and that plus the state pension is still below the £18k or so median average pensioner income level.

For a £300,000 mortgage a combination of pension and S&S ISA is probably a better choice, since the ISA lets you draw 100% of the capital for the mortgage paying purpose.

The pension lifetime allowance will presumably eventually start rising with inflation again. At the moment it's been dropping from £1.8 million a few years ago as a way to cap or tax larger pension pots.

jamesd

Thrugelmir wrote: »

How many people have the income to build a £1 million pension pot by the time they are 55. Certainly not the average man in the street.

Since it'd take a monthly gross pension payment of £1052 to do it in a 25 year mortgage duration ending at 55 I agree. But then, your average person in the street doesn't have a £300,000 mortgage either. The average mortgage size is closer to £100,000 and that'd take £351 a month gross.

That £351 gross is much easier since some of it is coming from tax relief and some from employer contributions usually.

The £351 is using the not inflation adjusted growth rate of 8%. That's appropriate for mortgage clearing because the mortgage debt doesn't increase. For pension income planning purposes it's more appropriate to use 5% and that £351 produces a pension income pot size of £209,024. After deducting the lump sum it's £56,768 for income production, or £7,838 a year in today's money.

gadgetmind

jamesd wrote: »

Income drawdown is available with any size pension pot over perhaps £10,000 or so due to costs and regardless of how much other income you have..

Yes, but given the meagre cap on drawdown, and the high annual costs, how much pa would the guys in pinstripes running the pension platform/fund take versus what the investor was left to spend after tax?

lisyloo

To assume that the 25% tax free lump sum is going to be available in 25 years time sound like a fairly major assumption to me.

One good thing about pying off mortgage debt is that is it 100% guaranteed.
You pay off the money, you no longer owe it - that is 100%.