Investing 102

[GregWeld]

I forgot to do a little more math on the deduction question as posed by Rodger (Ironworks).


If the guy was making 100K -- and NO interest deduction -- and for our purposes we'll put him in the 28% bracket... so he has a tax due bill of 28K....

But had he had at 25K interest deduction -- he has a 75K income - but may only be at 22% now... so owes 17.5K tax due.... there's a 10K "savings" in taxes...

But he's paying 2K per month on a house payment... but now if you subtract the 10k savings -- he's only paying 14K (per year) or about 1200 a month...

This all becomes even "more" at larger income levels... so it all 'depends'.

[GregWeld]

Originally Posted by ironworks

Yeah, that's what I'm saying, but wouldn't he have more money in his pocket at the end of the year if he did not pay the interest? ( 15 year term instead of 30 year term ) The higher taxes on the money you could have spent on interest (TAX FREE) have to surely be less then the interest paid. So what if it puts you in a higher tax bracket. Your not paying all that interest either.

I understand it all depends on each persons own position, but I think the more money that ends up in your pocket the better.

Back to the shop.

Yes -- a guy would probably have more money NET in his pocket if he had no payment... but most people have to live somewhere.... and that has a 'cost' attached to it. If you're house is paid for - but that cash is tied up and so is not earning you anything either.

Obviously the best scenario is to have no payment and no taxable income and have enough to live on... but for about 99% of the population that just isn't how it works out.

I keep a mortgage to offset some income that I have that puts me in a higher bracket... and the invested cash earns more than I pay out... but that is NOT the normal situation.

[Bucketlist2012]

Originally Posted by GregWeld

Yes -- a guy would probably have more money NET in his pocket if he had no payment... but most people have to live somewhere.... and that has a 'cost' attached to it. If you're house is paid for - but that cash is tied up and so is not earning your anything either.

Obviously the best scenario is to have no payment and no taxable income and have enough to live on... but for about 99% of the population that just isn't how it works out.

I keep a mortgage to offset some income that I have that puts me in a higher bracket... and the invested cash earns more than I pay out... but that is NOT the normal situation.

I agree. I could pay off the house, but at 4% interest, why ? I make more being invested..

I am also the 30 year loan type of guy...I don't need a paid off house and less investments. But that is a personal choice.

Plus the write off, and inflation, and I am paying 3%... I can make that throwing darts to pick my stocks..

Also a side note..We just got back from the Ahwahnee Hotel in Yosemite...

That is how I like to camp....Presidential suite...

[ErikLS2]

This can get complicate real quick and Greg makes some good points. Another thing you have to consider is what your return is on the principal part of your payment as this money is essentially a re-investment in the house, kind of like a company buying back it's own stock. If the house was bought right, meaning probably relatively recently, then there's a chance it might see some decent appreciation in the next few years in which case the higher principal payment of a 15 year note might pay off. But, like Greg said, you can accomplish this by adding to your payment each month too if you have a 30 yr. In the end though I think it's good advice to not look at your house as an investment and looking back a few years from now any loan you get these days at these rates will be a killer deal.

The only thing we know for sure is what we don't know. We don't know what's going to be tax deductible in coming years. We don't know what the value of houses or stocks are going to be in the future. We don't know anything at all about the future for sure really or if there will even be one.

What we do know is this is one helluva good discussion.

[GregWeld]

Here's a very interesting informative article I stumbled on regarding what the SUPER RICH pay in taxes... and some interesting % numbers that just might surprise you... and it's not the % on the super rich that surprised me!

http://www.cnbc.com/id/47704712

[takid455]

A thought on the long term mortgage. I have always been tought to pay off debt a quick as possible so you dont pay interest. While interest is tax deductible, its still more interest than tax savings.

You would have less principle invested in house or property if paid off sooner than later.

Ex
house = 300k
interest say 6% (taxes, fees included)
you would pay almost 600k at the end of 30yrs

Guess is your other investments are yielding greater than the loan interest, that would be a reason to hold off on quick payment.

[Woody]

The others have made some good points, but I I thought I would add a few other things to think about. First of all this is not an easy question to answer and is very dependent on the individual. The first thing to consider is that you can generally get a lower rate with a 15-year than a 30-year and the amount of interest saved is rather large between getting a lower rate and borrowing the money for a shorter time period. For example, if you have a $300,000 loan at 4.0% for 30-years vs. a $300,000 loan at 3.375% for 15 years, the amount of intestest savings is $132,879. However, you are paying (investing) an additional $694 per month to get that savings of $132,879. The question you need to ask is can you invest $694 per month over the next 15 years and end up with more than $132,879.

The answer is it depends on what you invest the money in and how the investment performs. By selecting the 15-year loan, you are essentially selecting a "safe" guaranteed return. As long as you make the payment, you are guaranteed that return. If you instead take the 30-year loan and invest in the stock market you are selecting a higher risk investment with greater return potential, but no guaranteed return. While you can argue that the stock market has had a long-term average return of x% (7% 8%,9%), there is no guarantee you are going to get that return in the future. You are taking on more risk to potentially get a higher return. So the question becomes what is your risk tolerance. Do you want the guaranteed return or are you willing to take on more risk for the potential of a higher return, but also with the potential for a lower return.

[Vegas69]

I see what you're saying Greg. I'm basically dong exactly what you recommend investing X amount in the market every month with a 30 year. I pay a little extra every month on the house as well.

One variable that hasn't been mentioned is interest rates. I'm 35 and when I'm your age, are interest rates going to be 4% on a 30 year fixed? I seriously doubt it. Since we are talking history here, 30 years ago rates were 20%. To me, that's a major game changer in this discussion and a variable that can't be ignored. At that point, I guess the decision can be made to cash out the stocks and pay off the house. However, that would be a major tax burden.

My game plan is to secure 4-5 single family homes at these low prices/rates in the next 2-3 years max. Cash flow them and have 4-5 free and clears in 15-20 years for residual income and continue to invest X amount into the market in meantime. I can play the primary mortgage by ear.

[Bucketlist2012]

^^^^^^

Exactly what Todd says..

Anyone who thinks that interest rates will be this low forever, better re think their strategy..

I paid credit card rates for a home loan once.. Never again..

I have a 4% loan now, and I am about to purchase another life changing property for 3.5%.

This is historically low, and down the road , this will put you in a position to be comfortable in a fixed loan when the Sh-t hits the fan..

Once you have the low rate home loan, you can then concentrate on Investing..

But we must live somewhere, so why not lock in historically low rates...

[GregWeld]

Todd -- good discussion...

So here's the thing I think most folks "miss" when we're discussing a primary residence....

This is NOT an investment. It's simply OVERHEAD... it's your home. It generates no real return because in order to do so - you'd have to sell (cash out) and if your home has risen in price -- so has everything else. We don't live in a vacuum so the same inflationary % is generally on EVERYTHING including whatever new place you buy.. so that is TRADING DOLLARS.

Now -- if you choose to downsize when you're older... and take out some equity fine... but you'd have had far more equity if you'd invested. Far more as in triple or double... and if truth be really discussed... had you invested wisely and gotten just the normal historical return - you won't NEED to downsize.

I don't care where anyone gets their facts from -- HISTORICALLY the stock market has outproduced real returns on real estate.

A quickly done search and cut and paste:


....over the long run stocks win easily. A new study by Jack Clark Francis, a finance and economics professor at Baruch College in New York City, and Yale's Roger G. Ibbotson compared the annual returns of real estate from 1978 to 2004 compared with those of 15 different "paper" investments, including stocks, bonds, commodities futures, mortgage securities and real estate investment trusts (REITs).

The results? Housing delivered a solid but unimpressive annualized return of 8.6%. Commercial property did better at 9.5%. The S&P, however, delivered a crushing 13.4%.

Other studies argue that real estate's returns are much worse. Yale finance and economics professor Robert Shiller, author of Irrational Exuberance, who looked back to 1890, contends that only twice has real estate produced truly outstanding returns: after World War II, when returning troops were starting their families, and from 1998 to 2005, a period he thinks is a bubble.

Housing's rate of return, he argues, has to trend back to the mean of about 3% a year - barely above the inflation rate. If that's starting to happen now, he says, we could be facing many years of losses.


Here's my point in all of this.... A house is just a home - it's NOT an investment in the true sense. We like to talk ourselves into thinking that it is - but in reality it's not. The fact that we might sell at a higher face value than we paid -- doesn't really crunch the actual numbers.

So let's separate INVESTING which returns real cash you can SPEND and a cost/overhead expense cash eater.

Having a plan and sticking to it --- get a LOW COST FIXED mortgage not a variable... then DO NOT EVER use your home as a cash machine. GET THE SOB PAID OFF. Once you do that - you reduce your overhead expense and put real cash back into your pocket.

BUT at the same time people need to invest - regardless of how you make that happen that needs to have TIME and we've done that exercise numerous times in this thread.... so the same discussion we're having about saving interest expense and the amount of savings between a 15 and a 30 year mortgage. That's the very same math that needs to be applied to your dividend and interest compounding on your investments. Investments GENERATE cash... and they should also incorporate GROWTH for a real TOTAL RETURN. It's the TOTAL RETURN that people under appreciate and I'll take 100% T/R over a savings of 2 or 3% in a tax savings argument. Most are overlooking the T/R of a good investment for the short term monthly savings of a house payment. I think that's why Americans are broke. The only "investment" they think they have is their house... and sadly... it's why they're greeters at Wal-Mart when they're 70+ years old.