The greatest lie ever told in America is the one about The American Dream. That the only way to truly prosper and live the Good Life in this country is to own your own domicile. Preferably with a white picket fence. Oh, and a
Two 3-car garage. And more bedrooms, bathrooms and TVs than number of people who live in said house. But I digress…
Common knowledge is that you have to buy a house to get ahead in life. Or it’s what Responsible Adults do with their money. “The biggest financial decision of your life” is the terminology commonly thrown around, nevermind the fact that your education decisions at 17 or 18 could very well potentially be worth millions more during your working career, but we don’t bat an eye at selecting a college major, or changing said major
two, three, 5 times before graduating with a mountain of debt.
From the tone of the first 2 paragraphs, you can tell I’m going after the most sacred cow in today’s post: Housing. It’s four walls and roof, perhaps some porcelain tile or bamboo floors, some paint on said walls, and high-speed WiFi. It’s got some beds and some bathrooms, and you get to call this place your own, even more so than those fools who “throw their money away on rent,” right?
Your house is said to be your biggest Asset, but I think it’s your biggest Liability, and I don’t even mean just the mortgage you probably had to carry for decades to be able to purchase it. Let’s start off with some definitions of three key terms in the prior sentence, brought to you from our friends at Merriam-Webster.com:
- Asset: an item of value owned
- Liability: pecuniary obligation (AKA money owed)
- Mortgage: a conveyance or lien against property that becomes void upon payment or performance according to stipulated terms. Has roots in the Anglo-French term that translates to Death Pledge
So if your house has value, it is an asset, right? Well hold your horses! If you have a mortgage on that property, meaning you have borrowed money from a bank or other lending institution in order to purchase the house, it’s actually a liability. The bank owns the house, but you have (commonly) 360 months to pay back the borrowed funds. The house is collateral for the bank loan, and you get the privilege of living there (and insuring the property against theft, fire, flood, etc) for the duration of the loan. Gotta protect the bank’s interest in the property, don’t ya know…
A mortgage is kind of like a marriage. It’s a 30-year legal agreement with the bank you have chosen to get into bed with. Just know that the bank has multiple partners, before you go off feeling special. Sometimes the bank is only the originator of the loan, and they will package up the loan to be sold as the infamous Mortgage-Backed Securities from the Great Recession. Your loan, and hundreds of others like it, will be sold to other investors, and possibly even be serviced (checks collected) by another entity altogether.
But just because the bank has all this flexibility on their side of the agreement, doesn’t mean you have ANY flexibility. If you are still naïve enough to think you own the house before the full amount (plus interest) is repaid, I double-dog dare you to miss your monthly mortgage payments for 90 days. There’s a bigger than 0 chance that your house’s REAL owner will stop by or give you a call to see what is going on, and perhaps start a process that sends you packing up your belongings called Foreclosure.
Don’t prepay your mortgage
Since the main thing making this house a liability is the attached mortgage, many people try to make extra payments and rush to remove the anchor from around their neck. Sure, most mortgage amortization schedules (payoff plan) result in the most interest being paid in the early years of the mortgage term, so you save a few hundred or a few thousand dollars in those early years by throwing extra money towards the principal of the loan. But if for some reason you find yourself out of work, or otherwise hard-up for cash, all of those extra mortgage payments won’t buy you a bit of compassion from the lender – your monthly payment will still be due the next month, regardless of your dwindling cash pile. If you can’t pay, you’ll soon find yourself in the same situation as millions who lost their homes in 2008-2010 during the foreclosure crisis.
Some people HATE debt with a passion. Like a rabid NFL fan during the Super Bowl level of passion. I don’t personally understand why they hate something they deliberately chose to do, that being a legal arrangement with a lending institution to leverage a small amount of cash to buy a much more expensive piece of real property that they can live in. But the bank won’t care if you’ve made 1 payment or 359 payments, if the next payment comes due and you can’t pay, they can (and will) foreclose on your home, since they are still the true owners until the full amount (with interest) is paid off. Some have said you actually have more leverage if you owe more, since their vested interest is to continue collecting your monthly payments for a long time.
For these reasons, I recommend not making additional principal payments towards your mortgage. I have done it in the past, but I am a week away from unwinding that mistake and cashing out a few thousand dollars of equity in my home as part of a refinance.
For 13.3 years, I have had an Adjustable Rate Mortgage, which started at 4.75% and dropped to 4% after the 3rd year. I’ve been incredibly fortunate that my rate dropped and hasn’t started rising, but I know it can and will before that 30 year term is up. So I will be locking in 3.125% on a 15-year fixed rate mortgage, and not prepaying a penny for the next 180 months. This is very cheap money to borrow, barely above the long-term rate of inflation, and I don’t see the benefit in paying back this money any earlier than I am required to pay it back. In fact, any money that I might have thought to put towards the mortgage principal will be put into my taxable brokerage account to grow at a higher rate than my 3.125% loan. At a certain point, it will grow large enough to pay off the remaining loan balance, but I will probably keep the money invested and allow that pile of investments to keep growing for my eventual early retirement.
Ding Dong the Mortgage is Dead
Well Josh, how about after the mortgage is paid off? Is the house still a liability then?
First off, congratulations. You’ve accomplished something that most people will never accomplish in their lives. Complete debt freedom! You should celebrate!
But keep that celebration short (and cheap) because you’ve still got bills to pay:
- Utilities keep sending monthly bills, and older homes are usually more expensive to heat and cool than newer ones (I’m assuming you’ve been here for 2-3 decades at this point, but perhaps you paid it off early)
- Insurance is no longer required by a lender, but would you really risk losing everything to save a couple thousand bucks a year? (I especially recommend Flood Insurance)
- Property Taxes never stop coming in, and from what I gather, they continue to go up and up. As an employee of local government, I appreciate your support of your community coffers!
- Maintenance and upkeep are two more expensive ghosts that never seem to go away. And just like those expensive utility bills, maintenance of older homes costs more than new construction, as well.
So it doesn’t really look like a mortgage-free house is an asset either. Sure, you could sell the house and recoup some of your investment, but then you’ve got even more goblins eating away at your profits:
- Realtors fee and closing costs can easily eat up 6-7% of the sales price, and that’s not including any necessary upgrades and improvements to get the house ready for market or to appease a home inspection report. From what I’ve seen on HGTV, those costs can run into the tens of thousands!
- Document stamp taxes for recording official paperwork with your local clerk of the court
- Moving fees. At the very least you’ll have to buy some boxes, packaging supplies, perhaps a moving truck or pay professional movers to haul away all your stuff.
- And then you’re back to paying for someplace to live, whether that is another house you buy (more loans and/or fees involved) or a place to rent (monthly flush-your-money-down-the-toilet routine again)
Sure, having your own place to live can be nice, but it’s not the end-all, be-all of the American experience. It’s actually quite costly, even more so than renting. As I recently saw on Twitter (sorry, can’t find the Tweet to give credit), your monthly rent payment is the ceiling, while your mortgage payment is the floor. What that means is that the most you can be expected to pay out of pocket, on a monthly basis, is your monthly rent payment, because the landlord is on the hook for repairs, maintenance, taxes, etc. But if you are the owner, your monthly mortgage payment to the bank is just the starting point, and you better hope you don’t need a new roof, or air conditioner in the heat of July, or water heater, dishwasher, etc. All of those things are costs on top of your monthly mortgage payment.