Playing "devil's advocate" on the mortgage debt issue.

Hello, Everyone!

For me (meaning, I know not everyone's situation is the same as mine), Ric Edelman's "11 Great Reasons to Carry a Big, Long Mortgage" makes perfect sense. I would love to hear Permie arguments against this. Can anyone argue with the math? If not all 11 reasons apply to you, do the remaining reasons still give enough benefit to carry a mortgage?

http://www.edelmanfinancial.com/education-center/articles/1/11-great-reasons-to-carry-a-big-long-mortgage

I'm a fairly regular poster at the Bogleheads forum where the pros and cons of carrying a mortgage are routinely discussed. While I fall into the camp that supports carrying a mortgage a not paying it off, the main arguments against Ric Edelman's are A) extra peace of mind that comes with having a paid off mortgage, B) for those in low-cost-of-living areas the standard deduction is often better than itemizing so you don't get the mortgage deduction, C) paying off your mortgage provides a guaranteed 3.5% to 4% rate of return, that's amazingly high when compared to other guaranteed investments like U.S. bonds, or interest at an FDIC insured bank.

Also, sometimes people interpret Edelman's suggestions as meaning you should get the biggest mortgage you can on the most expensive house a bank will give you a loan for. That is not the case as Edleman's position is that you should buy the least expensive house that suites your needs, and then take out the biggest mortgage you can on that house.

I'm in the 'pay it off quickly' camp at the moment- mostly because my savings get 0.5% interest if I'm lucky, but I'm paying 3% on my mortgage.

And I don't get sick pay or anything at my job (and neither does my Partner- he is on a zero hours contract with no job security whatsoever!). So a mortgage for many years but at a low cost each month was important- and the ability to overpay whenever we wanted to try to pay it off faster!

What he is leaving out is the risk.

His primary argument is that, by keeping a big fat mortgage, you can (rather than paying it off aggressively) invest the difference and make money on the interest difference. In the financial world, that's arbitrage.

While it is a legitimate investment strategy, he is leaving out a critical part of the arbitrage equation--risk.

Let's say your $300,000 mortgage is at 3 5/8% interest, and you could find some juicy investment at 5 1/2% interest. Hey, you're making 1 7/8% on the spread. Woo hoo, we're doing arbitrage like the big boys and girls.

Yeah, except the big time arbitrage investors also account for risk. There are many possible future outcomes, some of which are positive, and some of which are very negative. The big commercial investors calculate that risk and factor that into the arbitrage equation. Just for discussion purposes, let's say you have to knock off 2% on your net return to account for risk. I am very doubtful indeed that you can make much or any money once you account for the risk.

What if you get the biggest mortgage you can (as he recommends) and then property values go down? Suddenly, you may have a very hard time selling your house if you have to move because you're under water now. That just happened to like, millions of people very recently.

You are literally betting your house, that you will get the positive scenario only, for the next 30 years. Maybe you will. And maybe you won't.

My house is 100% paid off and I have zero regrets.

In my world view, volunteering to have a mortgage is akin to volunteering to be a slave to a bank. Volunteering for a mortgage implies that I expect to have stability in my life to be able to pay it off. My life has never been stable: Work's not stable. Relationships aren't stable. Laws aren't stable. Economies aren't stable. My plans aren't stable. It's that risk that Troy mentioned. Things are always changing. Having to pay a mortgage when things are unstable really really sucks!!!

This might also depend on your area. Right now, where I live, to get a two bedroom apartment in a decent school district (and Texas has some real bottom of the barrel options) costs around 1200.00 each month. I pay in mortgage on a three (really four, we use the office) two living area house with a half acre lot that I have control over. My mortgage (including taxes and the required insurance) is less than 1000.00 each month.

My gamble is that paying a mortgage will continue to provide a lot more return on my dollars than paying rent to someone else, and that I will continue to be able to make a living in this community. Currently, I work in a grocery store that is still run by the same family that managed it through the Great Depression, and I'm a better than average worker so if cuts happen, I won't be the first on the block.

Every year that my gamble pays off makes it that much more likely that I'll get some return on my home equity, even if the house market collapses. So long as I can break even on the remaining principle, I've still had only positive benefit from the mortgage, just in not having a steadily increasing rent.

That said, if I had the money to pay cash on the spot to get out from under the mortgage, that is exactly what I'd do. If getting my nieces into the best school with neighbors that I know and respect wasn't so important to me, I'd still be putting money away for a small house in the distant future. Like past generations I've weighed the options and decided years of indentured servitude are worth if it, if it can position the next generation for a better start.

I'm definitely on the idea of getting a house appropriately sized for your needs, get the largest longest mortgage you can at a reasonable rate and keep it as long as you live in the house, pay the minimum, make sure you have a cushion to cover unexpected times. Killing yourself to rapidly pay down a mortgage to simply say "I own this" makes no sense to me...

Argument # 11 is particularly specious, "You’ll never get rid of your monthly payment, no matter how hard you try" because you'll have taxes and insurance. That doesn't mean I should keep paying the bank interest.

Argument #8, 9 and 10 are unrealistic, that people save the difference between a low down payment and a high one. Most people just buy a bigger house and leverage as low a down payment as they can. If you have the discipline to save the differential up front and then the ongoing spread on the two mortgage examples, then you don't need to be reading this kind of advice. Most people don't make life decisions at this level based on rational mathematics. If you do, more power to you. Don't use this as a rationalization to take on more debt than your total budget of Mortgage+Investable Excess Over Expenses.

#7 is bordering on fraud: "Still, you fret that your home’s equity is at risk. Can you protect it without having to sell?" and you do that by taking out equity by refinancing. And what if the value does fall? Walk away from the debt? Pay it back with the money you have invested elsewhere? In the Great Recession, recall that investment values dropped in parallel with the housing market collapse. And then the banks started calling mortgages.

I'm done. Both with the article and the mortgage. It is the most liberating feeling. Yes, I could take a heap of equity out and invest it somewhere (where? the stock market? seen how that's gone lately?). Or I could do what I'm doing, investing the money I'm not paying to a bank into trees, greenhouses, fences and infrastructure, things that hold or gain value just for existing and aren't taxable. Most people, myself included don't make 100% rational money decisions, because money in part represents security, which is more of a feeling than a fact. It feels damn great to be able to say "mine" every morning.

John Master wrote:I'm definitely on the idea of getting a house appropriately sized for your needs, get the largest longest mortgage you can at a reasonable rate and keep it as long as you live in the house, pay the minimum, make sure you have a cushion to cover unexpected times. Killing yourself to rapidly pay down a mortgage to simply say "I own this" makes no sense to me...

If I have to "kill myself" to pay a house off in 10-15 years, that suggests (in my world) that I bought a house that is too big/fancy for me to afford.

Paying cash for things, and minimizing or eliminating the use of credit prevents me from justifying big purchases that I can't really afford.

If your house is paid off, and you suddenly need an emergency cushion beyond what you have for cash reserves, you can always go borrow money on the house again.

But if your house has a mortgage and the shit hits the fan, you can't just magic the mortgage away unless you have an enormous pile of cash somewhere.

Ann Torrence wrote:I'm done. Both with the article and the mortgage. It is the most liberating feeling. Yes, I could take a heap of equity out and invest it somewhere (where? the stock market? seen how that's gone lately?). Or I could do what I'm doing, investing the money I'm not paying to a bank into trees, greenhouses, fences and infrastructure, things that hold or gain value just for existing and aren't taxable. Most people, myself included don't make 100% rational money decisions, because money in part represents security, which is more of a feeling than a fact. It feels damn great to be able to say "mine" every morning.

Amen. Well expressed. I'm there. It's a beautiful place to be, not another place like it nor one with an equal view of the world.

I am in the get it paid off camp. I hate paying interest to the bank. It's taking a decrease in salary commiserate to the interest rate you are paying. When we bought our place, we put 50% down to keep our monthly bills as low as possible. Our cars are paid off and we don't carry any significant credit card debt. This strategy has allowed me to leave the corporate world and focus on out homestead and our children. If anything were to happen to my wife's job, I could cover our monthly bills working at any big box. There is a lot to be said for peace of mind.

There are arguments both ways, and I suppose it also depends a lot on your life stage. I am 42 and plan to have our place paid off with the "big" house built by the time I am 50. That is also the same year the twins go to college. Suddenly, we will have almost no bills, at least a 50% decrease in living expenses and still be young enough to enjoy life. That to me is freedom.

I looked into paying my house off this year but what I am paying on the house is about 1/3 of what insurance and taxes are.
so they are what I need to figure out how to get rid of , not gonna happen.interest was the smallest part of the payment
and the 4 to 5 % interest your money is loosing more value than that and that is what is hurting.
my house is worth 3+ times what I gave for it but my money is worth 10+ times less than it was so I have lost ground.
beats rent by a long shot though.

The only reason I accepted having a mortgage was my experience paying off a car loan. My desire to own that car outright and the nature of the relationship with the bank( they would take it back if I did not pay up) motivated me to "save" money in a way that waiting and saving up would not have.
It also enabled me to make more money,and date more, so...
I worked 7 days a week 12 hours a night at a nuclear waste site for months, motivated by the desire to "own " land.
I am trying find ways to use the house to increase my income ,in the same way having a vehicle has. So far it works better as a way to reduce my expenses,which is almost important.
Got an an inheritance from my Great Helen.She had a zest for life and I knew she would want me to have some crazy fun with it, but I was also determined to not waste it, so I gave my family a raise by refinancing the house. Now the mortgage is 100 dollars a month cheaper, and 3 years closer to being paid off.
The crazy fun thing I did was buy a crappy city lot, $2,500 cash. We own it outright. If worst comes to worst, we will be squatting on our own land.
Meanwhile it is my permaculture dream. Some day I hope my grandkids will feed quail and eat berries there. That I will bake pizza and bread there, and it will be financially worthless, but priceless in terms of living. That it will be the fishing net I teach my children to fish with.

Until a mortgage is paid off, you cannot be self sufficient. A few hundred in taxes is nothing compared to my 3600 in payments or so a year.
Mortgage payments average $600-$700 here in Ohio. Average rent on a studio apartment is almost $800. I think we can say that by owning your home outright, you will be able to use say $400.00 more a month of your income as you see fit, every month. More importantly, if you dont have that income,you are ok.
Show me a surer deal in the markets, or anywhere.
My house is no longer as valuable on the open market as it was 10 years ago. So sad. Yet the apartment I used to rent costs more a month to rent than it did, and my mortgage costs less. When my mortgage is zero, rents will be even higher. That is pretty much guarenteed.
Compare that to the 10 grand I accumulated in a 401 k as a young man,which evaprorated during the dot com bust.
If I had put even half that money into property back then, I would probably be living rent free right now.

I'm definitely in the pay it off camp. Love the peace of mind. This became even more important to me when my husband got laid off for 9 months and I realized that no matter how much we had paid into it, the bank had the option to sell it for what was owed to them without even trying to get the real value and giving me back not one red cent if we couldn't make the payments. You can't be self-sustainable without having food, clothing, and shelter covered. Yes, you will always have taxes, but insurance is optional. Once you pay it off, you can decide if you want insurance or would rather bet on yourself if you are a handy person and put away money in savings instead of paying insurance.

Of course, if I had to do it over again, I would try to avoid the mortgage the first time. I would read the books Twelve by Twelve[/ i] and [i]Possum Living. I would start small with a plan I could add onto as my family grows, like they used to do. Only this way would give us the power to keep employers from exploiting employees, because they know they have to work. (Another reason to pay off mortgage quick.)

We went with the 30 year mortgage plan. We paid it off when my husband was unemployed, as we were afraid to spend any money (thankfully I had a job and we didn't have any other loans). While we had a few different houses, we paid off mortgage within 30 years of getting the first one and we are now only paying upkeep. If you are going for maximum mortgage, why not rent? If you think your are getting out of taxes, insurance, and upkeep by renting, guess again, as those are passed on to you. In my experience, the landlord passed on those charges to me, and then waited as long as possible to fix items if at all.

John Wolfram wrote:I'm a fairly regular poster at the Bogleheads forum where the pros and cons of carrying a mortgage are routinely discussed. While I fall into the camp that supports carrying a mortgage a not paying it off, the main arguments against Ric Edelman's are A) extra peace of mind that comes with having a paid off mortgage, B) for those in low-cost-of-living areas the standard deduction is often better than itemizing so you don't get the mortgage deduction, C) paying off your mortgage provides a guaranteed 3.5% to 4% rate of return, that's amazingly high when compared to other guaranteed investments like U.S. bonds, or interest at an FDIC insured bank.

Also, sometimes people interpret Edelman's suggestions as meaning you should get the biggest mortgage you can on the most expensive house a bank will give you a loan for. That is not the case as Edleman's position is that you should buy the least expensive house that suites your needs, and then take out the biggest mortgage you can on that house.

Thank you for replying with actual arguments agains the "11 Reasons," John, despite your stance in favor of carrying a mortgage.

Argument "A" is a totally personal feeling. The next guy will feel more peace of mind maintaining liquidity, as Mr. Edelman is suggesting.
Argument "B" is the type of thing I'd hoped to learn by starting this thread. But, I'd still like to know if despite that, the rest of the "11 reasons" could still add up to having a mortgage make sense for a person who takes the standard deduction.
Argument "C" I don't fully follow. Would you mind expanding on that, or pointing me in the direction of where it is well-explained?

Also, thank you for pointing out the confusing (I was confused about it at first, too) part of the suggestion to get a "big" mortgage. You're right, he's definitely not suggesting that anyone get a mortgage they can't afford. I'll take your clarification a couple steps further by explaining "least expensive," as meaning "find a good deal." For example, if one is searching for a home in a specific neighborhood where all the homes are fairly cookie-cutter, and have similar values, then picking the least expensive one automatically increases the equity by a bit. And, then Mr. Edelman's idea is to typically put 20% down to avoid having to pay PMI, which as he puts it, only benefits the lender...but the borrower has to pay for it.

Thanks again, John!

Troy Rhodes wrote:What he is leaving out is the risk.

His primary argument is that, by keeping a big fat mortgage, you can (rather than paying it off aggressively) invest the difference and make money on the interest difference. In the financial world, that's arbitrage.

While it is a legitimate investment strategy, he is leaving out a critical part of the arbitrage equation--risk.

Let's say your $300,000 mortgage is at 3 5/8% interest, and you could find some juicy investment at 5 1/2% interest. Hey, you're making 1 7/8% on the spread. Woo hoo, we're doing arbitrage like the big boys and girls.

Yeah, except the big time arbitrage investors also account for risk. There are many possible future outcomes, some of which are positive, and some of which are very negative. The big commercial investors calculate that risk and factor that into the arbitrage equation. Just for discussion purposes, let's say you have to knock off 2% on your net return to account for risk. I am very doubtful indeed that you can make much or any money once you account for the risk.

What if you get the biggest mortgage you can (as he recommends) and then property values go down? Suddenly, you may have a very hard time selling your house if you have to move because you're under water now. That just happened to like, millions of people very recently.

You are literally betting your house, that you will get the positive scenario only, for the next 30 years. Maybe you will. And maybe you won't.

My house is 100% paid off and I have zero regrets.

I don't agree that his primary argument is that you can make money on the difference. In fact, he says in the article that the most important reason is, "Reason #10: Mortgages give you greater liquidity and flexibility." (It says that in the line just above the reason.)

And, he addresses the arbitration part in a recent call in to his radio show (you can listen to a quick clip of it here: http://www.edelmanfinancial.com/radio/january-30-2016#ep-nav )
Basically, he is not suggesting that one pull out equity in order to try to "make money on the interest difference," as you say (as in, come out ahead...although, that's typically why we invest...in anything). To make the payment on the new re-fi loan, and never touch the capital, one needs to earn 3 5/8%, right? But, as he says, it's even less than that 3 5/8% if one is able to deduct the mortgage interest off one's taxes. One can earn less than 3 5/8%, and still break even...and still have the capital liquid.

And your point regarding the risk of property values going down? He addresses that, too, in Reason #1. If I had $150,000 cash to pay for a house in full, and did so, and then property values went down and I found myself having to move (your example), that money is lost with or without a mortgage. "Your mortgage doesn't affect your home's value." This scenario is better handled or covered with the "five year rule," which states that it isn't normally a good idea to purchase property when one doesn't expect to stay in it for at least 5 years.

Thank you for adding to the discussion, Troy!

Charli Wilson wrote:I'm in the 'pay it off quickly' camp at the moment- mostly because my savings get 0.5% interest if I'm lucky, but I'm paying 3% on my mortgage.

And I don't get sick pay or anything at my job (and neither does my Partner- he is on a zero hours contract with no job security whatsoever!). So a mortgage for many years but at a low cost each month was important- and the ability to overpay whenever we wanted to try to pay it off faster!

Charli, with "no job security whatsoever," doesn't the idea of having a nice, cushy emergency fund (even if it is only earning .5%), to help, or fully cover the mortgage payment and other expenses in case of reduced or eliminated income in the future, as Mr. Edelman suggests with Reason #10, sound better than having a lower mortgage balance at that (hopefully never to occur) time? Assuming it will still take several years to pay off your mortgage, even making extra payments, what if the two of you lost your jobs a couple years short of your goal? As Mr. Edelman puts it, all those extra payments don't make a difference at that hypothetical moment, because there's still a balance on the mortgage, and the minimum payment is still due at the end of the month.

Corrie Snell wrote:doesn't the idea of having a nice, cushy emergency fund (even if it is only earning .5%), to help, or fully cover the mortgage payment and other expenses in case of reduced or eliminated income in the future, as Mr. Edelman suggests with Reason #10, sound better than having a lower mortgage balance at that (hopefully never to occur) time?

Actually, having a generous emergency fund AND saving up the bigger down payment BEFORE taking out the smaller mortgage (ala Dave Ramsay) sounds even better.

Now I'm curious who Edelman's audience is, because it's not the typical American. More than half of Americans have less than $1000 in savings. From that same article, 28% of the people have no savings whatsoever, while only 14% have over $10K in savings. My guess is that less than 5% of the 14% are in a position to apply his advice, including having the personal discipline to save rather than spend when they have liquidity. But for the other 95%, it sounds like a message that is easily misconstrued into wishful thinking that would lead to 2008-style financial ruin. I'm not saying Edelman is responsible for misguided people hearing what they want to hear-we are all responsible for making our own good choices. But this conversation is advanced calculus for people who can't do long division.

ETA: Of course, I am not suggesting that anyone at permies is misguided or falls into the third-grade mathematically challenged category. But that article I linked to demonstrates the need for a lot of folks to do do some remedial homework-why I think Dave Ramsay is so popular.

Corrie Snell wrote:
Charli, with "no job security whatsoever," doesn't the idea of having a nice, cushy emergency fund (even if it is only earning .5%), to help, or fully cover the mortgage payment and other expenses in case of reduced or eliminated income in the future, as Mr. Edelman suggests with Reason #10, sound better than having a lower mortgage balance at that (hopefully never to occur) time? Assuming it will still take several years to pay off your mortgage, even making extra payments, what if the two of you lost your jobs a couple years short of your goal? As Mr. Edelman puts it, all those extra payments don't make a difference at that hypothetical moment, because there's still a balance on the mortgage, and the minimum payment is still due at the end of the month.

I admit that I have an emergency fund as well! To cover a years worth of bills, I wouldn't like to be as hand-to-mouth that I'd have no leeway in finding another job. But I didn't see the point in having more than this saved accruing virtually no interest whilst paying 3% on the mortgage.

We also did the 'save up a bigger deposit' thing too- 50% of the house we paid for outright when we bought it.

But as long as there is something outstanding money on it the bank could want it back- and we'd have to sell the house to pay them. Once it is paid off I'm no longer at their mercy. (I realise I'm not actually 'at their mercy' as there's rules and legalities and things involved, but I'd prefer to own it and not be giving them money)

Everything important in life...I have learned from Gilligan's Island

Now that's funny. And true.

But Polonius went on....

"For loan oft loses both itself and friend,
And borrowing dulls the edge of husbandry."

Wow! Thanks for replying, everyone! However, very few of you are actually addressing the "11 Reasons." Most people are just saying how they feel on mortgages in general. Sure, emotions play a huge part in how one makes decisions, but how you feel isn't necessarily how the next guy feels (nor "should" it be...Paul's favorite word). I'm hoping for some rock solid math examples that stand up to (meaning that one could reasonably go either way, depending on how one feels), or that even refute Mr. Edelman's "11 Reasons," as I really did start this thread to re-open my mind on the topic, and want to learn some new things.

In my mid-20's, I was in the "pay it off as fast as possible" camp, probably basing how I felt on remembering the graph in personal finance class in high school that showed how much interest one could save by doing so. Then, I heard this guy on the radio talk about "11 Great Reasons to Carry a Big, Long Mortgage." I wanted to know the details behind this very contrary idea, and so I bought the DVD. I felt enlightened after watching it. Talk about "thinking outside the box!" I wish I had it with me now, actually, as he makes some excellent points in the video that he doesn't put in the article. I'd love to quote them, but it's been a couple years since the last time I watched it. I will do my best, if need be, but please don't take it as a direct quote from him.

I have read, and even re-read all of the replies to my original post. And, I have read over the article a couple more times, too. I've also spent several hours between yesterday and today doing further online research, and now I am ready to add my findings to the topic. Boy, is this ever a complicated issue! I have so many tabs open on my laptop, and have already learned so much more on the topic! It may take several days to get it all posted.

First, I want to say that I didn't start this thread to debate whether one should even purchase property (with or without a mortgage), or not, as that could be an entirely new thread on its own. But, here I want to touch on Joseph Lofthouse's points on stability issues. He's right about things always changing, and about life, in general, being unstable. But, does that mean that taking a risk is never a good idea? Joseph, I know that what you said is that volunteering for a mortgage is too risky based on the instability of work, relationships, laws, economies and plans. Using this "world view," would you say that even purchasing property with cash is too risky? Everyone has a different level of tolerance for risk, and this "capacity to endure" (quoted from online definition of tolerance) can be the sum of many parts, such as life stage and personality type. Back to the thread topic, and risk:

So, is getting a mortgage too risky, no matter what? If someone had $150,000 in cash, and decided to buy a $75,000 property, after, as Mr. Edelman suggests in his video (if I remember correctly), putting down the typical 20% in order to avoid paying PMI (Private Mortgage Insurance), and carries the remaining 80% ($60k) as a 30 year mortgage, are they taking a risk? I suppose so, but haven't they greatly mitigated any risk by keeping that other $135,000 liquid? Here I will add that in the video Mr. Edelman says something along the lines of, "now, you can't be stupid and blow that money." But, if we're talking about a very disciplined person, the type of person who was even able to save up $150k in the first place, OR, the type of person who was able to make extra payments on a mortgage and get it paid off faster (and who is now seeing the light of this contrary idea, and may be considering pulling out their equity), we aren't too worried they're going to blow that money, are we? So, is having a mortgage in this scenario too great a risk? I guess it would be to those with the very lowest tolerance for risk, but it seems to me that the vast majority of people wouldn't see this person as taking a big risk. (This paragraph is also partially directed towards Ann Torrance's comment on Reasons #8, 9, and 10 being unrealistic.)

Second, I want to talk about today, learning from what happened in the past, but knowing full well that no one can predict the future (but we're going to mitigate risk, and not take on more risk than we can tolerate, right?). So, we're talking about a hypothetical person/family wanting to buy property today. I'd say that the biggest thing in favor of the "11 Reasons" happening today is the historically low mortgage rates available. I haven't done the math, but I don't think this suggestion would have worked back in the 80's with those rates of 10% or higher.

Third, so, are there three camps?
Camp One: NEVER get a mortgage, pay cash in full for everything
Camp Two: Have a mortgage, but pay it off faster than the term
Camp Three: Have a mortgage, and pay on it as scheduled (and maybe take Mr. Edelman's advice, and pull out equity at some point, if it makes financial sense*)

*I interpret his advice on this as depending on each person's individual circumstances at the moment in question, AND depending on the state of the financial world at the moment in question.

I'm in the no mortgage camp. Mr. Edelman's advice sounds good while credit is cheap, but what happens when the music stops playing? Also he seems to be saying that paying off your mortgage is not the key to wealth. I don't see wealth as money. Time is wealth and a mortgage means I have to spend more time making money. If I grow a lot of my food (something I find satisfying) and own my home how much paper do I really need in the bank?

Ann Torrence wrote:
Actually, having a generous emergency fund AND saving up the bigger down payment BEFORE taking out the smaller mortgage (ala Dave Ramsay) sounds even better.

How does having a mortgage balance of $75,476 (because one put an extra $20k down), beat having a mortgage balance of $95,476 with that $20k liquid, in the scenario where income disappears for some reason. The payment is still due on either of the two remaining balances at the end of the month. Having a generous emergency fund in either case will help pay it, but having that extra $20k liquid undeniably adds to the security of this person's situation. The POINT is, that the mortgage balance at this moment makes no difference whatsoever.

Ann Torrence wrote:
#7 is bordering on fraud: "Still, you fret that your home’s equity is at risk. Can you protect it without having to sell?" and you do that by taking out equity by refinancing. And what if the value does fall? Walk away from the debt? Pay it back with the money you have invested elsewhere? In the Great Recession, recall that investment values dropped in parallel with the housing market collapse. And then the banks started calling mortgages.

First, I refer you back to Reason #1: "Your mortgage doesn't affect your home's value." The value rises and falls whether the property has a mortgage on it or not. If someone took out a "Big, Long Mortgage," putting just the recommended 20% down, right before prices tanked a few years ago, and someone else took out a mortgage, but put 40% down at the same time, and a third person paid cash for a property at the same time, they ALL lost out if they found themselves in a situation where they had to turn around and sell right after prices fell.

And second, Mr. Edelman addresses "the Great Recession" in the DVD version of "11 Great Reasons to Carry a Big, Long Mortgage," which I own. I'm going to do my best to convey his points. At that time, there was no law against banks calling up mortgages in full. That was what happened, and greatly contributed to the damage done at that time. Today, a for a long time since, a lender can not legally demand more than the monthly payment, on it's due date. This law came to be to protect us from another Great Depression.

I think it's more than just lack of risk tolerance that makes people decide to pay off a mortgage rather than hold onto more liquid funds. In the scenario you're describing it seems like reducing the liquid assets will make you less secure in the event of a financial catastrophe. In that view point, it's the person paying off a mortgage is the one with more risk tolerance. They're willing to risk that hypothetical catastrophe for a guaranteed reduction in their current and total expenses.

Interest that is added each month is a very real expense. Especially in the early days of a mortgage, the majority of your money just goes into keeping you from getting further into debt, rather than building your equity. You might have a that financial meltdown, but if you don't pay off your mortgage, you will pay many thousands of extra dollars to the bank, which would instead have become more liquid assets belonging to you in the future.

Does that serve as close enough to a mathematical example? I've already posted as much of my own finances as I'm comfortable with, so I'm not getting into more specifics there.

Corrie Snell wrote:Wow! Thanks for replying, everyone! However, very few of you are actually addressing the "11 Reasons." Most people are just saying how they feel on mortgages in general......

Troy already responded with the most important aspect of this - risk and change. Fancy math isn't going to change the underlying principles that you accept to be true. If you believe you will be steadily employed for decades, and you trust the financial institutions that provide your investments to be solvent for decades, and you trust the operators of those institutions to be honest for decades......... then hold onto a big mortgage. If you feel that these things are subject to risk and change, then take your financial future into your own hands and strive to have no debt - mortgage or otherwise.

Corrie Snell wrote:Wow! Thanks for replying, everyone! However, very few of you are actually addressing the "11 Reasons."

Alright, I'll bite... Note, Canadian mortgages are a bit different, so the details may differ.

1) 'Your mortgage doesn’t affect your home’s value."

So, if it doesn't affect your home's value, how is this an argument for holding a big mortgage, or a small one, or none? It seems like an arguable point, but it's not an argument for a big mortgage.

Seems to me he could as easily be saying "Your bra size does not affect your home's value", so you should obviously go get a boob job...

Also... if one wants to argue the point on its own merit, I would say that in MOST cases it's true, but should the market drop hard, the person with no mortgage has nothing to worry about unless unrelated circumstances force them to sell. But, for the people who have mortgages, the closer the value of the mortgage is to the value of the property, the smaller the drop they can weather without ending up underwater. Once you're underwater, if you don't have enough funds to cover that gap, you've got issues with the bank potentially refusing to renew your mortgage so that you are forced into foreclosure, or if circumstances force you to move, leave you unable to sell.

Being forced to sell at the low point in a market can certainly impact your long-term financial health.


2) "A mortgage won’t stop you from building equity in the house."

As his own graphic shows, long term it will most likely somewhat limit the equity, but not prevent you building equity. Another non-argument IMO. There are exceptions, which lead to the troubles described above.


3) "A mortgage is cheap money."

True, at this particular moment in time. Notably, outside the US, mortgage terms are generally much shorter than the amortization period, so you can't count on the mortgage remaining cheap for the whole length.

This one I'm on board with. If you want to borrow money to invest, doing it by way of a mortgage is the cheapest way to fly by far. In the US you might get to deduct interest depending on how you file; in Canada, you can't deduct the interest, UNLESS you take out a loan against the house specifically to invest. Not quite the same as a regular mortgage.


4/5) "Your mortgage interest is tax-deductible. And mortgage interest is tax-favorable."

This is pretty much the same point as #3. Mortgages are cheap money, and you may get to deduct the interest...


6) "Mortgage payments get easier over time."

Sometimes. If they do, it's due to inflation more than anything else. And the very low interest rates we've had for a while now, they don't stick around when inflation shows up. So, while this is a great argument, in that hard assets and loans are really good things to be in possession of when inflation strikes... it's not a real immediate benefit. If there's a deflationary environment, obviously the exact reverse is true.


7-11, I think Ann Torrence has addressed these quite well already.

I will point out that #10 is particularly unrealistic, in that 'Nervous Ned', being a nervous individual, has probably picked a mortgage that provides some flexibility to miss or defer payments. Or, even if not, he will likely be able to access some of the additional equity in his house by other means. He won't be in as good a position as Smart Sam in the example, but it's not as stark a contrast as described.



This article is pretty terrible IMO. Half the 'arguments' are specious fluff. The other half, other than number 6 which is really about gambling on inflation vs deflation, somewhat accurately describe the fact that mortgages are a cheap, tax efficient way to borrow money for investment purposes, ie arbitrage.

The fact that leverage/arbitrage always involves an element of risk is not well addressed.


Despite all the flaws, Corrie, I do agree that the low interest rates make this strategy particularly viable at the point, but ONLY for folks with the assets to have a substantial cushion, AND the intestinal fortitude to stay the course when markets freak out, AND the financial self-discipline to actually invest the money rather than spending it, are indeed likely to come out ahead by taking equity from a property and putting it into a BROADLY diversified investment portfolio.

By substantial, I mean, if your total assets are say 400K, and your house is 200K of that... taking out a 150K mortgage and investing a total of 350K seems reasonable. You'd be very unlikely to end up underwater overall. As the size of the loan increases relative to your total assets, the risk climbs...


Basically, if you lack the cushion and/or the nerve, this is pretty risky advice. And as pointed out above, most folks don't have enough cushion to make this strategy viable going by my risk tolerance. Maybe yours is different...

Okay I looked at some numbers. If interest rates are low then carrying a mortgage makes sense. You can either choose to stack cash inside your house or outside. Obviously having it outside your home gives you more flexibility on what to do with it. Hopefully you can invest it somewhere at a rate of return higher than your mortgage for a little arbitrage like he is mentioning in reason #10. But it doesn't work if rates go up from today's very low rates. Reasons #2, #3, #6, #7 all assume low interest rates, inflation, and never ending exponential growth in the economy. Rising interest rates are generally deflationary. But since we live in the present and the future is unknowable, lets work with that.

His math given in reason #10 is a slightly rosier picture on Smart Sam's net worth than it actually is, as Dillon noted. He shows that that Smart Sam's investment account is $94k ahead of Nervous Nick's. But that isn't the same as net worth. Nervous Nick's remaining mortgage balance is 150k and Smart Sams is 217k. Nervous Nicks net worth 150k if he sells the house. Smart Sam's is 177k if he sells his house, which he might have to to find a new job anyway. Smart Sam is ahead 27k, although he doesn't have to sell his home right away like Nervous Nick. If they lost their jobs because the economy is tanking and along with it home prices, Smart Sam may be upside down in his mortgage.

I do see the appeal of having cash stacked outside the home and the math works at today's interest rates. Lets assume two scenarios A and B for purchasing a $200k house with 20% down.

Sam the 3rd
30 year mortgage @ 3.5%
Payment: 718

Angie the 2nd
15 year mortgage @ 3.0%
payment: 1105

Sam invests the extra $387 he didn't spend on mortgage @ 5% for 15 years. Investment account $101k
At 15 years Angie now invests her payment @ 5% for 15 years. Sam continues to invest $387. Sam's investment account is $310k after 30 years, Angie's investment account is $288k. Sam has $22k extra at the end of 30 years, equivalent of making an extra $733 a year. Obviously the gap between the two would rise with a higher return on interest. If you raise the return to 7% the difference is $105k or at extra $3500 a year.

Lets consider the scenarios with real world numbers. I will consider 3 scenarios. All scenarios are for a $100k house

Scenario 1 uses the big mortgage paid out over long term. Owner pays takes out loan for $80k loan on house putting $20k down and investing $80k for the mortgage term of 30 years:

20,000 down
80,000 invest @ 7% = $608,890 ROI over 30 years
80,000 loan for 360 payments = $174,995 payments on house after 30 years @ 4% interest
486.10 monthly payment


Scenario 2 uses the small mortgage paid out over long term. Owner pays takes out loan for $20k loan on house putting $80k down and investing $20k for the mortgage term of 30 years:

80,000 down
20,000 invest @ 7% = $486,709 over 30 years adding $287 monthly (difference between monthly payment in scenario #1 and this one.)
20,000 loan for 360 payments = $71,873 payments on house after 30 years @ 4% interest
199.65 monthly payment


Scenario 3 uses the small mortgage paid out over short term. Owner pays takes out a 15 year loan for $20k loan on house putting $80k down and investing $20k for a term of 30 years:

80,000 down
20,000 invest @ 7% = $504,295 over 30 years adding $234 monthly for the first 15 years, then $486 monthly for the last 15 years (difference between monthly payment in scenario #1 and this one.)
20,000 loan for 180 payments = $45,378 payments on house after 15 years @ 4% interest
252.10 monthly payment


In a market with low interest like the one we are in right now. It makes sense, but when the interest rate rebounds to 6-8%, the model starts breaking when you consider risk vs reward. Earning a straight 10% ROI, it works, but the market is going to cycle at least 4 times during the 30 year period and you won't get a constant 10% interest on your investment. Below are the numbers with 7% house interest and 10% interest on investment:

Scenario 1 uses the big mortgage paid out over long term. Owner pays takes out loan for $80k loan on house putting $20k down and investing $80k for the mortgage term of 30 years:

20,000 down
80,000 invest @ 10% = $1,395,952 ROI over 30 years
80,000 loan for 360 payments = $229,107 payments on house after 30 years @ 7% interest
$636.41 monthly payment


Scenario 2 uses the small mortgage paid out over long term. Owner pays takes out loan for $20k loan on house putting $80k down and investing $20k for the mortgage term of 30 years:

80,000 down
20,000 invest @ 10% = $1,172,063 over 30 years adding $399 monthly (difference between monthly payment in scenario #1 and this one.)
20,000 loan for 360 payments = $85,401 payments on house after 30 years @ 7% interest
$237.23 monthly payment


Scenario 3 uses the small mortgage paid out over short term. Owner pays takes out a 15 year loan for $20k loan on house putting $80k down and investing $20k for a term of 30 years:

80,000 down
20,000 invest @ 10% = $1,188,266 over 30 years adding $352 monthly for the first 15 years, then $636 monthly for the last 15 years (difference between monthly payment in scenario #1 and this one.)
20,000 loan for 180 payments = $51,107 payments on house after 15 years @ 7% interest
$283.93 monthly payment

A Walton wrote:
Troy already responded with the most important aspect of this - risk and change. Fancy math isn't going to change the underlying principles that you accept to be true. If you believe you will be steadily employed for decades, and you trust the financial institutions that provide your investments to be solvent for decades, and you trust the operators of those institutions to be honest for decades......... then hold onto a big mortgage. If you feel that these things are subject to risk and change, then take your financial future into your own hands and strive to have no debt - mortgage or otherwise.

Should I not "risk" getting out of bed each morning because I might trip on my slippers and injure myself? Should I not "risk" planting a seed because the future seedling might get crushed and killed by my cat walking through the garden a couple weeks later? Should I not "risk" purchasing property (with cash OR with a mortgage) and put blood, sweat and tears into making it a Permaculture paradise because I don't know what the future holds? We must take risks, right? However, we can take steps to mitigate those risks. I can sit at the edge of my bed in the morning, see my slippers dangerously blocking the path I want to take to the bathroom and take action to mitigate the risk that I might trip over them by putting them on, or moving them out of my way. I can plant 5 seeds instead of just one, and to further mitigate the risk of losing my seedlings, I can set up some sort of physical barrier to protect them against that darn cat.

With your arguments, I'm not sure you can have it both ways, "taking your financial future into your own hands," while having a mortgage that you're only "striving" to pay off.

So, is that what it boils down to? You either have your financial future in your own hands by not having a mortgage, or you don't? And, if it is, what sort of implications would that have in the U.S., were your average person/family to adhere to the no debt whatsoever rule? In doing my research last night, I found this very interesting article:

http://www.epi.org/publication/bp224/

Watch out, more fancy math ahead. Sorry, if you're going to take your financial future into your own hands, it's going to involve some calculations.

The article is a few years old, but I'm thinking it's probably still very accurate. So, "on average nationwide" families of 4 need $48,778 per year to make ends meet for a "safe, but modest standard of living." Yet, according to the article, the median family income at the time was only $61,000 per year. At the beginning, the article touches on the need to save for medical emergencies, college tuition and retirement (I'll add purchasing a home/property with cash), but then does not include that in the components making up the family budget of $48,778. The difference left over, which could all go towards savings since they're adhering to the no debt rule, is $12,222 per year. But, what do you suggest they do with it, if they don't trust the financial institutions? Yikes, this poor family. And what about the family a few streets down, who is earning less than the median?

But, they're determined, they've hunkered down for the past 5 years and saved up $60,000 (allowing for a $1,110 bump in the road during 5 years). Of this, they're putting aside a 9 month's expenses emergency fund. That's $36,583. That leaves them $23,424. They're still renting for about $1000/month (I came up with this figure by averaging the two locations given in the article in "Figure C."). But, with no debt, that attractive emergency fund, and a down payment, they could easily be approved for a mortgage to get themselves a little homestead for $100,000 (put 20% down, mortgage on the remaining $80k), and the payment on that mortgage is less than HALF what they're paying in rent...but, they go into debt. If they don't want the debt, they have to keep saving for 6.5 more years to have $103,000 (property prices went up during that time) cash for the property. (We'll assume pay raises of an average of 3% get eaten up during these 11.5 years by increased rent). So, how is paying a landlord $1000/month (at a minimum, at the beginning) during those 6.5 years (for a total of at least $78,000!!!) better, or making them more financially free?

If they went for the mortgage 6.5 years ago, and paid only the minimum payment during that time, and saved the other $500---should we make it only $400 since in the beginning they're probably going to want to invest in infrastructure and other things to get their little homestead up and running?---they would have another $31,200 to add to the emergency fund they worked the first five years to save up. So, here I'm going to add in that for the past 6.5 years, while paying a fixed rate mortgage payment, that increase in pay from the first five years that had always been eaten up in increased rent, is now able to go into savings, too. I'm going to back it off the 3% I mentioned in the previous paragraph, though, and only give them 1.5% each of those 5 years, and 0% while continuing to work for the first 6.5 years on the homestead. That's only an average of .65% per year income increase over the 11.5 years in question, FAR below the 3% average, but I'm feeling stingy, and it's my story. But, at the beginning of their mortgage term, their income is now $65,714 per year, $4,714 per year more than at the very beginning of the story, and that $4,714 per year that they save for the first 6.5 years they're on the new homestead, totals $30,641. Add that to the $400 per month savings, and now they have $61,841 over and above their emergency fund. Right now, they have a mortgage balance of $69,602.

Now, it could be argued that the vast majority of their 9 month emergency fund was meant to cover their housing and food costs, should they lose their income. Again, taking a quick and dirty average from "Figure C" in the article, this was $1687/month back when they were renting. Now, 6.5 years into homesteading they are almost completely self-sufficient with their food production (which was almost $690 of their expenses per month in their renting days). Let's say they only need $100 per month now to cover things they can't produce on their own, like coffee and chocolate. I know my chocolate budget is big. And, we know that their housing cost was cut in half when they bought the homestead on credit. So, at this point they only need $600 per month to cover their food and housing costs if income fails. That's almost $1100 per month less than what they would have needed 7 years ago while renting, when they came up with their emergency fund figure. So, if they still want to have a 9 month emergency fund for expenses as they stand now, they really only need $26,683 of their $36,583 emergency fund. There's a $9,900 excess there.

They have the $61,841 saved up during 6.5 years on the homestead from not paying high rent, and from saving the raise money from years ago.
They have $9,900 excess in their emergency fund.
That's $71,741. Their mortgage balance is $69,602.

Wait a minute, at the beginning, they were going to have to save up for 6.5 years after their emergency fund to pay cash for the property. Now, at the same point in time, they could, if they want to, pay off their mortgage completely, and be in the same boat: no mortgage, no debt of any kind.

But it's not the same boat, is it? They were far happier the past 6.5 years, living on their homestead and watching their children and food forest grow. Their children, who were only 5 and 6 years old when they moved to the homestead, have only the faintest memories of living in the old apartment. They're far healthier today, after taking on debt for those 6.5 years, because instead of eating the "low cost plan" from the article, they were eating their own, high-quality, organic food. Do I need to go on?

The point I was trying to make is that every single little thing we do throughout the day is subject to risk, but that doesn't mean we don't do it. Instead, we mitigate the risk (even if it's subconscious). Yes, all the things you mentioned are subject to risk and change, but you didn't explain why the risk and the change makes it not worth doing at all, ever (have a mortgage).

Corrie Snell wrote:
How does having a mortgage balance of $75,476 (because one put an extra $20k down), beat having a mortgage balance of $95,476 with that $20k liquid, in the scenario where income disappears for some reason. The payment is still due on either of the two remaining balances at the end of the month. Having a generous emergency fund in either case will help pay it, but having that extra $20k liquid undeniably adds to the security of this person's situation. The POINT is, that the mortgage balance at this moment makes no difference whatsoever.

Have a mortgage balance of $75,476 AND the extra $20K of liquidity. Buy a smaller house.

Corrie Snell wrote:

Ann Torrence wrote:
#7 is bordering on fraud: "Still, you fret that your home’s equity is at risk. Can you protect it without having to sell?" and you do that by taking out equity by refinancing. And what if the value does fall? Walk away from the debt? Pay it back with the money you have invested elsewhere? In the Great Recession, recall that investment values dropped in parallel with the housing market collapse. And then the banks started calling mortgages.

First, I refer you back to Reason #1: "Your mortgage doesn't affect your home's value." The value rises and falls whether the property has a mortgage on it or not. If someone took out a "Big, Long Mortgage," putting just the recommended 20% down, right before prices tanked a few years ago, and someone else took out a mortgage, but put 40% down at the same time, and a third person paid cash for a property at the same time, they ALL lost out if they found themselves in a situation where they had to turn around and sell right after prices fell.

Let me make my point more clearly. Taking out a mortgage does not "protect" one's home equity. Imagine your home is worth $500K today, and you take out a $400K mortgage, bank that money in some foreign bank. Next week the market falls and the home is suddenly worth $300K. Yes you have $400K in the bank. You also have a $400K obligation. If you were entirely rational and unethical, the correct mathematical decision is to walk away from the mortgage, leave the bank (hey it's all a betting game anyway, right?) taking the loss. If you liked the house, you could buy it right back with the $400k and pocket the difference. That is taking it to the extreme to make my point. No equity is protected by taking out a mortgage and it is misleading of him to suggest otherwise. When I spot something that egregious, I view the author's agenda with suspicion.

As an investor if you can collect $1000 in rent and pay $800 in mortgage on a 15yr loan or only pay $400 on a 50yr loan. From a cash flow stand point the 50yr loan makes more sense.
In fact if you can leverage other peoples money and make a profit you should always try to borrow as much, for as long.

However a personal house does not generate an income, and so the make the renter a slave to banker with you as a middle man doesn't quite work.

Also with your 99th investment house with the longest mortgage if you have to leave it doesn't really affect you. You still have an house, and if you had the building the right corporate structure the bank can't event ask you for a dime, even if they can most state laws prevent ceditors from taking your primary house. However with your 1 and only personal house at 69yrs old if you have to leave it, you are now homeless, because the bank who loan you the money from it can take it away.

Casie Becker wrote:I think it's more than just lack of risk tolerance that makes people decide to pay off a mortgage rather than hold onto more liquid funds. In the scenario you're describing it seems like reducing the liquid assets will make you less secure in the event of a financial catastrophe. In that view point, it's the person paying off a mortgage is the one with more risk tolerance. They're willing to risk that hypothetical catastrophe for a guaranteed reduction in their current and total expenses.

This is a very good, and interesting point, Casie.

John Wolfram wrote:I'm a fairly regular poster at the Bogleheads forum where the pros and cons of carrying a mortgage are routinely discussed. While I fall into the camp that supports carrying a mortgage a not paying it off, the main arguments against Ric Edelman's are A) extra peace of mind that comes with having a paid off mortgage, B) for those in low-cost-of-living areas the standard deduction is often better than itemizing so you don't get the mortgage deduction, C) paying off your mortgage provides a guaranteed 3.5% to 4% rate of return, that's amazingly high when compared to other guaranteed investments like U.S. bonds, or interest at an FDIC insured bank.

Corrie Snell wrote:Argument "A" is a totally personal feeling. The next guy will feel more peace of mind maintaining liquidity, as Mr. Edelman is suggesting.

Indeed, but for those in pay-it-camp the peace of mind they get from a paid off mortgage is often a big deal. Some people get financial peace of mind from a paid off mortgage, other get it from a low-risk job, and others get it from a can of silver coins buried in the back yard. Different strokes for different folks.

Corrie Snell wrote:Argument "B" is the type of thing I'd hoped to learn by starting this thread. But, I'd still like to know if despite that, the rest of the "11 reasons" could still add up to having a mortgage make sense for a person who takes the standard deduction.

Absolutely, I have yet to successfully itemize my mortgage interest (though I try every year with Turbo-Tax), but getting a mortgage has worked out wonderfully for me so far primarily because of #3: A mortgage is cheap money right now...which is also why I haven't paid enough interest to make itemizing worth while. The way I see it, a 3.5% interest loan is pretty close to an interest free loan once you factor in inflation. When I bought my house, I could have sold stock and paid cash, but chose to get a mortgage. So far, that decision has played out wonderfully so far, but I'll readily admit that the timing of buying a house in the summer of 2009 had a lot to do with the success.

Corrie Snell wrote:Argument "C" I don't fully follow. Would you mind expanding on that, or pointing me in the direction of where it is well-explained?

Basically, if you were to group all possible investments into one of three categories: low risk, medium risk, and high risk then paying off your mortgage would have one of the highest rates of return in the low risk category. Other things in that low risk category (US government bonds, bank interest, etc.) are currently only paying ~1% while paying off a mortgage has an effective rate of return of maybe 4%.

Corrie Snell wrote: I'll take your clarification a couple steps further by explaining "least expensive," as meaning "find a good deal." For example, if one is searching for a home in a specific neighborhood where all the homes are fairly cookie-cutter, and have similar values, then picking the least expensive one automatically increases the equity by a bit.

I wouldn't necessarily equate "good deal" with least expensive house that will suite your needs. For example, if you need a 3 bedroom 2 bath house and they generally sell for a $200k, but a 10 bedroom 15 bath mansion comes on the market for $225k that would be a screaming good deal...but it's not the least expensive house that suites your needs. Or put another way:

We saved about $100,000 on our small, cheap house by first refinancing from a 30 year mortgage at 8% to a 15 year mortgage at %5something and then paying it off after a total of 15 years. There's no other investment we could have made which could have "earned" us the same amount of money with the same degree of risk.

It's hard for me to wrap my mind around arguments in favor of carrying debt. But I am extremely debt-averse.

http://www.bankrate.com/calculators/managing-debt/annual-percentage-rate-calculator.aspx

Sherri Lynn wrote:Of course, if I had to do it over again, I would try to avoid the mortgage the first time. I would read the books Twelve by Twelve[/ i] and [i]Possum Living. I would start small with a plan I could add onto as my family grows, like they used to do. Only this way would give us the power to keep employers from exploiting employees, because they know they have to work.

Well stated, Sherri Lynn. This is entirely true for me, although it wasn't the primary reason I quit my job and moved halfway across the country on to live on 11 acres. I used to work for a large and well-known medical education facility. Each year we employees were required to go onto the facility's appropriate intranet site to post our reasons for opting out of the influenza shot/spray for that year. At the time I left, almost two years ago now, I bet that within five years there would be no option of declining the shot/spray. I truly believe that such "workplace bullying" will only increase. Being able to say "no" to such practices is a real blessing. And although I do have a mortgage, sadly, I at least don't have to deal with such nonsense and near-criminal activity.