I have been seeing similar questions quite frequently lately by email, comments, and forum threads. Here are a few examples:
Q. I am trying to decide between a 30 year and a 15 year mortgage. We would have no trouble making payments on the 15 year mortgage and would love to be out of debt in 15 years. In fact, we even hope to make extra payments and/or pay the 30 like a 15 but are concerned about something happening and want to have the lower mandatory payment, just in case.
or
Q. I am considering refinancing my student loans. I've been quoted a rate of 4% fixed or 3% variable for a 5 year loan on my $300,000 in student loans. But I'm hesitant to do it because if something happens, I want to be able to take advantage of the government programs that help in the event of hardship.
or
Q. I have $50,000 in savings at 1% and owe $125,000 toward my student loans at 7%. I don't want to put any of that money toward my student loans in case something happens and I need it.
You get the picture. In all of these cases, there is a smart financial move that is almost certain to help the person come out ahead, both behaviorally and financially, and then there is a fear keeping them from making that decision. Making decisions based on fear, especially irrational fear, and especially, especially irrational fear that can even be insured against, is a bad method. Let's look at each of these in turn.
The 15 Versus 30 Year Mortgage Dilemma
I see this dilemma appear in two different scenarios. The first is the somewhat reasonable “I want to borrow at a very low rate on a non-callable loan taken on an asset that will probably appreciate over 30 years and invest it elsewhere at something that will almost surely make more over the 30 years.” While I doubt most will actually do the investing from a behavioral aspect, at least the math is sound. The second is the less reasonable, “I want a 30 year because I'm afraid of income loss that would only allow me to make a 30 year mortgage payment.” Let's actually look at this. Now, I recommend you get a mortgage that is no more than 2X your gross income. I also recommend you put 20% of your gross toward retirement savings. Assuming you follow these two recommendations, this fear of something bad happening to your income is really irrational.
So let's say you make $200K and you buy a $500K house, putting $100K down. So your mortgage is $400K. Your Principal and Interest (P&I) payment on that $400K mortgage is the following:
- 15 Year Fixed at 2.75%: ~ $2700 a month
- 30 Year Fixed at 3.25%: ~ $1700 a month
Now, I agree with you that ~$1000 a month does seem like a large amount. Until you look at two other amounts in comparison.
- Gross Monthly Income: $16,700 a month
- Monthly Retirement Savings: $3,300 a month
Sometimes jumping is faster than rappelling
Okay, now let's consider a hypothetical situation where “something bad” happens to your income. How bad would it have to be before that lower mortgage payment is really going to be required for you? (Remember taxes, insurance, maintenance and everything else is exactly the same, so we're just considering P&I.) Well, let's consider a few facts about an income decline.
# 1 If your income declines, so does your tax bill. In fact, due to paying taxes as you went along this year presuming a higher annual income, you may owe NO ADDITIONAL TAXES for the rest of the year now that your income is lower.
# 2 You can tap your emergency fund. A serious income decline is usually due to an emergency. An emergency fund is 3-6 months worth of expenses. How many months of a lower income will that last? Well, it depends, but it's longer than 3-6 months because you're only using it to supplement your ongoing lower income. In fact, a 6 month emergency fund may cover the difference for 3 or more YEARS if you run the numbers.
# 3 You can stop saving for retirement temporarily. That by itself erases a 20% drop in income.
# 4 You can stop saving for college and other smaller goals. That might erase another 5-10% drop in income.
# 5 We haven't even started on your lifestyle. A huge chunk of my lifestyle is discretionary. Our spending would be cut at least in half if we stop buying stuff we don't need and going on vacation. And much of what we need can be deferred for months or even years.
# 6 Insurance covers most significant drops in income that you can't cover with an emergency fund. Remember that disability insurance policy you spend so much on? And that big fat term life insurance policy? Yea, they frequently come into play simultaneously with a drop in income. All of a sudden that drop in income isn't so big, especially when you consider that the benefits probably aren't taxed.
So what kind of a drop would really need to happen in order for you to benefit from that ~$1000 a month lower payment? It would need to be 75% or more of your income, not covered by disability insurance, and lasting longer than a couple of years. How often does that happen to a doctor or similar high-income professional? Not very often.
The Student Loan Government Program Dilemma
Okay, let's move on to the next subject. What about the guy, planning to pay off his loans, that doesn't want to refinance because he won't be able to go back to a low monthly IBR, PAYE, or REPAYE payment if his income took a big drop? What would it take to get back into those programs? For sure it varies by income and student loan burden, but for a typical doc, we're talking about going down to a resident-like salary, and again, doing so for YEARS. Not very likely, especially something that isn't covered by insurance and is out of your control. Besides, many of the companies have programs to help you in the event of hardship. There is also another outlet….these are student loans. What's the consequence of not paying student loans in the event of terrible financial hardship? A bad credit score. That's it. If you're in this situation, you don't want to be borrowing more money anyway, so what do you need a credit score for? When you're back in the position to buy a house or borrow for an investment property, your credit will be repaired. (I actually think credit gets repaired way too easily, but that's another rant.) And there's really nothing else a doc should need a credit score for anyway. So refinance and get busy paying off the loan. Now, if you're holding off because you think you might change to a job eligible for PSLF, that's a different issue.
The Hold Cash Versus Pay Off Loan Dilemma
This one really bothers me. I'm mostly with the Dave Ramsey crowd on this one. An emergency fund is to help you avoid borrowing money when something really bad happens. If you owe somebody money, something really bad has already happened. You already have a debt emergency. So use the emergency fund to take care of it. That's what it's for. Not only is that smart mathematically (borrowing at 6% to invest at 1% is dumb) but it's smart behaviorally.
Does a small emergency fund make you uncomfortable? You bet it does, and that's a good thing. Just like dumping the safeguards of the government loan programs makes you uncomfortable. Or having to come up with a 15 year fixed mortgage payment every month makes you uncomfortable. Use that discomfort, or even fear, in a positive way. Use it to motivate you to earn more, save a higher percentage of your income, make extra payments on your debt, and manage your finances in a smarter way. Having trouble avoiding splurging on an expensive car or vacation? Would only having $1000 in the bank help? I bet it would. So would knowing you've got a $5,500 student loan payment due in two weeks. Plus, it will increase the amount of relief and satisfaction you will have in growing your wealth. You can't wait to pay off your debt so you can have a real emergency fund. You can't wait to be free of your mortgage or student loan so you can have additional cash flow each month. You can't wait until this gnawing feeling that you're not only broke, but worse than broke, leaves your gut. Get uncomfortable! Then use that discomfort to fix your financial mess.
What do you think? Do you subscribe to the 30 year vs 15 year philosophy “just in case?” Are you avoiding refinancing due to fear? Are you carrying low-paying cash AND high-interest debt? Why or why not? Comment below!
When I was an intern, our real estate agent definitely pushed the “cash flow” argument when we were deciding between a 15-year or 30-year fixed rate mortgage. Even though he looked at us like we had three eyes, we selected the 15-year mortgage for the lower interest rate.
Another example of an irrational fear is fear of the stock market. Don’t get me wrong, my guess is that many physicians are being too aggressive with their asset allocation because we’re in a 8-year bull market, but there are some physicians who never invested in the stock market and invested only in CDs during their entire career. They fear that they don’t “understand the stock market” and that a stock market crash may cause them to lose it all. This is despite the fact that stocks have consistently outperformed bonds over the long-term, and that a 50/50 stock/bond portfolio has never lost money over a 10-year period (1928-present).
P.S. The P in P&I stands for Principal, not Principle.
You’re right of course. I have no idea why I have trouble keeping that straight. I swear I look it up 5 times a year.
I believe you’ve got the terms and P&I rates swapped, btw. Worthy of a quick edit for those who read the details.
Fixed. Funny how such obvious errors like that slide through the editing process.
Earlier in my career I went with the thirty year for cash flow purposes. During the recession there was a real threat of of job loss. So I went with the thirty year to keep expenses to one person’s income. It didn’t hurt that we were only engaged at the time. After marriage the next time rates dropped we went to a 15 year. I think there are situations where such a move makes sense but it depends on how risky your income is and how long you’ve been building your networth.
Full Time Finance,
Are you a physician? I often wonder regarding job security and physicians. For me, it seems like my job is fairly secure and I assume it is the same for other physicians. Granted Physician on Fire walked into his hospital one day and found it closed…so I guess nothing is guaranteed.
The reason I bring it up is because I have a post coming up titled “Is an emergency fund really necessary for a high earning physician”. My basic thoughts are that 1) Physicians have stable jobs and so loss of job is very rare, 2) Physicians earn good money and should be saving a chunk of it (by saving I mean paying off debt, investing in the market, etc…basically not buying random stuff with all of their income). If the above 2 are true, then a physician should have a buffer when there is an emergency and be able to redirect money within a month or two towards the emergency. So no need to save 3 to 6 months salary and that money can be used for better things.
Thoughts?
-EJ
I’m currently reading The Great Depression: A Diary by Benjamin Roth. It really gives you some perspective of how bad things can get. Imagine a scenario where your stocks lose 90% of their value, your bonds stop paying and are converted to stock, you cannot collect rent from your income properties (but the mortgages and taxes are still due), the bank has frozen your savings and checking accounts, and your life insurance company has limited borrowing against your cash value to just $1000. To make matters worse, because the economy is so bad your practice is hemorrhaging money as well and you’re letting staff go. If you don’t have cash in hand, you can’t even buy food.
I’m not saying that’s coming by any means, but I think there will always be a need for an emergency fund, even when it appears that money can be used for better things.
In this doomsday scenerio (which the great depression was) do you think the banks would let you withdrawal money? If not, then we all really should be putting cash under our mattresses….thoughts?
-EJ
Who knows? I do think having some actual green stuff in your house is a good idea though. How much is a matter of debate of course.
but in a real melt down situation, would greenbacks even be worth the paper they are printed on? seems that those crazy folks investing in gold and guns are on to something…
There’s a lot of gray between your dishwasher going out and the zombie apocalypse. The greenback would be useful in most of that gray zone. But at the far right (? alt-right) you might want the guns and ammo.
Far more likely than the doomsday scenario is simply having a bad run of luck with unusual expenses. Even someone who feels perfectly comfortable with the paychecks never stopping might have unexpected car problems, furnace repairs, travel expenses for a funeral or sick relative, medical expenses, etc.
I just replaced my wife’s car last week which definitely wasn’t part of our Jan. 2017 plans.
A couple of guns and maybe a little gold in addition to some green isn’t a bad idea. Don’t need to take it as far as the extreme right wingers. We have a lot of those types in my neck of the woods (the guys who have enormous gun safes full of hundreds of guns and thousands upon thousands of rounds of ammunition).
WCI,
Do you read much for leisure in you busy schedule? if so would you mind posting those books in your recommended section?
Yes, I read a lot, but that’s not really the purpose of the recommended reading section, nor would I recommend much of what I read for leisure!
For Y2K some friends (rural TX) were stockpiling gasoline and gold and cash. We figured if it really hit the fan tobacco, alcohol, coffee, storable food/gardening skills/tools would be the real value- can’t eat gold or paper. I’m so opposed to tobacco I wouldn’t go there, while we do not use coffee city relatives who do were possible so we had a year’s supply of coffee, we don’t drink EtOH but figured as docs we’d trade it and use it to sterilize stuff medically. Increased our firearms to be able to pick off roaming dogs after our livestock and ensure we could put down/ butcher our animals or other varmints as need be. A ranching neighbor planned to ride over to me and give me a horse before heading out into the ‘bush’ if TEOTWAKI.
When we moved later we tipped our moving guys with all that left over EtOH.
I’m actually a project/program manager not a physician. Then again currently I have a similar job profile to a physician. Relatively high pay and low likelihood of being let go. Also a significant golden parachute exists. My job is after all to run projects to cut expenditures and increase revenue. More then likely if an issue occurred I’d be the one figuring out how many people to keep and where to still be successful, unless the company folded. Then like physician on fire had with the hospital I’d be toast.
I’m not willing to count that scenario out entirely, so I still have a modest emergency fund. Let’s be honest what’s the hurt? What’s the interest on six month of expenses subtracted by the going rate of a cd ladder? Is your piece of mind worth at most a thousand a year in lost interest? (Assuming 30k emergency at 6 percent in market or 3 in a ladder)
Having lived through some of the something bads many may fear I can offer you the perspective of what worked for us and how we addressed it. We had the advantage of having our fears named for us. So, the first step is to admit what scenarios you are afraid of, then have a plan to address them:
1. Buy term life and disability early and more than you think you need coming out of residency. You may reach a point where you are no longer insurable, or it is prohibitively expensive.
2 Buy a smaller house than you want initially and take out the 30 year year loan. We used the cash flow to pay off student loans. We always added one extra house payment per year divided monthly to the house payment. We thus proved we could afford the higher payment to ourselves, as we were paying down debt. It offered additional cut back flexibility if we ever needed it. It split the difference between the 30 year and 15 year terms making the mortgage about a 22 year term. The absolute dollar amount between the terms was small to us because we didn’t overbuy in the first place.
3. When student loans were gone, we bought a house that fit us better. We still took out the 30 year and sent in the extra payment for reasons above. We used the leverage it gave us to get moving on 529’s for the kids and beef up our emergency fund.
4. Put a value on your emergency fund that covers your fears. I spent too much time mathematically assessing it. Of course, in one minute, my husband threw out the same number intuitively. Lesson learned is talk to your spouse about your financial fears and value how they make financial decisions even if differently than you.
5. You can always refinance the mortgage which we eventually did to a 15 year because the interest rates were more attractive. We are paying it off faster than 15 years as well. So I guess the moral is, make your own plan for mortgage payoff and use its leverage to your advantage. Yes, overall we paid more in interest and fees with this approach which brings us full circle back to number one on my list.
I have also seen some bad times and survived as has Doctor Mom. I think you have to expect setbacks along the journey. I initially had a 30 year mortgage. I then refinanced to a 15 year at about year 6. I paid off my house and student loans many years ago. I think it makes sense early on to put money into the market in a big way rather than just paying off your house. I encourage everybody to work on multiple goals at the same time.
Absolutely. We always put at least 20% to retirement in addition to the plan above. Also, the emergency itself can often cost money. That emergency fund of x months of living expenses needs to take that into account. The air ambulance balance billed us for about 26K after insurance paid its full obligation at 9K. They settled for far less for payment in full up front. We now pay about $100 annually to our local air ambulance membership which helps them survive in our small market and limits any further helicopter rides to insurance only.
Thanks Dr. Mom for your level-headed insights, as always. We’ve had 30-year mortgages in the past, for the exact same reasons you described. However, I find that our current 15-year loan (finishing around the time I turn 60) adds a level of comfort, allowing us to see the light at the end of the tunnel.
The difference between 15- and 30-year mortgages pales when compared to a difficult period in our financial lives when we moved from the Midwest to the West Coast. We had 2 mortgages (couldn’t sell our beautiful home in the Midwest for 18 mos), and went from a 2-physician salary to a 1-physician salary. Happiest financial day in my life was selling that 1st home.
Husband has a boat. Boaters say “the two happiest days in your life are the day you buy the boat, and the day you sell the boat.”
I’m a big fan of Ramsey’s debt snowball and his concept of an emergency fund. I used to wonder why he only recommended an initial $1000 e-fund until I ran the numbers and you are both correct that as you pay off your debt your initial 6-month fund, especially if coupled to some income, can actually stretch for far longer than six months. For some reason, this was quite an eye opener. As a result, I’ve recently been considering throwing my initial 6-month emergency plan, which can now stretch to 11-months due to debt payoff and a presumed lean spending plan if a prolonged emergency occurs, at my largest, high-interest loan. This would allow payoff by March/April 2017. However, there’s fear of various what if scenarios but I’ve come to a compromise that should still result in a March/April payoff with less stress and fear. *fingers crossed*
Great post.
I’ve been thinking a lot about the 15 vs 30 year mortgage lately. I’m finishing fellowship and planning to buy a house this summer. I’m leaning toward the 30-year now with the plan to take the difference in 15-year vs 30-year payments to accelerate paying down our private student loans. Once those are gone, I’m planning on putting the difference into a taxable investment account earmarked for two main purposes. First, the vast majority of our loans (my wife is a physician too) are eligible for PSLF, and we’re going for that, eligible for forgiveness in about 5 years. If the PSLF program gets changed, that money will go toward those loans. If all goes well with PSLF, then that money becomes a “Mortgage Payoff Fund” similar to what WCI has described in his “A Scheme to Pay Off My Mortgage Early” post. Around the 15-year mark, or perhaps before, we should have the option to pay off the mortgage if we decide we want to be completely debt free. Would appreciate any thoughts out there on how this sounds.
My only comment is that I strongly recommend renting for a least a year after becoming a new attending. Not only does it lock in “live like a resident” (not too many McMansions for rent) but it gives you and your wife some flexibility in case either or both of you detest your job and want to walk away. No matter how much research you do before accepting a job, there is always the possibility of either the job or your situation changing and a quick buy/sell on a house only works to the realtor’s benefit.
Thanks. We’ve thought about this too. I’m starting my position in the area where I’m completing fellowship, which is also our hometown, and my wife is already established in her job as an attending, so I feel that we know more than if we were moving across the country to new positions. But your point is well taken that I won’t be able to fully assess my new position until I’m in it. Definitely something for us to think about over the next few months.
I second this. I know in my cohort of residents, 50% left our first job within 2 years.
There are many what ifs in the future.
As a hypothetical, there is absolutely nothing that would prevent you from paying your 30 yr mortgage as if it was a 15 year loan. The difference in interest payments isn’t as dramatic as one might expect. But you retain the flexibility to reduce your monthly payment should an unexpected expense crop up.
I think you’d be surprised how many things will crop up to pay it as the 30; vacations, cars, dinners out. It takes some of the limited amount of will power I have to pay a 30 like a 15. If it’s already a 15, I can use the willpower for other things.
That’s what I did on my first home loan. I took out a 30 year fixed, but paid $500/month extra toward the principal (and I set that up as an automatic deduction, so no further action on my part was required). it worked like a charm, and the knowledge that i could quickly reduce my mortgage payment by $500/month should circumstances require it was comforting.
Of course, one can argue that putting that extra $500/month into investments would have been a better plan, and perhaps it would have been. I think what matters most is, whatever option you choose, set it up as an automatic monthly payment so you’re not tempted to fritter the savings away. Whether it’s into the market or into the house, make sure that savings goes SOMEWHERE!
Excellent point. Make it automatic.
Fear of lifestyle creep is a much higher concern for me than needing the flexibility to adjust cost by a small amount if something bad happens. Forced savings work better for me and I always have next month’s paycheck if I’m injured now with an additional 2-3 months of emergency fund to cover until disability insurance kicks in. When you live on 50% of take home that last paycheck can stretch pretty far.
-We opted for a 15 yr mortgage on a house of less than 1x yearly income.
-Refinanced student loans to 5 year terms.
At this point next year I’m hoping to look at a balance of zero dollars on the student loans which will give us even more safety net. We’re going to shorten the mortgage to 7 years with extra payments after the student loans are gone. The safety of having just taxes, utilities, cable/phone/etc bills is very appealing and should make the need for an emergency fund even less. In theory, paying down our loans will cost us vs investing but having a paid for house that can’t be taken away and having no looming student loan bills will give us much more flexibility.
This here is what I hope to do when I’m in your shoes.
Your house is truly never your. Just miss a tax payment for fun. Kind of crazy really.
It will take your taxing authority a lot longer to take your house for non-payment of property taxes than a bank from non-payment of a mortgage. So there’s that.
According to Nolo.com, it’s 4+ years in Utah. It’s only going to take six-nine months for the bank.
http://www.nolo.com/legal-encyclopedia/what-happens-if-i-dont-pay-property-taxes-utah.html
Not meant as a consideration of course, just interesting in the grand scheme of things. 4+ years is wild. I remember reading a book on tax lien real estate investing, it was interesting even though not applicable in California.
Missing a property tax payment is typically grounds for lender to call your loan, so there’s that too. 🙂
Used to be you there was a pretty big business in tax sales but typically you get several years, multiple notices before your property gets sold to the point you can’t get it back.
Presumably if you’re missing a property tax payment, there is no lender since if there is, the tax payment is probably made from the lender’s required escrow account.
Our mortgage doesn’t escrow our taxes, fwiw.
Interesting. Many lenders require it.
That’s what I did on my first home loan. I took out a 30 year fixed, but paid $500/month extra toward the principal (and I set that up as an automatic deduction, so no further action on my part was required). it worked like a charm, and the knowledge that i could quickly reduce my mortgage payment by $500/month should circumstances require it was comforting.
Of course, one can argue that putting that extra $500/month into investments would have been a better plan, and perhaps it would have been. I think what matters most is, whatever option you choose, set it up as an automatic monthly payment so you’re not tempted to fritter the savings away. Whether it’s into the market or into the house, make sure that savings goes SOMEWHERE!
Whoops! I meant this reply to go to the post above.
I just finished residency and planning to buy and take on a 30 year mortgage. Since my investing horizon is 20+ years I figured the lower payments will help me max my tax-deferred accounts sooner. I also figure it will keep my basic living expenses lower which could allow me to pay myself a smaller salary from my corporation. That way I can maximize my tax deferral through that route also. Does that make sense?
You’re allowed to live off distributions, so that doesn’t make sense, but yea, if your mortgage is lower you’ll have more cash flow to either spend or save.
much more important to maximize ret plan than paying down any other loan/mortgage
Careful with your phrasing. I think you would agree that paying off a 30% credit card would be a better idea than contributing to a crummy high-fee unmatched 401(k) with 2% ER mutual fund investments.
WCI,
Love the website and have been following for a few years now. My wife and I are both physicians. We have adopted many of your principles but we did end up buying a house on a 30 year loan straight out of fellowship on the physician mortgage loan (0% down). We mortgaged the house at a price that was about 85% of our combined starting gross income, and what will hopefully be about 50% of our combined income a couple years from now. Our rationale was that we wanted a house (dogs need a yard to run around in, had a new kid on the way), we had very specific geography to consider given the distance of our two jobs from each other, and we very much hope to remain in the area for the long term due to family. The house was not initially our “dream home”, but we figure to make it that by adding on/updating over time instead of looking for another home.
We chose a 30 year loan so that we could have a higher cash flow to get out of student loan debt ASAP. Our combined debt after med school was around 330k and we got that down to just over 200k during six years of residency/fellowship. We plan to have all student loans paid off in March (about 21 months after fellowship). After this, we plan to live entirely off of one income and completely invest the other income. I thought about refinancing to a 15 year mortgage, but am having a hard time justifying this or even paying anything extra on the house over the next couple years. Our home interest is one of our largest tax write offs.
I certainly do not have any intention to pay on the house for 30 years, and would like to have the “ability” to work less/retire around age 45 or so. I probably would actually favor a version of part time work than complete retirement, but that is many years away. My plan is to use one of our incomes to start building up a taxable portfolio at a quick pace, and once we feel that is at a sufficient level (i.e. 1-1.5 million) to “bridge” ourselves to age 59.5, then we can rapidly pay off the house over 2 years or so prior to cutting back.
Seems like a reasonable plan. You guys are doing great so far.
Just be careful to not let the tax dog wag the tail. That’s great that interest on your home is such a great write off, but what you’re really saying is that it’s a great deal that you get to spend $1 in order to save $.25-.50.
The better argument to not paying it off sooner, at least in my mind, is that you expect the extra money you’re not paying on a 30-year mortgage payoff (as opposed to 15 year) will make you more invested in the market than the guaranteed return you would make paying off the loan early.
I chose a 15 year mortgage for a couple of reasons. One was to make sure I wasn’t overpaying for a house. If we couldn’t afford the 15 year mortgage then we couldn’t afford the house (it is 1.15x my gross annual salary). It also ensures that our house is paid off by the time our kids start college. I am hoping to be able to cash flow their tuition with the help of some smaller, later started 529 accounts. We had our kids in med school and residency, so 529 funding was not a doable thing then (only have about $38,000 total for 3 kids so far, ages 10, 7, and 5).
YMMV.
Yes totally agree. The extra cash flow from a 30 vs 15 year mortgage, as I view it, will help us grow our portfolio quicker, and hopefully will grow at a higher rate over a 10-15 year time period than our 4% home interest rate.
I might view this situation differently if I had bought the most expensive house that I could afford (i.e. I would opt for the 15 year mortgage and put less towards investments).
great example of a similar situation to ours, if you are ACTUALLY using the cash flow from the difference in 30 vs 15 to do some aggressive stuff you are doing well.
i think the fear from WCI and others is that you start to think of the 30 year as your comfortable payment spot and don’t go above it. considering that many of us are 30+ when we finish that means you’re going be carrying a mortgage into damned close to retirement.
we did something very similar to you and will be student loan free within 5 years of residency despite living in a high COLA area. at that point we’re going after the mortgage!
question for WCI and the forum:
I have a guaranteed salary and a stable job with lots of term life/LTDI. I also have an unsecured line of credit through my local bank for 25k. Barring the doomsday scenario mentioned above, Is there really any need for a “emergency fund” sitting in the bank or can the LOC play that role?
I mean, I would never use it unless there was an emergency and would pay it off fast (financial fear as motivation!) if I ever had to dip into it.
One risk would be that the line of credit would be reduced or rescinded when times get bad (macro economic). Since the need for an emergency fund is at least somewhat correlated with the macro economy, you could find that the funds are not available at the exact moment you need them. Lots of businesses faced this issue in 2008/2009.
+1
I like that you have a plan for what you’ll do if you run out of money, but I don’t think a line of credit is the same as an emergency fund. Tapping the line of credit is the emergency you’re trying to avoid with the emergency fund.
At some point, getting a return off your emergency fund will become less important to you as it equals a small enough portion of your nest egg. Until then, just deal with the fact that emergency funds don’t earn much.
Jonathan Clements correctly points out that debt payments are the equivalent of a guaranteed return. If people were still paying 12-18% for mortgages like back in the 80’s, there probably wouldn’t be much disagreement about buying a small house and paying it off sooner than later. It’s not as clearcut with rates in the 3-4% range, but there’s a good reason that every financing person in the world focuses exclusively on monthly payments whether you’re buying a house, car, appliances or furniture. People consistently spend more than they would otherwise.
40 – 100 year mortgages (!!!) aren’t too unusual in places like Japan. They’re casually called ‘two generation loans’ since the expectation is your children will still be paying them off after you’re dead. There’s nothing magical about the 15/30 year terms that are more common in the US. For people taking a 30 year loan vs. shorter terms, it’s worth considering “Would you take a 50 year mortgage if available?”
I just refinanced into a 15 year mortgage. Between eliminating the lifetime FHA penalty (equivalent of PMI) and dropping another full point, it’s only another $500 monthly. If that amount of cashflow makes a difference in the foreseeable future, we have far bigger things to worry about. I like the guaranteed return aspect knowing that one-time change is worth about $150K in reduced interest and will likely never think about it again.
In The Great Depression mortgages were adjusted from 5 years to 12 years. Prior to that, most were 5 year loans. The 30 year mortgage came from the post-world war II period. I think the VA loan was the first.
That’s incredible. I had never heard that. A 5-year loan is pretty much like paying cash. Massive suburban sprawl could have never occurred if people were still forced to actually pay for their house like that. It’s amazing how changes in financial policies like that can have such a drastic effect on our lives. It’s fascinating to think of how different life could be like today if that one seemingly minor change had never occurred.
Another thing to consider on the 30 vs 15 year term is that you may not want to stay in your house for the long haul so paying it down faster just to turn around and sell it in 5-10 years may not be all that important in that scenario. I know that’s why I’m not that worried about paying down our mortgage any faster right now. We live in an area where the real estate market it growing fast (an old downtown neighborhood undergoing major development and restoration). So our equity has grown tremendously over the last few years and is expected to keep going up. If the value of our home keeps going up we may sell in 3-5 years anyway, so in my mind no reason to pay off the loan any faster right now. If we end up deciding we want to stay here for the rest of our lives, then I’d start making extra payments to our loan and try to get rid of it asap.
I don’t know that there is any reason to connect the mortgage and the equity. I wouldn’t not pay a mortgage because it is appreciating quickly or selling soon if it otherwise made sense in my financial life.
If you werent planning on staying their forever it makes sense. Any extra pay down is just guaranteeing your savings is going to get a hefty bite from the RE transaction on the other side and makes little sense.
As far as if appreciating faster that does make sense in a return scenario as well, any extra payments just reduce your profit percentage and dont really make a big difference otherwise.
I also would consider selling if home prices shot up and grew to historic standard ratios vs. wages like they did in the mid 2000s. I would sell and then rent.
Our first home (our “resident/trainee” home) we bought on a physician loan with 0% down on a 7/1 ARM with a 30-year term but quickly did a refi to 15 years when we had a little more equity/cash and because rates dropped. We built up a lot of equity in a short time, which was great, and had we stayed in this home we probably could have had it paid off within 7 years of purchase.
However we had a 3rd kid and needed a bigger home. So we just moved to the “attending” home and never really considered a 15-year mortgage. We based our budget off the idea that both my wife and I are working, however it was always in the back of my head that maybe she may want to go part time or stop for a short period while the kids are super young, so we didn’t go buck wild (mortgage is < 2x our combined gross income).
However if she stops working to be at home with the kids for a few years, it is NOT going to be covered by any insurance policy, and the emergency fund isn't going to last that long.
For our home, the P&I difference between a 30 and 15 year mortgage is roughly $1500/month. That isn't huge, but that's the equivalent of maxing out a 401k/403b plan each year. If my wife stopped working and I had a 15 year mortgage, something would have to give. Things such as 529 accounts and retirement plans would take a partial hit. We can certainly cut some expenses, but not enough to make up for her entire income.
I would rather have that $18k/year available for retirement/529 savings or other things than my house payment. The only way *I* stop working is if I am disabled or fired. The former is covered by insurance, and the latter is unlikely and would be temporary unless I committed some sort of criminal act. One way or another I am confident my house will be paid off before I am ready to fully retire, however that is dependent on having retirement funds. Even with lower future expected returns, I think the market is going to do better than the 3.5% mortgage interest rate (partially deductible until Trump changes things).
I should note while we are both working full-time I'm paying extra on the mortgage, so it's more like a 25-year mortgage (roughly), with the ability to be paid faster when the kids are out of daycare and we're both working full-time.
The “emergency fund” issue is the one that kills me. I don’t really think of my money as an emergency fund but more like a nicely cushioned checking account. It’s mentally comforting having a cushion, and I feel very irresponsible draining our bank account down to near-zero just to pay off some more student loans.
Both my wife and I work, so if either of us lost a job it’s not like the income goes to absolute zero. And like the ed mentioned, our “3-6 month” cushion could easily last us a solid year in the one-job-loss event. Theoretically I have tons of available credit which I could tap into in a big emergency, or even family members that would help out if things got really dire.
Just a few months ago there were a few potential variables in our lives that have since gone away, and now with the recent rate hikes however I’ve sent in a couple of extra payments and in the process of refinancing. I still have a solid 4 or 5 months of cash reserves though which still seems excessive in theory.
Dreaming of that end to residency & fellowship…
So I thought I’d do the math on the 30 Y vs 15 Y scenario with some simplifying assumptions. Constructed an Excel amortization table based on the two mortgage terms WCI provided – 15/2.75%, 30/3.25%, $400,000 mortgage. 30 year payment is $1740 and the $15 year payment is $2715. There are two scenarios I calculated, neither of which involve any other deductions (home business expense, etc.), assumed marginal tax rate at 33% (married filing jointly):
1. You can itemize and deduct the mortgage interest. Marginal cash flow for interest deduction occurred at year end (assumed immediate refund for simplification), compounded yearly. There was also marginal cash flow from the difference between Principal+Interest, compounded monthly.
2. You use the standard deduction and can’t use the interest deduction. Only marginal cash flow was from the difference between Principal+Interest.
In both scenarios you immediately invest the money that earns 5% CAGR (this was adjusted later to see what assumed returns would yield equal outcomes).
Scenario 1:
The present value of the 30 year loan benefits was $147,118 while the present value of the 15 year loan benefits was $104,532. The net present value of the 30 year loan decision is $42,586, meaning that under these assumptions you are $42,586 richer in today’s dollars when you decide to pick the 30 year loan.
Scenario 2:
The present value of the 30 year loan benefits was $123,808 while the present value of the 15 year loan benefits was still $104,532. The net present value of the 30 year loan decision is $19,276. Less immediate value, but still a substantial sum.
These scenarios assumed a CAGR of 5%. If you adjust the CAGR of this theoretical investment portfolio you need a CAGR of 2.56% to have the two loans be equal in present value terms for Scenario 1 and 3.87% for Scenario 2.
While these calculations make some simplifying assumptions it can at least be used as a starting point for making a 30/15 year decision. Before I actually did the math on this I had every intention of getting a 15 year loan. I don’t think I’ll be itemizing, so the decision is still not clear given some other pros/cons of each. Anyhow, hope you found this interesting. Please have mercy on me if you see some issue. 🙂 Happy to get any feedback.
The math will always show that borrowing at a low cost and earning money at a higher rate is going to come out ahead. Why are you surprised? The only questions are really will the investments really give you the assumed return (because the loan sure will) and will your behavior show the same thing?
This analysis really isn’t about borrowing low and earning at a higher rate. It has to do more with the time value of money/timing of cash flows and how earlier cash flows (30 year) provide benefits over later cash flows even though those later cash flows are greater. This will not always be the case and depends on how many periods and the discount rate. The analysis shows that if you can borrow at a 3.25% rate on the 30 year and earn a lowly 2.56% return in scenario 1 you come out ahead of the 2.75% borrowing rate – a return lower than both borrowing rates. In scenario 2 the 30 year beats the 15 year if the return is at 3.87% – return higher than both borrowing rates. So it’s really more about cash flows and timing than it is returns with respect to borrowing rates.
Again, the simplifying assumption is that you immediately invest all cash flows. I would hope anyone reading this blog would have enough self-control to institute these investing policies. As for the market returns, if you can’t earn a 2.56% (or 3.87%) return over 30 years then god help you.
You’re just looking at the same thing from a different perspective. Whether you consider those extra cash flows or whether you just consider it investing borrowed money, it’s really all the same.
I think your hope that anyone reading the blog has that sort of self-control is a bit on the optimistic side. I’m not even sure I have that sort of self-control. I think we routinely over estimate our ability to borrow at a low rate to invest the difference. There’s no doubt the math works. It’s the behavior I’m skeptical about.
Part of this is wrapped up in the assumption that achieving FIRE is the motivating factor for people. While I think we all want to achieve that goal, whether we realize it or not, to some people that means achieving it at age 40, and some it means 55-60 (I know the hardcore FIRE community would not consider 60 or even 55 “early” but it’s earlier than the vast majority of Americans). I haven’t set a retirement age target nor a dollar amount yet, because I enjoy my work and want to keep working for awhile. I’ve set a goal savings rate and am letting the rest take care of itself, knowing that if I can keep this up and also maintain a work environment I enjoy, I will be able to retire when I am ready.
If someone’s achieving a savings goal of 20-25% gross income (I think I’m actually over that though) and not holding bad debt, then the strong criticism of the 30-year mortgage is a bit overblown, because that person will ultimately have the flexibility to pay it off early or to carry part of a mortgage into an early retirement and finish paying it off with their retirement savings.
It’s those folks who take on a 30-year mortgage AND are not saving for retirement AND who take on bad debt AND who will not be able to even at age 65 that a 15-year mortgage is most helpful for, because it forces them to save (without them realizing it) and help retire or achieve FI at a reasonable age.
I’m quite happy I had a 15-year mortgage on my first home, because it effectively increased my savings rate beyond what I was likely to do otherwise at that time, and I ended up with a lot more equity than I expected when we sold that came in handy for other things.
I’m happy with my 30 year mortgage now because it hopefully will give room so my wife can slow her work schedule if we go that route, and if not I can invest the rest. The former is a result of my stage in life, the latter a result of just greater financial wisdom. For the average homebuyer withoutany financial discipline, a 15-year mortgage is a great thing, however if your only goal is to eliminate the mortgage then all available cash should be going to that or people should take out 5 or 10 year mortgages to force themselves to pay it off.
I think even you mentioned at some point in a different post that you had a home payoff fund in some taxable account somewhere — you could pay off your mortgage in far less than 15 years but have chosen not to do so because you saw more value in keeping that money invested. When you reach that level of financial literacy and ability, 15 vs 30 years on the bank note are less relevant.
I agree. If you have tons of resources, it really doesn’t matter much.If you lack discipline, the 15 may force you into more than you would normally have.
WIC, I’m still not understanding what you’re saying about the model. Are you referring to the 5% I chose? That was arbitrary, but definitely realistic. Curious to see what angle you’re looking at. There are two time horizons with varying marginal cash flows. Looking at two rates doesn’t tell you which plan (30 vs 15) is superior, which is what I was attempting to show.
You cannot know which plan is superior in advance, no matter what your calculations show because you cannot know whether the investor/debtor will actually invest the difference and what the investment return will be if he does. I have no doubt that mathematical calculations with reasonable assumptions will show that borrowing money at a low rate and investing the difference is likely to come out ahead.
As far as your point about cash flows allowing you to come out ahead with a slightly lower investing return than the interest rate on the debt, I’m a little skeptical there may be a math error, but it isn’t particularly critical to the discussion where other factors are so much larger.
Of course you can’t know in advance. No model of any kind can possibly know something in advance. That’s why I created simplifying assumptions, as any model does. Should be throw any model out the window because it can’t predict the future with 100% certainty? Again, this has nothing to do with borrowing low and earning high. You say “coming out ahead”. What is coming out ahead of what in your view? The calculations are correct. It’s about which option – the 30 year or 15 year – is superior to the other. The rate of return relative to those two interest rates is inconsequential. The added cash flows from the interest rate deduction requires a lower return to do better than the 15 year in Scenario 1. But note the required return to do better than the 15 year is higher than both 15/30 year rates in scenario 2. So again, I’m not sure what you are referring to with the borrowing low and earning high and coming out ahead. Drop the 3.87% in Scenario 2 to 3.85% and the 15 year is ahead. Increase it to 3.89% and the 30 year is ahead. Both those rates of return are higher than the 30 year and 15 year rates. D the same with Scenario 1 and both rates are lower than the 15 and 30 year rates. Happy to share the document if you’d like.
As for the behavioral component of this, many of us here (including yourself) advocate for financial diligence and frugality. I’m not sure why my assumption speaks a different tune. It’s quite easy, actually. You evaluate the two rates at the time of getting the loan, see what the monthly difference is between the two payments, and set up mandatory withdrawals from your checking account into an investment account. Cruise control. If you and others (blog post following this one) advocate for a 15 year loan and making sacrifices in the short term there is no reason why this can’t be done. Agreed that many don’t have the fortitude to actually do it. But advocating for it or making a simplifying assumption for a model isn’t much different from what others are advocating for in a broad sense.
Every month you pay the lower 30 year payment instead of a higher 15 year payment, you are essentially borrowing the difference in order to invest. That’s what I’m saying and the math works out the same whichever way you look at it.
Are you saying that the math works out to support a 30 year over the 15 year under any condition where you’re borrowing at the 30 year rate and earning more than that in investment returns?
I don’t like the phrase “under any condition.” But if you use the same assumed returns throughout, sure. Paying extra on a mortgage gives you a return at the after-tax interest rate on your “investment.” If your after-tax investing return is more than that return, then you come out ahead putting your money in the investment instead of using it to pay down the debt.
The math *might* work out in favor of investing, but it’s equating apples with oranges because the big missing elephant is “risk”. It’s usually left out for simplicity, but risk is always involved. Paying down debt is essentially risk-free since the returns are guaranteed. Investing for higher returns (much less using debt arbitrage) is definitely NOT risk-free.
After 15 years, the $500K 15 year mortgage is completely paid off. The risk of default is practically zero (property taxes and HOA dues are the only ones I can think of). Compare that with a 30 year mortgage where you still owe $300K after 15 years. The risk of future default is much higher since there’s another fifteen years to play out. Carrying debt always carries more risk.
That’s why few people with a fully paid off home would think it’s a good idea to borrow money with a 3% HELOC and practice investment arbitrage on the side. It’s the same as buying stocks on margin. It might work out for some people, but it’s hardly a rock solid investment strategy.
But this analysis doesn’t involve paying down debt. It’s about which option is superior – the 30 or the 15. The analysis shows that if the investing rate of return is LOWER than the 30 year interest rate in Scenario 1 it is superior to the 15 year mortgage. Two streams of unequal cash flows at different time periods. From the 30 year mortgage perspective it’s +$975 per month years 1-15 (plus + end of year interest deduction cash flow in years 1-30) and -$2715 per month in years 16-30. Just saying, the IRR on that is 2.56%.
Regarding the risk, paying down the debt involves an opportunity cost – that which you could have received by investing the added cash flows. If your annual returns are 5% over those 15 years you make up for the $300K still owed if you somehow default. I agree that debt carries risk. You mitigate that risk with insurance though – disability and life – which would be paid anyway. Ultimately people need to decide for themselves if they’re risk averse or not. Those who are risk averse are more likely to give up long term gains. I’m not saying that one is necessarily superior to the other for all people. I’m just defending the math of the model that can be used as a starting point for people of varying risk aversion to make their own decisions, rather than follow the all-too-commonly advocated (with no numbers to show for it) 15 year mortgage superiority. Like I said in my ending comments in the original post, I really don’t know what I’d pick given my risk aversion profile. Will depend on interest rates at the time most likely as well as salary. 2 years to go.
Yes, borrowing money at a lower rate than you’ll receive investing it will always work out better. That’s what a bank does. Two questions always come to mind whenever this scenario comes up:
1. Is someone psychologically ready to consistently invest the difference without touching it for 30 years? There’s a lot of life happening over thirty years. Paying down the mortgage is equivalent to buying bonds with a guaranteed return. Investing the difference is equivalent to buying stocks over the long term. Both have their place.
2. Why not pay for everything in your life with low-cost borrowed funds? Or invest with the low-cost borrowed funds? Why not reduce outgoing cashflow to a minimum with a fifty year mortgage? As long as loan rates are lower than the returns, it’s a foolproof plan. That’s how most financial entities work along with many businesses. It’s the basis for investing in real estate.
The second question is harder to answer precisely because it’s a workable business strategy. Just saying “That’s stupid, I would never do that for personal expenses!!!” doesn’t answer the question. It’s interesting that people often borrow money for homes, education and vehicles and think about the potential for interest arbitrage, but rarely (if ever) think it makes sense for anything else. Everyone is debt adverse except for the big ticket items (which also really doesn’t make sense).
Csciora, you seem to be overlooking what I feel is an obvious point. We borrow money for big ticket items because we don’t have enough money to pay for them up front, and because we have viable investment alternatives. I don’t need to “borrow” money for a chai from Starbucks, because I can afford to pay for it, and paying that $5 in cash (or credit card and paying off quickly) does not substantially impact my ability to do other things.
Paying $500k (or whatever) out of pocket to entirely pay for a home up front is out of the reach of people who buy $500k homes. Someone who makes $20mil/year can probably pay the $500k home out of pocket, but they are buying more expensive homes and want to maintain some cash. However their chai from Starbucks costs the same as mine, as does their gasoline.
The magnitude of the arbitrage and the investment alternatives are also relevant. The only “loan” I can get to pay for Starbucks is a credit card, and the interest rate on that is 15-20%, and there is no investment I have available that will pay that. However for vehicles and homes, not only can many people not afford cash, there are routine, viable investments that pay more than the loan interest rate (a Vanguard stock market index fund). Maybe over the life of a 3 or 5 year car loan that seems like it isn’t worth it, but over a 15-30 year mortgage it can be.
It’s also a matter of how you view money — there are plenty of studies showing that “poor” people have better common sense related to issues like this. For instance, there is research showing that people people will drive an extra 5 miles to pay $80 instead of $100 for an item and save 20%, but not many will do that to pay $9980 instead of $10,000 to save 0.2%, even if the effort for the purchase is the same. It’s the same $20, but people suddenly value it less because of the relative value of it and not the absolute value of it.
The 2% difference between a car loan and an investment on $20k over 3 years may not seem like much, but for the minimal amount of effort it takes to take out a car loan and invest the difference I can earn over $1000. That’s certainly the equivalent of a few hundred dollars per hour or more, and if you consider doing that for a mortgage, it comes out even better. The effort it takes to invest the arbitrage difference is minimal, the payout may not be large in percentages but can be huge in absolute dollars, and on an hourly basis is an easy way to make money.
$1000 is $1000, and I think it’s dumb to NOT take that money. I can do a lot of things for a $1000. It’s the same reason I negotiate just about every home repair I do. It takes me 15 seconds to negotiate a cash discount, and I often can get 10% off, so for a $1000 repair I can save $100 or more paying cash at a 10% return (I can’t get a 2% home loan for a fireplace repair or plumber). I view that as the equivalent of making $24,000/hour for the 15 seconds of effort it took to make that $100. I can’t make that doing anything else.
I have the feeling that a lot of people here forget how to value money in absolute terms and only do so in relative terms. It’s a big fallacy that is costing people a lot of money for very little effort.
My question was why settle for a 30 year mortgage when a lifelong mortgage would seemingly provide the same benefits? It should be an even better deal. What you haven’t mentioned is the decision to borrow money in the first place (indebtedness) is simply a decision – not a requirement. There are certainly ways to own a car, receive a high-level degree and even own a own without acquiring debt.
Prior to around 1940, the concept of a mortgage didn’t exist. You saved enough cash and/or built your own home. The idea of borrowing money for “basic” living expenses is a modern concept. Only a few decades later, most people have decided that borrowing to finance their lifestyle is both acceptable and necessary. I just saw an article saying the average new car financing is over $30,000 with a typical loan payoff of 68 months. That’s entirely due to marketing, not necessity.
My point is analyzing the benefits of financial arbitrage on big-ticket items entirely skips past the idea of simply buying them outright in the first place. Debt carries far more baggage than simply numbers in a spreadsheet (as Dr. Mom points out). Given a choice of explaining to my daughters how to get the very best mortgage or how to buy her 1st house with cash, I will definitely pick the latter.
There’s a number of reasons why things are different now than in 1940
–Current borrowing options didn’t exist. It’s fine and dandy to say that in 1940 people didn’t do 30 year mortgages, but they didn’t have the option. If they had, I guarantee many would have done so
–The cost of housing has outstripped wages — it’s a lot harder to buy an average home in cash compared to 75 years ago
–The cost of education has outstripped wages and the necessity of going to higher education has risen. 75 years ago I didn’t need to save for my kid’s college because they could get a job without one and if they went to college with no savings they didn’t go into huge debt while in school. It’s silly to talk about education as a basic living expense now in those terms. Sure, a lot of American can pay cash for a community college, but just going to an in-state university isn’t cheap anymore. Tuition at my flagship state university is $20k/year plus room and board. Fully paying for 1-2 kids in college (or a kid taking a job on their own) isn’t feasible with median wages or a min wage job
–Getting a 75 year mortgage isn’t going to happen anytime soon, because you have a high likelihood of dying before paying it off. The interest rates would be so high you couldn’t make money on it via arbitrage
Based on your comments I assume you never use credit cards to capture rewards and pay off the bill at the end of the month? That’s entirely financial arbitrage. If you don’t do it, good for you (even if you are okay throwing money away). If you do, then you are violating your statements and “borrowing” to pay for basic living expenses.
My kids will learn the evils of debt. Outside of our mortgage we have none (and haven’t for several years). However this isn’t 1940, and I will explain that to my boys so they can take full advantage of the system we have.
Nope, no credit card rewards for me. It never seemed worth the hassle.
I haven’t had a personal credit card for the past 15 years. There are some legitimate benefits to them (car rental, purchase protection, reward points), but debit cards have pretty much caught up nowadays. Credit cards are mostly helpful (or harmful) for manipulating credit scores.
I give you credit for following through on your principles vis a vis credit cards. However credit cards have a huge benefit that debit cards do not — if someone steals my credit card and charges a ton, I don’t have to worry about my bank account being drained and the associated hassle of suddenly having all my bills not be processed or bounce, causing a series of other problems, in addition to lack of access to cash. It’s all recoverable, but it’s a giant pain and causes way more problems than someone stealing a credit card. Given the increase in stealing of such data, I have zero desire to use my debit card for anything unless absolutely required to do so.
I can say that credit card rewards are basically no hassle unless you want to put effort into churning. I get 2% back on my purchases with the card we use for everything. Since I charge everything on there that’s possible, it adds up to a lot of money without any hassle whatsoever. Every several months I get energy and get a few credit cards just to get the bonus points and earn >$1000 for relatively little effort. I got the SWA Companion Pass doing that and it’s value is incredibly high if you fly SWA. It took no effort other than signing of the cards and using them for a couple months.
It takes way less effort to do that than to work an extra shift in the ER.
Agreed on both points. Although credit cards are often misused and cause people to spend more than they might normally, I don’t have anything against credit cards in particular. They’re pretty handy and I use both debit and credit cards for business transactions.
It’s a legacy of the financial journey we’ve taken over the years. The first professional job I had wouldn’t provide company credit cards for traveling. You had to pay for expenses personally and receive a reimbursement check. Since I had no extra cash to float expenses for them, it meant using a credit card. Unfortunately, that quickly turned into a cycle of travel, charge expenses, spend reimbursement check on personal stuff and watch the credit card balance get higher every month.
Paying for everything with cash (ala Dave Ramsey) was really effective for getting that problem under control, but “cash everything” is often a giant PITA for legitimate purchases which led to the debit card compromise. The couple of accounts we actively use with debit cards don’t hold too much cash – under $5,000 on average. Between the daily caps on debit cards and electronic fraud protection, I’ve had more problems with legitimate credit card transactions being blocked than losing money from debit card fraud. There’s only been 1-2 fraudulent transactions that had to be reversed over a pretty long time.
My wife actually likes seeing the account balance drop with each purchase and it’s helpful for delaying or avoiding unnecessary purchases she might make otherwise. Money is transferred automatically each week for discretionary household purchases. She can spend whatever is available every week with no concerns about budgeting, savings, retirement planning or arguing. That’s no small thing for me. 😉
Sounds like a good system.
We have automated as much of our savings and bill paying as is feasible, however since we charge almost everything to the credit card, I generally leave a cushion in our checking account because we don’t have a strict monthly budget at this stage and instead just have a rough total dollar amount to spend for everything. If there’s a month we go over that then we try to go under it the next month.
Another thought on financial fear… Most physicians fairly regularly communicate, or at least observe, life-changing events in others, for which things will be different “from this day on.” We conceptually understand that uncertainty is a part of life, but probably don’t give this as much personal consideration as we should.
Very few things cancel or change debt.
Assets, returns, and income can abruptly change: AIG’s fail, banks fail, pension funds (Dallas) fail, hospitals fail, even our own health can fail.
Committing to make required payments -for anything- increases your dependence, and decreases your present and future freedom to some extent. One willingly signs-over some amount of future life/energy/productivity, to make payments on a thing, to a creditor who benefits.
Some may argue that being debt-free is little more than transferring some numbers between the liability and asset columns in a spreadsheet; it may in fact not even change the bottom line of net worth. Yet being debt free is not just a removal of that aspect of financial fear. Anyone who has opened that envelope with the final loan payoff receipt, deed, title, etc and is now totally debt-free knows that there is an additional strongly reinforcing positive aspect as well, to a financial future unfettered.
Great comment!
Debt is repaid with the TIME it takes to earn the money to repay it. I prefer to choose the ways to spend my time without debt dictating them for me.
Debt is repaid with the TIME it takes to earn the money to repay it. I prefer to choose how to spend my time rather than have debt dictate it for me.
Great timing on this article for me. I have one high interest rate loan left (8.5%) of $8500.
I have ~$30,000 just sitting in checking doing nothing other than providing peace of mind. I can’t really explain why I haven’t just paid the loan off but fear, as mentioned above, is likely one of the reasons.
Just wrote a $8500 check this morning!
Hope this was the correct decision….
Thanks WCI.
CJ
8.5%? What you did seems like a no-brainer to me.
Folks saying “I like my job so I can keep working another X years and so afford Y” are one lousy boss or coworker, one revamping of insurance payments for your work (or if you get paid directly by your patients one bad economy), one divorce or illness away from that being a punishing mistake. Admittedly my FIRE scenario was caused by my conviction (incorrect as it turns out) that we’d have socialized medicine a decade or more ago, and the stated goal “If being a doctor pays the same as being a high school teacher some day we want the option to be teachers or quit instead.” I was hoping, like many here, that once I had no need to work I would like my job even more, but that didn’t work out (job actually did get worse, not just my can now afford to quit perspective of it).
With a dim view (also incorrect as it turns out) of likely future returns we got a 15 year mortgage, and then half way through cashed out some savings to pay it off pretty quickly so we no longer had the mortgage payment once husband retired and income dropped a third. Financial advisor (brother) urged us to refi to max amount and let him invest the proceeds for us. I preferred a certain 5% return and no need to return to work if pension or stock market went screwy. 😉