Stocks fell slightly last week after President-Elect Biden released his stimulus plan. Retail sales were also less than expected, and unemployment continues to be an issue. Inflation has increased slightly but is still well below historic levels. Mortgage rates are also starting to increase from historic lows, as the US Treasury 10-year Note interest rate has risen. If you were thinking about refinancing, now is still a good time to do so.
A question I’m often asked is if someone should pay off their mortgage. Or pay extra each month to pay it off sooner. I will admit to being biased here. My personal opinion is that you should have the largest mortgage you can get and still sleep at night. Let me explain.
During the Great Depression, mortgages were callable. There’s a run on the bank, and the bank says “Mr. Jones, we need the $100,000 you owe us by the end of the month.” Naturally, you don’t have $100,000 – or why would you have a mortgage? The bank says “that’s okay, we’ll just take your house.” So our grandparents taught our parents, who taught us, that the only safety and security you will have it to pay off your mortgage. People held mortgage burning parties. There was even a M*A*S*H episode about it, when Colonel Potter’s wife mailed the mortgage papers to Hawkeye to hold a mortgage burning party for him in Korea. In a war zone!
The part of history that was forgotten is that one of the banking reforms passed after the Great Depression is that mortgages are no longer callable. As long as you are making payments, the bank can’t ask for the balance of the loan on a traditional mortgage.
Here’s why a mortgage is a good thing. First is liquidity. Once money has been sent to the mortgage company, it’s gone. The only way to get it back is to refinance or sell your home. If you have a cash flow crisis, maybe you’ve been laid off or sick and you’ve made extra payments, you can’t call the mortgage company and ask them to let you go a few months without paying. They don’t care that you paid extra – pay this month’s payment or we’ll start foreclosure proceedings. If you had been putting those extra payments in the bank, you’d have cash available.
The second reason to not pay down your mortgage is leverage. Your home will be worth what it’s worth, regardless of the size of your mortgage. Paying down the mortgage does not improve your overall financial position. Paying down the mortgage does mean you’ll pay less interest. But with rates where they are now, the question becomes, can I do better than that in the long-term if I invested the money? With a 3% mortgage, over a 20- or 30- year period, odds are pretty likely you can do better. That does not mean you should mortgage your house to invest. That’s almost always a very bad idea. I’m talking about paying extra on your mortgage versus investing that extra amount.
Third, your mortgage interest is tax deductible, with some limits. Having a mortgage is often the tipping point in being able to itemize deductions.
If you do refinance and are wondering about starting the clock over again, I usually recommend taking the new 30-year mortgage. You then have flexibility. You can continue to make the same payment you were making before, and your mortgage will be paid off sooner. Or, if you have a cash flow problem, you can drop to the new lower, required payment until cash flow improves.
Now, the big caveat here is being able to sleep at night. While the numbers usually show that having a mortgage improves your overall financial picture, if it’s a source of stress for you, and you have the resources, pay off the mortgage. Remember that money itself if not a goal. Money enables the life you want.
Your action to take this week is to freeze your credit cards. That’s right, the cards themselves. While I also support freezing your credit as a way to prevent fraud, if you are trying to limit extraneous spending, stick your cards in a bowl of water and freeze them. If you really want to purchase something, you’ll have to go through the trouble of defrosting them first. It gives you time to think about the purchase. And your options. As in, I could buy that new gizmo, but would I rather take that trip next year? Or pay down my debt? Or some other goal? This doesn’t work with online purchases, but I also recommend not saving your credit cards in all those online accounts. Again, like thawing cards for an in-person purchase, not saving the credit card information forces you to take extra steps to buy something, giving you time to think about the purchase.
We are offering a deep dive into what happened in 2020 and what we expect in 2021 later this month. Our signature event, Women, Wine & Wisdom, becomes a co-ed economic update for the month of January. You can register for that event, and find much more on our website at covingtonalsina.com, or visit our Facebook page to learn more.
Securities offered through LPL Financial, Member FINRA/SIPC. Investment advice offered through Great Valley Advisor Group, a Registered Investment Advisor. CovingtonAlsina and Great Valley Advisor Group are separate entities from LPL Financial.
All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and may not be invested into directly.
The opinions voiced in this show are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which strategies or investment(s) may be appropriate for you, consult with your attorney, accountant, and financial advisor or tax advisor prior to investing.