Yesterday, I blogged about “recasting” or re-amortizing a mortgage after a lump sum paydown.
And a friend of mine who runs a major mortgage company on the East Coast (Craig Strent with Apex Home Loans) emailed me to suggest today’s follow-up blog – pointing out why paying down a mortgage too quickly is usually a bad idea.
ASIDE: FRIENDLY COMPETITOR FEEDBACK
As a quick aside, I hope every reader of this blog has successful associates in other markets who offer constant feedback. We have symbiotic relationships with several very successful mortgage company owners who provide constant help and feedback, and it proves to be an enormous advantage for us.
WHY PREPAYING YOUR MORTGAGE IS A BAD IDEA
The reasons are the same ones we use when advising against a 15-year mortgage, like I did in this blog from last year.
Borrowers are often far better off if they do not prepay their mortgage but instead invest the extra cash.
In my example yesterday, the borrower had $200,000 to apply to a 3%, $500,000 mortgage with 25 years remaining.
If that borrower invests that money (instead of paying down her mortgage) and earns only a 5% return, she will have about $370,000 in her investment account in 15 years.
If the borrower pays down her mortgage by $200,000 and recasts or re-amortizes, in 15 years her balance will be about $148,000 (vs. about $220,000 if she does NOT pay down her mortgage).
So, that borrower is giving up $170,000 of investment returns (and liquidity) in exchange for a $72,000 lower mortgage balance in 15 years.
Note: If the borrower invests her savings from the lower payment resulting from the recasting ($685 per month), this analysis is less impressive.
But, it has been our experience that most borrowers do not apply their savings from a lower payment to their investment accounts with that much diligence.
Further, my analysis above does not account for the tax advantages that mortgage debt provides.
My return assumptions are also very conservative, as my friend sent me two charts showing S&P 500 returns averaging 10% and 11% over the last 60 to 100 years.
The biggest takeaway here is that borrowers coming into a lump sum should see a financial advisor for a full professional analysis and a review of all their options.
Paying down their mortgage is often the worst option of all.
If any readers would like a referral for a financial advisor, we have many that we’re happy to recommend. Additionally, if you are a financial advisor yourself or know one that offers great advice, the JVM Team would love to speak with them!
Founder/Broker | JVM Lending
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