Lazy Man and Money

Mortgages: To Pay Off Early or Not to Pay Off Early…

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… that is the question. Whether ’tis nobler in the mind to be free of debt, or to invest, perchance to dream of outrageous fortune.

If you thought I was going to continue writing in pseudo-Shakespeare, you don’t know me very well. Or maybe you know me too well, because I do love a good writing challenge.

Pay Off Mortgage Early?There’s a lot of debate in the personal finance community about whether you should pay off your mortgage early if you can afford to. I’ll share my opinion on that in a little bit. Before I do, I want to make it clear that this is a topic with no definitive answer. Even with my own strong feelings on this one, I can look at the other side and say, “I understand and appreciate your view.”

So if you aren’t going to find any definitive answers, why continue reading? It might help you decide what is best for you and your situation.

Let’s review what each camp has to offer:

Pay Off Your Mortgage Early

There’s a psychological weight to being in debt. While most will agree that mortgage debt (especially at current rates) is good, responsible debt, it is still debt. Until you’ve paid off your mortgage, it’s likely your biggest expense. After you’ve paid off your mortgage, it may be transportation, or food, or property tax. You are a lot closer to financial independence when you eliminate such a big expense like a mortgage.

There’s also a component of certainty. If you have a 5% mortgage, you are getting a guaranteed 5% return on your money by paying off the mortgage early. You can’t get that in a bank account – especially now. You can’t get any kind of guarantee in the stock market which can move in crazy directions from day to day. We’ve seen that happen a lot this year.

Invest the Mortgage Money Instead

Another school of thought is that it’s best to invest any extra money instead. Most people expect the stock market to earn about 7% or more over the long run. That’s a lot better than most of the mortgage rates out there which are probably around 4% (or could be less with refinancing).

Most mortgages are 30 years long – plenty long enough to smooth out the gyrations of day-to-day stock market. Even 15-years (like the other popular fixed mortgage option) is almost always enough time to see stronger returns on stocks.

Almost no one disputes the math of investing in stocks is better than mortgage debt. Even the people in the “pay off your mortgage early” camp typically won’t argue the math. Instead they’ll point to the psychological benefits of alleviating the burden of debt. They’ll also point to the guaranteed X% return noted above.

My Choice: Pay Off Mortgage or Invest?

I strongly prefer mathematical solutions to psychological ones. Sometimes our brains play tricks on us. Math is consistent – it doesn’t play tricks on us.

Let’s say that I have $200,000 left on my mortgage (4%) and somehow lucked into $200,000 (it’s hypothetical, work with me). That mortgage has 25 years left on it. If I pay off the mortgage right away, I’ll save myself from having to pay $533,167 in mortgage payments and interest [Calculation: ((1.04^25)*200000)]. That sounds like a great move. However, if I invest instead, I would have $1,085,486 [Calculation: ((1.07^25)*200000)]. There are some minor things like taxes and inflation to consider, but they are not enough to make up for the fact that investing is mathematically speaking almost twice as good as paying off early.

I’ve heard some people say that they are so happy that they paid off their mortgage – especially now*. With unemployment so high and income so uncertain, being mortgage-free has to be a great stress reducer.

However, we’ve been saving and investing since we bought our house in 2012. We’ve enjoyed a fantastic ride on the stock market. However, even if it was an average ride, we’d have enough saved up that we could choose to be mortgage-free as fast as the banks can make the money move.** Plus we’d have a lot of money left over. That’s what I consider my great stress reducer.

One of the problems I have with paying off your mortgage faster is that the money is gone right away. You don’t have the money under your control any more. If you put all $200,000 into paying off the mortgage, lose your job, and your car breaks down, can you come up with the money to fix it? If you’ve invested the money and still have control of it, you can continue to make mortgage payments, fix your car, and eat if you lose your job. You have the money to buy you time in making all those payments in such a terrible scenario.

As strong as I feel about investing, we went with a middle ground. We got a 15-year mortgage with a lower interesting rate (a very, very nice bonus!). This forces us to pay off the mortgage earlier than most people. This past weekend, a friend of mine said that she’d never be able to pay off her mortgage. (It’s done in 2037, which can feel like never, but probably comes up on us quicker than we think.) In 2012, it seemed like 2027 would be “forever”, but it doesn’t feel like that anymore.

We are also able to save money each month to invest. We saved and invested a lot over the last decade. I feel that a 15 year mortgage is ideal if you have the income.

Final Thoughts on Paying Off Mortgages Early

I was inspired to write this by an article that had nothing to do with mortgages. Miranda Marquit wrote about her Taxable Investment Account/Emergency Fund and I thought, “That’s somewhat similar.”

Most gurus would say that you shouldn’t put your emergency fund in a taxable investment account. Emergency funds should be very safe liquid investments. However, she has a tiered approach with some safe liquid cash and more in invested in equities. It’s worked out very well for her and provides her with a larger emergency fund today than she would have had otherwise:

This tiered approach allows me immediate access to cash while I liquidate investments. It works for me because I end up with a higher rate of return with the money in a taxable investment account. For example, I’ve got a 13.3% cumulative time-weighted return with the taxable investment account, since the beginning of 2010, when my return with my savings account has been 3.6%.

Marquit has some safety, but also a lot of growth. This seems similar to investing with extra money instead of paying off your mortgage early. I feel I get that safety of control over the money, while growing my nest egg for more safety (or enjoyment) down the line.

What do you think? Let me know in the comments below.


* Is that the 4th or 5th time I made use of “especially now”?

** Most of our investments are in retirement accounts, so we would get a penalty if we cashed out to pay off our mortgage. However, we could do a partial cash out of a little of our investment profits to buy us a year or two of mortgage payments.

Reader Question: How to Manage RMDs

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How is it going? Wait, is there any point in asking?

We’re mentally in a difficult place. My kids are turning in schoolwork that literally just says, “School is bad” a bunch of times with a sad face at the top. There friends join the video conference and say how sad they are. Even our dog is sad almost all the time. I know that many of you are sad too. I hope you can find something to make the day a little better.

It’s been a tough time to write blog posts. Finances are either mostly okay for some people or terrible. I don’t know how to write about unemployment during this time. I’ve got nothing to share except for sympathy… and I’m not sure that’s useful. We’re fortunate that money is okay for now. I’m not making much with the blog, and there are no dogs to sit, but our passive income is doing okay. My wife’s job is still paying well. Our spending is down, so that’s helpful.

I had a reader reach out to me the other day with a different topic. This may not be the time to write about this, but the thought exercise made me feel better… almost like I can pretend things are normal for a little while.

How to Manange RMDs

For those that don’t know, RMDs are Required Minimum Distributions. If you are 72 (it used to be 70.5), the government wants you to start getting your money out of tax-advantaged accounts so they can tax you. Thus they require you take the money.

I’ve never thought much about this. It’s still quite a few years in the future for us and it falls into the category of a “good problem” to have.

However, the reader raised some interesting questions. (I’m not going to the share the whole conversation, just the highlights.)

In her case, she’s got a pension, Social Security, and this nest egg of savings. Between all that, she’s making more now than she was working. Most people expect to earn less in retirement and be in a lower tax bracket, but that’s not how it seems to be working out.

To compound the “good problem” to have she has few expenses with the house and car paid off. She has some things like lawn and snow removal, but I got the feeling they aren’t too bad.

She’s getting an excess amount of cash from RMDs that she has to take. Unfortunately, there aren’t a lot of good places to put that money. Banks are paying almost zero interest. CDs aren’t much better. This is a scary time to invest in the stock market. Personally, I feel that it might drop a lot. It doesn’t seem normal for the market to only be down 10-15% when unemployment is going through the roof and corporate profits are in the gutter.

I don’t have a lot of good answers for this reader, but I felt like I should try anyway. Here were some ideas I had:

1. The most important thing, is to have a financial expert look over the situation. A Certified Financial Planner (CFP) is a good start. One of my goals for the year was to do this for our own family. However, it’s hard to do that with businesses closed. If this isn’t possible, that’s not easy.

2. Invest in a bond ETF. My favorite is Vanguard’s BND. It pays a 2.5% dividend. That’s not very high, but it has been very safe during these times so far. It’s still high enough that it can support most people if they have other sources of income like a pension and Social Security.

3. A diverse, high-dividend paying ETF. I personally like iShares HDV ETF. It’s paying a 3.4% yield now, which is a lot better than banks. Of course, the stocks in it can go down (see above warning about the stock market), and companies may stop paying dividends. Without work and profits, it’s hard to imagine them having the cash to pay big dividends.

3a. Dividends are taxed at a favorable rate. This means that the earnings aren’t taxed as income, which would be in a (likely) higher tax bracket. As always, check with your tax professional about this.

4. Look into QLACs. A QLAC is a qualified longevity annuity contract. That’s a mouthful, right? It’s also a good topic for a finance professional. Essentially, as I understand it, QLACs allow people to put 25% or $135K (whichever is lower) of their retirement savings in another account that doesn’t get taxed. I want to stress that I don’t know this very well, so please see someone more qualified.

So that’s what I have. Do you have any more ideas? Most of these don’t really solve the RMD issue itself, but at least it helps manage it a bit.

I’ve been looking at investing more outside of pre-tax retirement accounts because the dividend tax treatment is so much better than regular income. Most of those ideas are on pause for now, as we try to navigate COVID-19.

Be Happy With However the Market Moves

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“Any way the wind blows doesn’t really matter to me” – Freddie Mercury

I’ve been writing about investing a lot this year. I don’t usually focus so much on one area of personal finance. The year started with quite a run and now the markets are fluctuating a lot as news of the COVID-19 starts to directly impact the world’s economy.

Beach Dog
Beach Dog doesn’t care about the markets at all.

I was talking with a friend last week and she said something that shocked me. We talk about investing a lot. We talk so much that we probably don’t need to talk about it because we know what the other person’s philosophy is. What I found shocking was something that I knew about her, but I had forgotten.

It was (paraphrased):

I set up my asset allocation so that I don’t care what the markets do.

This may be an easy thing to say. It might be tougher to follow. There are also extreme unlikely cases (for example: Dow 1,000) that she would care about. I’ll get to those in a minute, but first…

… what a goal!

I had never thought about not caring about the markets, because I do care about the markets. We’ve watched our net worth quadruple over the last decade and are arguably financially independent (or FIRE as the cool kids say nowadays).

I couldn’t imagine not caring about the markets until I remembered the time I didn’t. That was the crash of September 2008. My wife and I were on a trip to Thailand and Australia. I was honestly more concerned about the state of Tom Brady’s knee than anything financial.

In trying to analyze why that was, I think it was a few factors:

1. I never get to travel the world, so I wasn’t going to mess up this chance.
2. I couldn’t do anything about it anyway.
3. Tom Brady’s knee (worth mentioning again)
4. We were 32 years old. Old enough to have some nice savings, but young enough to accumulate shares at low prices before we’d need to use the money for retirement.

At 44 years old, my outlook has changed. We have more money in the market now. We have less time in our career.

My friend is older than me. Her investing strategies are more advanced than mine. I used to be a 100% stock person and now I’m a 88%/12% bond person. She’s probably closer to 50% stocks/40% bonds/10% treasuries-cash-gold. (This is a little over-simplified as we both have some REITs and other investments like that.)

She has written an investment policy statement (IPS) that balances her allocations whenever the market goes up or down. For example, with stocks dropping about 12-15% last week, it triggered and event to sell some bonds or treasuries and buy the cheaper stocks. I did the same myself.

It actually felt good to sell bonds and buy stocks at a lower price. It certainly feels than when I was in 100% stocks and having nothing I can do to buy on the dip.

Do I Care What the Markets Do?

That’s the key question you want to ask yourself. It’s okay to care. It’s okay not to care. This is a judgment-free zone. Personally, I like the idea of having diversification to limit losses and give me options if the market moves down. I’ll always root for it to go up, but I’m finding it more important to feel okay when it goes down.

Of course the famous Mike Tyson quote applies here:

Everyone has a plan until they get punched in the mouth

With the market down 12-15%, it has felt a little more like a love tap than a punch to me. I don’t know how I’d feel if the market goes down 40% like in 2008. I know I won’t sell. I probably will not be very fun to be around.

I think that answers the question for myself. I do care what the markets do, but I have much more flexibility so I don’t care as much. I have some work to do before I feel like I can get my friend’s philosophical place.

Should you have a goal to not care what the markets do? Let me know in the comments.

Two Ways to View the Coronavirus and Financial Markets

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Unless you’ve had your head over the last couple of weeks, you’ve read the coronavirus is spreading. (If you have had your head buried in the sand, please tell me where, because I want an invite.)

You’ve probably also heard the headlines about the market crashing. I’ve seen some people reminding people not to look at their 401k plans. I see the market down about 12% from its highs and it is set to drop another couple percent today. For most people, especially if you are still contributing to 401k plans, not looking and staying the course is likely the best path foward. It’s a good time to buy in low since the markets have been up so much over the last few months.

Some of the people I’m talking to are doing something a little different. I’m doing something different too.

Last month, I wrote about how I’m managing stock market risk in 2020. Specifically, the stock market was hitting new highs almost every day. What a different a month makes! I was getting nervous that the Shiller P/E was high (around 34) and the markets were up 30% for the year. Since I still hope to be invested for decades of life, I didn’t want to exit the market even though it seemed risky. I thought the market seemed risky back in 2015, so staying invested is important.

I decided to manage risk by selling some international stocks and using the money to buy bonds. That has been very helpful this week. The bonds have been holding up very well while the rest of the market goes down. I also sold off half of my diversified VTI total stock market index and bought HDV, a high dividend ETF. That didn’t work so well as HDV has been hit just like the general stock market. At least I’ll get a dividend check to buy at these reduced levels.

With the market down 10% in such a short time, I took the opportunity yesterday to sell a little of those bonds and buy in. It wasn’t much, but it was enough to make me feel better about the down market. I also bought oil (Ticker: USO). It’s down 30% from its highs. Long term I’m more interested in solar, but oil was just too cheap for me to ignore.

The market continued to go down yesterday and today it’s looking like it’s going to be around 15% off its highs. I’m debating about cashing in some of those bonds and buying again. If I liked a 10% off sale, a 15% off is even better, right? Well, I can only sell off bonds for so long. I have only about 12% of my portfolio in them. I was thinking about selling off 2% or 3% at a time, so I can buy in 4 or 5 times if things continue to drop.

In market times like these, I find it’s best to focus on accumulating shares of indexes and companies. If you focus on the money you’ve lost, you’ll probably be sad. If you look at it as your money buying more shares, you’ll feel better. I was paying $170 for a share of VTI not too long ago, and now I’m paying $150. I am able to get more shares. Over the long run of a decades, more shares is going to equal more wealth.

Of course the big tragedy here is not related to the financial markets at all. It’s the people who are getting sick. I wish I could something about that and I feel a guilty about “profiting” (accumulating shares at lower prices, but I am definitely losing money like most everyone) from such a terrible circumstance. At some level, I just have to focus on controlling what (little) I can control and remembering that I write a financial blog. It’s okay to write about financial things at a time like this, because that matters too, right?

Masterworks Art Review: Become an Art Investor!

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I’ve been writing a lot about traditional investing over the last couple of months. Today I’m going to let the pendulum swing the other way and write about a non-traditional investment – art.

Have you ever wanted to invest in art? I have. Though it’s not because I love art. I like art, but my taste in art is not shared by many. The reason I’d want to invest in art is simply because it indicates that I’ve reached a certain (high) level of financial success. When I think of the average art investor there’s a monocle and a top hat involved. Don’t you have a similar picture?

That may be an outdated view of what the super wealthy look like, but you get the idea. I’m not sure if I’m the art gallery kind of guy. Plus, if art galleries aren’t going to sell to Daniel Radcliffe then they certainly don’t want anything to do with me, right?

What is Masterworks

Masterworks is an investment platform that is an alternative to typical stocks, bonds, and real estate. Masterworks focuses on art (hence this article’s title). Like many of the real estate crowdfunding websites, people own a fraction of a painting. No, it’s not like owning Mona Lisa’s eyes. That would be gross! Instead you own a fraction of the value of a painting, just like when you buy a stock you own a fraction of the company.

If you are a fan of art, throwing a million dollars on piece isn’t reasonable. Maybe Harry Potter can pull it off, but I certainly can’t. I can, however, put fewer dollars to work and tell people at parties that I’m an art investor. Better yet, I can give my wife a real Monet for her birthday (or part of one).

Why Invest in Masterworks Art?

Recently a bunch of billionaires got together for the annual Davos conference. They seemed depressed. They have a lot of cash. With the stock market continuing to soar, they have few places to invest it. There are just no bargains to be found. Many may also be concerned about the COVID-19 coronavirus and how that may impact earnings that companies like Apple have warned investors that it isn’t looking good.

Maybe they should invest the cash in art? They probably already do.

Why should you invest in art? Maybe you find yourself thinking the same kind of thoughts. You may have noticed that I’ve become bored with traditional investing (example: investing for 2030). If you are feeling the same way, non-traditional investments could be a good place to look. Art isn’t correlated to stocks, bonds, or real estate. So if the market goes down, it may retain its value.

How Masterworks Works

Masterworks uses a database of more than a million art sales to determine the artwork that best fits its objectives. They analyze whether the artist appreciates well and whether he/she has a large base of collectors. According to the website they look for “historical appreciation rates between 9-15%.” Rather than go into all the methodology here, you can read more about how Masterworks works here.

Masterworks physically buys the painting and puts it on display in New York City. As an investor, you can set up a member’s only viewing appointment. After all, you should be able to see your own art, right?

If a collector makes an offer on the artwork, the shareholders of the art get to vote on whether to sell. If it is decided to sell, then the transaction is made and everyone gets their share of the sale. One thing to keep in mind is that if a collector doesn’t make an offer, you can’t simply sell shares. Masterworks seems to be exploring the ability to trade shares, but that feature is likely to be coming down the line.

I wouldn’t expect a quick turnover in this kind of market. It would be the kind of investment that you buy and hold for a long time.

How Does Masterworks Make Money?

This is always an important question to ask when investing your money with other companies. Masterworks keeps 20% of the profit from the sale of each piece of art.

In addition to what Masterworks keeps, there is a 1.5% annual fee for storage, transportation, and insurance of the artwork. I look at that as just the cost of doing business when you have to handle physical assets.

Final Thoughts?

I honestly didn’t think that art investing was for me. I still don’t know if it is. However, now that I see that they have an actual Monet – my wife’s favorite artist – I might not have much of a choice. If I invest, I may take the trip down to see the art. I might find that I’m an art gallery type of person after all.

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