This One's On The House

Welcome to Mr. Stillman's Opus. I'm Ron Stutz hanging out with John for a while here. And John, you know, it really is interesting at Rosewood Wealth Management, there are a lot of questions that come in from folks who are really baffled about whether they should go ahead and accelerate the payments on their house, get it paid off early, or whether that's a bad idea.

And a lot of people kind of confused about that. What do you think? Is it a good idea or a bad idea to pay off your house early? Well, the answer is based on how long they're going to be in the house. So if you're going to be moving in the next few years, and you already pretty much know, yeah, this is not my forever house. Sometimes it makes sense not to go ahead and pay it off. Because if you're going to pay it down or pay it off, all you're doing is trapping equity in the house. And yes, you're going to get that equity right back when you sell the house in a couple of years. But depending on what your next move is, you might be better off to have that money that you paid into the house.

You might be better off for that to be liquid and just sitting in cash so that maybe if you need to make the down payment on your next place before you sell your current place, that would help you out some. From experience, I can tell you that paying extra on the house is not always the best thing. So my first house was in Hillsborough. And I bought that when I was single. We got married, Molly moves in and was crowded but not too crowded.

Then we had Lily and now suddenly it was very crowded. And it was clearly not the house we were going to be staying in. Well, when I was single, and probably in the early years of our marriage, I paid a little extra on the mortgage each month.

Not a huge amount, maybe $150, $200 extra that I'd paid down on the mortgage every month. Well, we listed that house for sale, we moved to Durham. We wanted to move before the Hillsborough house actually sold. So I scrounged up every penny I could come up with to get the down payment for the Durham house. Thinking, all right, well, we'll buy the Durham house and then the Hillsborough house will sell and I'll replenish all that money that I just scrounged up when we sell the Hillsborough house and I get my money back.

Well, guess what? The Hillsborough house took eight months to sell. So I had eight months of having two mortgages and I had very little in savings because I put so much into the down payment on the new house. And I was really wishing, man, I wish I could have some of my equity out of the Hillsborough house without having to sell it because the sale has taken forever and I wasn't going to cut the price too much just to get it sold. So that year was a tough year just in terms of household finances because I had so much money trapped in the Hillsborough house. You find that you wish you had saved some of that money in cash that you had paid extra on the payments leading up to that? In retrospect, at the time that I was paying extra on it, I wasn't even married yet. So it's not like I could have known, all right, well, I'll be moving in a couple of years with a wife and our first kid and I'm going to wish I had that money.

Obviously, I didn't know at the time. But now in retrospect, I said, you know what, I would have been better off to save that money somewhere else. Now, another reason you might not want to pay extra on the mortgage is if you're not actually going to get it paid off in the foreseeable future. So let's say you owe $200,000 and you come in to $75,000 and you say, all right, well, I could pay this down. My balance would be down to $125,000. Well, you still have a lot of payments to go before you pay off the house. And what you definitely don't want to do is pay all that money into the house without refinancing because now your monthly payment hasn't changed.

Yes, you've paid down the principal balance, but if you didn't refinance, you still have the same mortgage payment you had before. So you've parted with a lot of cash, but you haven't changed your monthly cash flow situation. So that usually is not in your best interest. All right, let's talk about some times where you would want to pay the house off. Okay. Let's suppose that you have seven years left on the mortgage and you're going to retire in five years.

Okay. Well, now if we can get the house paid off two years early, so it's paid off at the same time that you retire, now this is beneficial to us because now we don't need that mortgage payment as part of your retirement income. That allows us to do tax planning for your retirement income in such a way that we can have you in a lower tax bracket because you just don't need as much income because you don't have a mortgage payment. That's actually helpful because you actually got it paid off and the payment went away. If we were just paying down the balance, but we still have the same payment, that wouldn't have helped us. But if we can look out down the road and say, all right, well, if we just make our minimum payments at seven more years, but I could pay a few hundred extra, whether it's every month or maybe you just pay a little extra every quarter or something like that, this is actually a helpful thing to do.

Now, I'll give you one more solution that for a lot of people has made some sense. Some people say, you know what, I would rather just not pay the house off ever, but have a payment as low as possible. So as an example, I had some clients who they'd had the same mortgage for years. When they first got that mortgage, I think it was probably $150,000. Well, this was years ago and they've now paid the house down to where they have only $50,000 owed. But they were still paying like $1,100 a month because their payment was based on back when it was a bigger balance, right? Well, now they're retired and life circumstances have changed in such a way that making that $1,100 payment for them was pretty challenging. But they also weren't within striking distance of paying it off. It's not like, oh, well, if we can just endure the $1,100 payment for a couple more years, then we'll be clear of this. No, I mean, they still had several more years at $1,100 a month. What we ended up doing in their situation was taking a mortgage that they only had to pay like eight more years on and they refinanced, this seems so counterintuitive, but hear me out. They refinanced to a 30-year mortgage.

Okay. So let's think about what that did, though. They were doing a 30-year mortgage now on a $50,000 mortgage balance. So now their monthly payment is like $285.

Wow. So, yeah, they're never going to get the house paid off, but also who cares? Because it's now such a meaningless monthly payment to them. It's not a big deal that they're not going to have it paid off. Now, if they were to come into some money later, maybe if they get some kind of inheritance when her mom dies, which is possible, okay, well, at that point, maybe we go ahead and pay the house off.

Well, that's a cool idea. So I would not recommend that for most people. But in a couple of situations, it just counterintuitively made sense to extend the term with that lower balance and really reduce your monthly payment. I guess basically what all this means is you have to judge every situation based on its own merits.

There is no one-size-blanket way to cover these things. That's absolutely right. And the thing that drives me absolutely crazy is people in the industry who adopt the mindset of, no, you should never pay off the house. You're always better off to invest that money because you'll get a better return on that money than you would get by paying the house off. Which, while that might be true, there's an intangible value to having a paid-for house that we can't quantify with investment returns. It just feels good to have it get paid off. And then, as I mentioned earlier, if having it paid off allows us to be in a lower tax bracket in retirement because we don't need as much income, this is really an extra benefit. So don't get sucked into the financial industry talking point of, ah, you should always just invest the money, you'll be better off. John, what about people who are much younger and they're not even thinking about retirement yet, they're not thinking of anything in a retirement context, does it pay for them to go ahead and pay the house off if they can?

Well, again, it's going to come down to some of these same ideas. Are we going to be in that house for a long time or would we rather have that liquidity to help us move later down the road? If you're not really sure how long you're going to be in the house, let's say you're 35, and you say, yeah, I might be in this house 10 more years, I could have it paid off in five or six, should I just do that and then know that I don't have a mortgage payment for a while? Maybe, but if you're not really positive that you're going to be in the house for that long, what you might do is save and invest the money on the side, but specifically earmarked for home payoff. So let's say you owe $100,000 and you're continuing to make your monthly payments, and instead of putting 500 or 1,000 extra into the house, you actually just invest that on the side. And then if you end up moving and you say, all right, well, I don't want to put that money into this house, I don't want to trap the equity in there, you have the money on the side to go put into your new house, down payment on the new place. Or if you do end up staying in that house, well, once you have enough money in this investment account on the side, you can always take that money and pay off the current house. But you wouldn't do that until you were actually knocking out the payment altogether. We don't want to go from 100,000 to 40,000, and then we still have the same monthly payment for an extended period of time.

That would make no sense. So once you have enough saved up on the side, then you would pay it off. That's if you're just not sure how long you're going to be in the house. All makes sense. So it's never as black and white as, yeah, pay off the house as quickly as you can in all situations.

It's also not as black and white as, nope, never pay off the house quickly, you'll get a better return by investing that money. I'm sorry, it's just not that clear cut. Not that cut and dried.

Well, you've been listening to Mr. Stillman's Opus. Get in touch with John Stillman if you have any other questions about this kind of thing. Check out the website at rosewoodwealthmanagement.com. That's rosewoodwealthmanagement.com.