Explain to me Why its Good to Pay off Your Mortgage quickly!

[Deleted User]

GettingThingsDone wrote: »

But, FC - is it wiser to hold the former or latter? As I was trying to point out to DD earlier, obviously the former position is generally more desirable, as I believe you'll agree.

Paying your mortgage off early doesn't affect your net worth in itself. It is the reduction in interest (servicing the loan) that is where the net worth change happens which is why there is a mix of judgements about future prices and personal/family circumstances.

This is why I think there should be something to help people understand this - i.e. there may be people embarking on the MFW journey without understanding this 'basic MFW housekeeping'

gtd

I have to express my thanks for this, as it has prompted me to re-evaluate what we're doing in terms of savings and overpayments. We've decided to go down the ISA route as well as overpaying the mortgage directly - at least in the short term.

GettingThingsDone

@FC - sorry, I think you're clearly disagreeing with DD then. Yes, DD rightly pointed out that he would spread his risk across emergency savings, an ISA and a pension i.e. in the example of the £100K he would rather have £50K mortgage, £40K savings and £10K emergency cash. I totally agree with diversifying.

Whereas you are saying he should give up all of his ISAs etc and put the full £100K into the mortgage? I don't think DD would agree with that at all. Your argument for putting the full £100K into the mortgage is risky. DD was a bit contradictory as he said there was no risk to just sticking extra money into your mortgage, whereas he himself had sensibly spread both his risk and maximised his interest.

My disagreement with DD was not to do with MFW however, it was to do with people needing advise in this forum about getting ones finances into a good 'shape' before embarking on the road to MF. He said no - I say yes. All I asked DD was to maybe sketch out some simple guidelines about balancing risk and MFW. Clearly he would have some wise advice for you

You need to understand that mortgage reduction in itself does not increase net worth. It is the interest that affects net worth, hence paying off your mortgage is generally GOOD because you are effectively getting a higher rate for your savings than you could elsewhere. It is the interplay between your aggregate loan rate and your aggregate savings rate that affects your net worth (generally speaking).

If you don't believe me, imagine the situation where you could get a higher amount of net interest on your savings than your mortgage interest rate. Are you better putting an extra £ you have into your mortgage account, or into your savings account? In fact, if you could always get this rate, would you ever pay off your mortgage?

Additionally, some people will take the risk that investments such as shares will return a higher rate of interest than 'safe' savings, which over time has been proven to be true (in general terms). Before going down this road take ADVICE.

However, before going down the MFW road, take ADVICE too. That is the point that I couldn't get through to DD - ADVICE IS ESSENTIAL. He was happy to assume that people would just work it out for themselves. I hope you'd agree with me on that?

Finally, all I was saying about property speculation is that looking back, I wish I had of done it. Ahh, the beauty of hindsight.


@Marvin - no probs As I understand getting to MFW involves making sure you're making the most of your income/savings while battling taxes, inflation and the rest of the economy.

beachbeth

FC_United_Fan wrote: »

Having read much of your discussions with Dithering Dad and now myself, I have noticed a pattern emerging.

I noticed a pattern emerging some time ago and its getting more obvious, especially as the 3 people you mention above are actually 2!!!:p

This is quite funny and yet farcical at the same time!:D

[Deleted User]

So we're all agreed then that it's good to pay off one's mortgage early and it's good to save or invest and it's good to pay off debts, but it's important to know when to do which and to what extent?

djbd1973

beachbeth wrote: »

I noticed a pattern emerging some time ago and its getting more obvious, especially as the 3 people you mention above are actually 2!!!:p

This is quite funny and yet farcical at the same time!:D

The penny just dropped beachbeth. Its like Cluedo.

I know exactly what you are saying but I 'couldn't possibly comment' as Ian Richardson would say in the 'House of Cards'.

GettingThingsDone

@FC - you make me laugh, I have an image of you arguing with that man you see in the mirror when you're shaving.

My general financial strategy is to evaluate every £ of income and find the best home for it. For example, if this means paying money into an ISA and not into the mortgage then so be it. If it means overpaying the mortgage because it is effectively the best savings rate, then so be it.

Your example of twins is incomplete because twin 2 could/should logically keep a certain amount of their wealth invested in ISAs and pensions (or where-ever they can get a higher real rate of interest than their mortgage). Emotionally, they may prefer to forego that extra wealth and pay off the mortgage. It depends on what that cash means to them (maybe it pays for another property?) as to what they actually decide to do.

I never advised people to continually overstretch themselves; I pointed out that it is a strategy that people have used over the last few years to get to be MF. I know more people who have done this and are successfully MF in the house that they intend to be in for a significant amount of time, than people who just overpay their existing mortgage. FACT.

I regret not having done the same, but one of the downsides to effectively being MF is that it affects your attitude to risk. I have learnt this the hard way. Come and discuss that with me when you've been MF for a few years.

The risk of being mortgage-free are the things that you never did and the risks you never took. Sometimes hard to quantify, because you never know how life is going to turn out. For example, what if you'd invested in Google early on instead of overpaying your mortgage. You'd probably be sunbathing on the deck of your yacht by now...

FC - I consider myself an 'unusual' case and I wouldn't advise others based on my situation. If you want to know more, PM me, but please stop trying to twist my words in here.

gtd

GettingThingsDone

I was resisting pointing out that FC is DD - I think we all spotted it straight away, I just wanted to see how far he would go in supporting his 'friend'.

Very sad DD - I don't know what you're actually arguing about? As Marvin says:

So we're all agreed then that it's good to pay off one's mortgage early and it's good to save or invest and it's good to pay off debts, but it's important to know when to do which and to what extent?

C'mon, just admit you're fighting some old arguments with posts that are nothing to do with this thread...

gtd

jamesd

FC_United_Fan wrote: »

Twin Brother #1. has 200k house and a 100k mortgage @ 7% and 3k savings in a cash ISA @ 7.5%. He also has 5k in savings at 7.5% but has to pay tax at 22% so the net effect is that his savings rate is less than his mortgage rate - ergo he is losing money by having 5k in savings. He pays £1000 a month into his mortgage and has a spare £300 per month to put into savings.

Twin Brother #2. has 200k house and no mortgage. he pays £0 per month for his mortgage and has a spare £1300 to put into savings. The fact that twin brother #2 is not having to pay £1000 per month to a bank means that he can increase his net worth by £1000 per month.

How did brother 2 get the extra 100k you're starting him out with? Why do you assume that brother 1 is an idiot with a lousy mortgage rate? At least try to produce a decent comparison instead of just giving one of the people 100k of free money to make him look good!

You started with the mortgages now but ignored the past and property value growth, so you've ignored the gains of the larger property while including the costs of it. Say both brothers purchased their properties five years ago and both saw gains of 10% a year on them.

To get to the 200k value today brother 1 would have purchased for 124200 and would today have a capital gain of 75800. Assuming a five year mortgage fix at 5.5% interest over the five years on 124200 would be 34100. Brother 1 has a net worth change due to the property of 75800 - 34100 = 41700.

Brother 2 bought a 24200 property with 100k less mortgage than brother 1 (assuming you want brother 2 to start out with 100k less mortgage). Brother 2 now has 14775 of property value gains and has paid 6655 in interest at 5.5% on his 24200 mortgage over the five years. Brother 2 has a net worth due to the property of 14775 - 6655 = 8120. But brother 2 has been paying 458 less in interest each month and that needs to be allowed for. Assuming you want him to be cautious I'll use a cash ISA and assume he got 5% on it using his and his wife's allowances. Future value of 458 a month at 5% over 5 years is 31275 which must be added to the property gain, so brother 2 is up by 8120 + 31275 = 39395. Brother 2 could have overpaid the mortgage and saved an additional 417 over 5 years due to the 5.5% saving instead of 5% but I'll ignore that for simplicity because it would only have been available for a few years before the mortgage was completely paid off and the potential gain would have been nearer 300.

So after five years brother 1 with the bigger mortgage has lived in a better house and increased net worth by 41,700. Brother 2 has lived in a worse house and has increased net worth by 39,395.

Brother 1 has a 200k property, 124,200 mortgage with no savings. Brother 2 has a 38,975 property, 24,200 mortgage and 31,275 of savings.

I ignored deposits and that would have made some difference, assuming say 10% deposit and that much extra initial savings for brother 2. Not enough to change the general picture, though. Also ignored purchase costs and upkeep and didn't try to give quality of life a monetary value. Should really extend the example with repayment mortgages plus additional overpayment funds but that would just make a cautious overpaying brother 2 look even less good compared to an investing interest only brother 1.

FC_United_Fan wrote: »

I think both approaches are equally viable for increasing your wealth.

Both are viable but the leveraged with debt approach is the one that's likely to produce the greatest increase over the long term. It's a matter of individual choice whether someone is comfortable with debt and investing or not. Also a question of risk: someone with high probability of living on benefits or suffering an income loss is likely to do better with less borrowing.

GettingThingsDone

@FC

People should be allowed to choose whether they want to run a mortgage debt and invest or to overpay and neither should be made to feel bad about it. I don't see any MFW people running onto the pensions, savings and investment threads telling them how to run their lives....

Nobody is trying to make anybody feel bad about anything. The FACT is, as you have acknowledged, being MFW is an investment decision and there are consequences. Everybody knows that there are 'standard' warnings about making investments into shares for example and there are lots of regulations about 'ADVICE'. There is also a lot of regulation about mortgage ADVICE. I hardly see any consistent solid ADVICE about MFW and that concerns me.

Your examples PROVE the fact - different people, even with the same starting position, can go through completely different financial arcs. People have different dreams, desires and circumstances. I think what james is trying to point out is that a PURE MFW strategy can miss out on the leveraging effect of being able to borrow large sums of money to purchase assets that are increasing in price. As they say, you make your money when you buy property.

I still stand by my comment that there should be a 'heads up' as to the implications of MFW. And I repeat, I AM NOT ATTACKING MFW!!!

For example, why does DD hold emergency cash, ISA's and a pension? I'm trying to get at the underlying motive for NOT putting all those funds into the mortgage? I AM NOT ATTACKING DD's financial decisions, I want to UNDERSTAND why it is better to hold those than to put then into the mortgage. If I have an extra £ left at the end of the month do I put it into a savings account, or pay off the mortgage. SIMPLE QUESTION.

The ADVICE you are providing is inconsistent - you are saying pay off the mortgage first, DD was saying make sure you are making the most of your savings first.

gtd

GettingThingsDone

@FC

OK, so after all that I think you agree with me that being MFW is an investment decision. And I don't think you deny that everybody's circumstances are different. And that those circumstances change over time. Can we take all those things as a 'given'?

I was thinking more of a FAQ than a tick sheet. Yes, I am getting passionate about this, because I think the basics should be spelt out JUST IN CASE. I misguidedly (sp?) thought DD might take that up as a 'respected voice' - but now I know better. I don't even read the investment board (there's only so much time in the day ) but it's an area where people are generally aware that there are risks.

Sorry, I thought I had explained the risk of MFW. It can be a sub-optimal strategy, particularly when house prices rise over several years. I'm not saying it's a risky use of your funds (i.e. it's just paying off debt), I'm saying that, like all investment decisions, it's a risk in amongst your life choices.

I would never, never, never tell MFWs how to run their lives - I would say get everything in perspective and get advice where you need it. For your own life.

gtd