Lazy Man and Money

Should I Refinance?

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Quick Housekeeping Note

If you’ve enjoyed reading Lazy Man and Money this year, or any of the previous 14 years, please nominate me for a Plutus Award. I’ve never won, but I was nominated for a Lifetime Achievement Award several years ago.

I’m not sure what category is the best fit, because I certainly do family, financial literacy for children, real estate, investing, underserved communities (mostly through my MLM content), side hustle, and traditional retirement. I just don’t specialize on any one particular area.

If you want some kind of reason why you should nominate me here’s a brief 14 year history of this blog. I may have been one of the first FIRE blogs… and probably the longest-running one. What’s missing from that article is all the years that I fought the MLM/pyramid scheme industry. I like to think that my 12 million page views have maybe impacted a billion dollars in people’s financial lives. (I don’t know if it’s true, but it sounds like it could be, right?)

I’ve kind of wondered what it would be like to walk across the stage to receive a Plutus Award. I kind of feel like this could be my year… simply because there will be no stage to walk across.

Now let’s get back to the original question

Should I Refinance?

Should we refinance?There are a lot of questions that people have asked during COVID-19. One of the ones that may have been overlooked, for obvious reasons, is that there are historically low-interest rates for mortgages. That leads to the question, “Should we (or you) refinance?”

Before I get into our situation, mortgage rates are around 2.74% for a 15-year fixed (our preferred option) or 3.17% for a 30-year fixed according to Bankrate. I’d like to think that most people would be better off refinancing, but a variety of circumstances may make it not work for you. For example:

  • You might not have the best credit to get these best rates.
  • From what I’ve read, banks aren’t very eager to refinance during these uncertain times
  • You might already have a great rate. After all, mortgage rates have been low for a while.

If you have a rate that’s .50% or .75% above those rates that I mentioned above, it might be smart to do an internet search for a mortgage calculator. That will give you an idea if it’s even worth moving forward. If so, it may be time to call some banks. I prefer local banks for mortgages because they know they stand a good chance of getting your other business.

Side note: I completely understand if you are busy managing work and kids during this time. If someone had even suggested that I do anything more a couple of months ago, I would have bit off their head. Things have settleed down with school being out. Hopefully, like me, you have a little more time to move forward with projects and financial things like these.

Our Refinance Situation

We refinanced our home in 2012. It was a particularly great time to refinance. We hit the interest low getting a 2.75% rate on a 15-year mortgage.

You might be thinking… “Umm… that’s today’s rate.”

Yep. On the surface, it wouldn’t make a lot of sense to refinance to the same rate. However, we’ve been living close to paycheck-to-paycheck for a while with 3 investment properties (that don’t make money until their mortgages are paid off), kids’ private school, saving for retirement, and our general costs of living.

This creates a lot of stress. It’s not end-of-the-world stress, but I feel like I worry about money more than I should.

Refinancing would allow us to lengthen the payments over a longer term. On one hand, we’re more than halfway through our 15-year mortgage and only have 7 more years left. On the other hand, refinancing it over another 15-years would lower our payments of $1,061 according to one mortgage interest calculator.

While it’s tempting to have an extra thousand dollars a month, it would mean that we wouldn’t be mortgage-free until 2035. By that time, we’ll all be vacationing on the moon, right? (I’m joking.)

The calculator also said that we’d pay $13,161 more in interest. Yikes, that’s an expensive decision.

In this case, it’s just what the guidelines say… it doesn’t make sense for us to refinance. I was fairly sure that was going to be the case, but it can’t hurt to kick the tires every now and again when the opportunity arises. This is certainly one of those opportunities for many people with mortgages.

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.

Is it Time to Refinance your Mortgage?

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We are in the process of refinancing our mortgage – again.  We bought our first home in 2005.  Due mostly to the expense and uncertainly of kids, we took out a thirty year mortgage.  In 2014, we moved to a different, larger house with a different, larger mortgage.  My mom’s estate was recently settled, and we decided to pay down the principal refi the 30 year mortgage (which has 27 years remaining) into a fifteen year mortgage at roughly the same cost (about $15/month more).

[Editor’s Note: I wanted to emphasize that again… he reduced 27 years of paying a mortgage to 15 years!]

While the optimal choice for us would have been to start with a 15 year mortgage, this really wasn’t feasible at the time.  We wanted to be able to fund retirement plans, 529 plans for the kids, pay for day care (a big cost, especially before the kids reached school age), have a sufficient emergency fund, and have the flexibility to deal with other costs that popped up along the way.

Mortgage Refinance Calculator

One thing we did do over the years is refinance.  In the nine years that we owned the first home, we refinanced it twice.  In each case, the break-even point was between eighteen and twenty-two months.  After each refi, we continued to pay the amount of the original mortgage, but with additional money going to principal (shortening the length of the loan).  A key part of understanding the break-even is understanding what portion of closing costs are actual incremental costs and which are not.

Pre-paying the escrow is money that you pay to ensure that there is a enough money in your escrow account to pay for homeowner’s insurance and property taxes.  Why is this not an additional cost?  Because you’re spending money up front to fund the escrow on the new mortgage, but you’ll be getting a check for the amount that is in the escrow account for your old mortgage (this may take a month or two, depending on your state and your lender).  Regardless of whether you kept the old mortgage or refinanced, you would have had to had sufficient funds in the escrow account to cover the taxes and insurance when they are due.  Once the escrow on the old mortgage is refunded, it’s a wash.

You’ll also have some pre-paid interest.  This accounts for the interest in the partial month between your closing date and the first of the month.  If you close on the 30th, this cost will be minimal.  If you close on the second, it would be almost an entire month’s worth of interest.  But this is interest you would have paid regardless if you refinanced or not.  It’s important to note, though, that if you close on the 2nd, you’re skipping an entire month’s worth of principal payments, pushing your payoff date nearly a month past what it would be if you had closed on the 30th.

What remains are the actual incremental costs to refinance.  In my specific case, these come to around $1500.  To illustrate the break-even calculation, let’s assuming you are saving 3/4 of a percent and have a mortgage balance of $150,000.

  • The monthly interest savings would be (180,00/12)*0.0075 = $112.50
  • Here’s the tricky part.  While mortgage interest is tax deductible, the closing costs generally aren’t.  Let’s assume your combined federal and state income tax rate is 25% (note: you’ll want to use your marginal rates, rather than your effective rates, since you’re calculating an incremental effect).  This means the actual cash savings from the reduced interest is ($112.50 * 0.75) = $84.375.
  • $1500 / 84.375 = 17.77 months

While this is a reasonably accurate quick calculation, it will be slightly off, because you’re saving slightly less in interest every month.  You’ll save $112.50 ($84.375 after adjusting for impact of taxes), in month one, but you’ll save a dollar or two less in each additional months.  So to be safe, just round-up and add another month to the break-even length, bringing the break-even to 19 months.

Some other notes about mortgages and refinancing:

  • Some people have a rule to not refi within X years of taking out the mortgage or doing a previous refi.  This is not a good determiner of whether the time is right to do a refi.  If you close on a mortgage today and rates drop a full point tomorrow, you absolutely should refi.  You can’t change the fact that you had bad luck in the past – but you can change your future rate.  The key thing to look at is how many months it will take to break even on the refi costs.
  • When buying a house, some people will approach the lender and ask what amount they can be pre-approved for.  My advice is instead to settle on a price point and get pre-approved for that amount, plus a small cushion.  If you ask the lender to set the amount, odds are good that it will be higher than the price point you would have chosen, and you may end up purchasing a more expensive house than you really need.
  • A lender will often allow – or even encourage – you to roll the closing costs into the mortgage amount.  If you have the ability to pay these amounts up front, it can save you quite a bit of money in interest.  We’ve never rolled the closing costs into a mortgage or refi.
  • Shop around.  You may be able to find slight differences in rates between lenders.
  • Watch for coupons.  We routinely get coupons in the mail for $100 off closing costs.  When we knew the a refi would be imminent, I made sure to save one of the coupons.  In comparison to the mortgage, $100 is a very small amount – but it’s still $100.

Don’t Get Buried in Debt: Find the Right Mortgage

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Editor’s Note: The following is a guest post by George. He’s a Baltimore Oriole’s fan who is trying to become a better writer. (I think he’s a pretty good one already.)

I’ve been scouring the market for a property. After years of going nowhere paying rent, I decided that my money could be put to better use paying down an investment than making somebody else rich.

I’m not sure why I paid rent for so many years – perhaps it was because we never felt sure about where we wanted to lay down roots. Regardless, it’s better to own the asset and enjoy the benefits of ownership than to have nothing to show for all your hard work.

This got me thinking: How do you find the perfect mortgage for your needs?

We’re living in difficult times. The Federal Reserve Bank – the Fed – is increasing interest rates, and this means the cost of credit is going up. This has a profound effect on long-term debt, especially if you do not to lock in a low rate with your mortgage broker, bank, or financial institution.

That’s the short-term perspective, but with increasing global uncertainty it’s never a sure bet which way interest rates will go over 10, 20 or 30 years.

Consider the people who locked in their mortgages at fixed rates 10, or 15 years ago, and then the Federal Funds Rate was eroded away to historic lows since the 2008 global financial crisis.

Nonetheless, this highly charged topic requires careful thought, planning and decision-making.

What are the benefits of a variable mortgage versus a fixed mortgage?

Let’s say you are considering purchasing a property worth $300,000, and you’re looking to put down 20% ($60,000) and take out a variable mortgage. That leaves you with $240,000 to pay back over the lifetime of your loan. A variable rate mortgage, often known as a floating rate mortgage, means that the interest rate on that home loan will fluctuate according to what the federal funds rate is doing.

More specifically, it moves in tandem with the prime interest rate. This is true in all countries that offer variable mortgages and/or fixed mortgages.

What will the Central Bank Do?

If you have an inkling as to how the Fed, the Bank of England, the Bank of Canada, or the European Central Bank is going to move with respect to interest rates, you may be inclined to lock in a fixed interest rate or a variable interest rate. In the US now, the trend appears to be moving in favor of increasing interest rates, making a fixed mortgage more attractive.

However, nothing is ironclad. Floating mortgages can go in any direction. People who opt for them are hoping that the interest rate that have locked in will be better than the interest rate by the time they are finished paying their mortgage.

Truth is: nobody knows which way interest rates are going to go over the long-term.

A fixed mortgage by contrast is fixed at the current rate. If you like certainty, and you’re not interested in the current state of the economy, a fixed mortgage is something that you can bank on not to change. People in many countries around the world prefer fixed-rate mortgages, since they provide that certainty that is so absent in the broader economy.

Of course, there are alternative options available to homeowners in the form of hybrid mortgages which allow a specific portion of the mortgage to be fixed, and a specific portion to be variable. Think of it as a compromise solution which gives you the best, or the worst, of both worlds.

Understand your options with mortgages

When you’re evaluating the pros and cons of variable and fixed/closed mortgages , it’s important to understand all options available to you based on your current financial situation. A closed mortgage and a mixed mortgage are also available. These refer to your ability to repay your mortgage prior to full duration of the mortgage term.

If you have excess funds available, or you will be coming into excess funds, you may wish to repay your mortgage ahead of time, to save on interest-related payments. Be advised that if you have a closed mortgage, you will have to make payments until the final payment is due on your term. Occasionally, banks and financial institutions will permit prepayments, but this is at the discretion of your mortgage provider.

By conducting the necessary research, you can avoid a lot of headaches, and possible financial ruin. Don’t get sucked into the wrong mortgage, because you may pay dearly for it over the long-term.

Your Bedroom or Your Life

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A couple of weeks ago, I wrote an article Rich Chicken, Poor Chicken, which was very loosely modeled after a popular book. I’m not a fan of the author since he seems to promote pyramid schemes. (And unfortunately, Dave Ramsey seems to as well.)

I apologize for the Debbie Downer lede. I got a little off-track there. Let’s start over.

Today’s title is inspired by Your Money or Your Life. It’s a book that all my favorite and like-minded bloggers recommend as a definitive personal finance “bible.” (Disclosure: I’ve never read it. From what I’ve heard it covers the basics very, very well. After 10 years of personal finance finance blogging (and 25 years studying personal finance), I’m not sure I’d gain too much from it.)

The bedroom part needs a little explaining. Yesterday Zillow released a study that moving from a home with 2 bedrooms to 3 costs $450 more a month. That’s an average. Bozeman, Montana will differ greatly from New York City. (Zillow has a lot more information at that link.)

The key takeaway for me is that mortgages were 50% more a month for an extra bedroom. For most people, housing is the biggest expense. You can cut lattes here and there, but they are proverbial drops in the bucket. A 50% change in your biggest expense is life changing…

… life changing in either direction. If you have a 3 bedroom home that you don’t need, you could reduce it and put the savings to good use. If you were thinking of super-sizing from your 2 bedroom home, it’s worth thinking twice whether you really need that 3rd bedroom.

What would do with an extra $450? Decisions, decisions. A-ha there’s the light-bulb above my head.

It turns out that $450 a month is $5400 a year. That’s almost exactly what it takes to max out a Roth IRA. Maybe I should have titled this article your money or your retirement?

Normally, I’d walk you through the math of what $450 more a month means. Today, I’m going to live up to my moniker. Everything I’d say is here: Compound Interest is a River.