One of the things we like to do in this blog is point out some of the more interesting personal finance articles and resources we run across, especially those that might have direct relevance to our readers.
If you missed it, take a look at “Nine Reasons to Love Your Mortgage” by Jonathan Clements, writing for the Wall Street Journal. It’s a worthwhile read for clients wrestling with the question of whether to take out or pay off a mortgage.
Here’s just a few of Clements’ points:
It’s your cheapest way to borrow. Right now, mortgage rates are dirt cheap. And for most people, mortgage interest is tax-deductible, making the rate even cheaper. Don’t get us wrong; we’re normally not in favor of debt. Our clients would probably tell you we’re very old-fashioned in our views (e.g. we don’t believe in people spending money they don’t have. How novel!). The few exceptions we make are for appreciating assets like homes, business assets, and higher education, and even then, we apply pretty strict criteria. But common sense will tell you that if you have good personal discipline, and can lock in a 30-year loan for less than 4% per year, and then turn around and invest your money in long-term growth investments for your retirement years, it’s a good deal.
A mortgage makes inflation your friend. You heard right. Just think through the math behind a mortgage. The amount you pay back is locked in as long as you have a fixed-rate mortgage. And with inflation, the true value of that amount drops every year, since each year a dollar is worth less and less. But the house you bought goes up each year in value. What’s not to like? There’s a key rule in finance: in inflationary times, you want to borrow money, not lend money. If you owe money on an appreciating asset (one that goes up in value), and pay for it with a depreciating liability, you take home the prize.
Mortgages are an effective way to build wealth. Let’s face it. Some people cannot or will not save unless they’re absolutely forced to. And that’s where a mortgage comes in. Your home isn’t really the great investment you might think it is. “Over the past 30 years, (home) prices nationally are up 3.6% a year.FMCC in Your Value Your Change Short position That’s barely ahead of the 2.8% inflation rate,” says Clements. So let’s face it. You’re not getting rich by investing in your home. You’re getting richer because you’re putting aside money each month for thirty whole years.
Whether you pay cash, or take out a mortgage, it still costs you. This is my point, not Clements’. Sometimes, clients think that if they buy an asset – like a car, or house – with cash, it’s somehow “free.” Okay, not really free, but they’ve read over and over in popular personal finance magazines that buying with cash makes it cheaper. Wrong. Time to go back to Econ 101 and read the chapter on opportunity cost. If you pay all cash for a house, and that cash – if well invested – could be earning you 7%, the cost of the house financing isn’t zero – it’s 7% of the purchase price. Every year. For thirty years. If you could have locked in a 30-year mortgage at 4%, paying all cash for the home costs you more than a mortgage. You’re not saving money. You’re losing 3% per year. Each year. For thirty years. So, think it over before you turn up your nose at borrowed money, especially if you could use the tax deduction, or have a long-term investment horizon. (Yes, I know, if you invest the money you save each month by not having a mortgage payment, it will grow too, but frankly, in the real world, most people either stick it in a savings account earning 0%, or fritter it away).