“Understanding both the power of compound interest and the difficulty of getting it is the heart and soul of understanding a lot of things.” – Charlie Munger
A question I get a lot from investors is: Should I pay my home off early?
This question comes from people of all financial backgrounds.
Homeowners often wonder if they should pay off the debt early or pay the minimum and find other things to do with the money they save.
People like Dave Ramsey, a very well-known money guru, say you should pay it all off.
There are other people that say the exact opposite.
Kinda confusing, right?
Well don’t you worry, because I’m going to tell you exactly why I think you should not pay your mortgage off and why you should extend the terms and payments as long as you can.
And to make things easier, we’re going to do this by answering three simple questions.
Stick around! You’re going to love it.
Should I pay my home off early?
It’s not uncommon to wonder why some people in both camps would say you absolutely should pay your home off early.
There’s no reason why you shouldn’t.
I respect Dave Ramsey and his viewpoint.
He says you absolutely should pay your mortgage down as soon as possible and live debt-free.
Doing this will give you all sorts of other freedoms.
I think, for some people, that works.
But if you’re reading this, you’re probably trying to find a better way.
Paying off your debt right away is probably not the case for you or where you see yourself going.
And I’m gonna explain why you’re exactly right.
But hold on just a minute!
Let’s talk really quick about why people say you should pay down your mortgage as soon as possible.
1. Less Debt
So the first thing is that you’re going to be in less debt.
That’s a very practical thing.
You are going to have less payments.
You are going to have less debt.
People pay a lot of money in interest over the life of a home.
You can pay two to three times the amount of the home when you count in the principal and the interest payments over the next 30 years.
Let’s put that into perspective:
If your home is $300,000, you could be paying a total of $600,000 to $900,000 over the next 30 years.
Oh my gosh – that’s crazy!
You’re probably thinking something along those lines, right?
How would you not want to pay that much money?
There is a better way.
We’re going to get to it later, so keep reading!
Now, the reason this topic was important to me is because of an Uber ride.
I shared a car with a lady who owns four houses.
She wanted to know if there was any reason she would not want to own those houses outright.
There are actually some very compelling reasons why.
I’m going to talk about why as an individual, you should not want to pay your house off.
This also applies if you own property.
As rentals, why would you not want to pay those off?
2. Thoughts of Freedom
The promise is you’re going to experience a great degree of freedom.
Imagine you’re on vacation, sleeping under a tree, enjoying life at its best.
This promise is going to get you.
If you listen to guys like Dave Ramsey, you’re not going to be able to go on this amazing vacation right away.
Instead, you’ll be busy paying down all your house debt.
Not everybody has said this explicitly, but it’s kind of like a Life Deferral Plan, right?
You don’t do what you want to do now, you do it later.
I do think there’s some wisdom to that.
You don’t want to be living frivolously, but I don’t think we need to defer fun forever.
What about you?
What Are the Benefits of Not Paying Early?
1. Opportunity Cost
The first thing I want you to look at is the opportunity cost.
If I look at a 3-4% loan and I’m paying it down, it’s the equivalent of me getting a 3-4% return on that money.
3-4% isn’t too bad of an interest rate.
Pretty much zero, if you put it into the bank.
But what are all the alternatives?
If you look at the stock market, historically, you’re seeing around a 6-8% average annual return.
If you look at commercial real estate, you’re going to see around a 10-20% average annual return.
Are those averages better than 3-4%?
They are exponentially better.
Compounding interest is the most powerful force in the universe, according to Albert Einstein.
…or, at least, he’s credited as having that quote.
So if you have an opportunity cost, you should put it somewhere where it’s going to benefit you rather than getting a lower return by paying down a low mortgage.
The second thing to consider is inflation.
Maybe you’ve heard a lot about inflation or how inflation is picking up.
If you haven’t, check out our recent video about it!
In essence, the Federal Reserve says inflation is around 5.4% and transitory.
That means it’s going away.
You don’t even have to worry about it.
Shadow stats say, if you use the 1980 metrics, we’re actually already at 14% annual inflation right now.
That’s insane, right?!
The thing about inflation is: You don’t want to look at inflation as your enemy.
If you’re a saver and you hold cash, it is your enemy.
But you can actually make inflation your friend.
You can hold hands and walk down the street, striding off into the sunset.
How do you position yourself to do this?
During a time of inflation, you should get your money out of cash and get it into cash flowing assets.
Commercial real estate stocks, houses – things that have some inflation hedge.
Let’s do an example:
Let’s say I’m going to give you a 3% loan. You can use the money to buy things you want or go do things you’ve always wanted to do.
You can also invest or buy houses.
The possibilities are endless, really!
3. Interest Deduction
The third benefit of not paying early is the interest deduction for what you pay on your mortgage.
So if you’re paying $2,000 per month on interest, you can deduct that from your income.
That’s an awesome thing to be able to do!
More deductions equals more assets – or more spending money, depending what you do with it!
Something you don’t want to forget about is leverage.
If a house is $100,000, you would put 20% down – or some other small amount.
The remaining 80% becomes leverage.
That’s $80,000 of leverage.
With that kind of money, you can buy all sorts of fun toys!
You can buy boats, fancy cars, trips.
But, actually, that’s not what I’m saying to do.
I’m saying: don’t go buy toys.
Instead, go buy assets that will produce cash flow for you and will be worth more and more over time.
This is a positive way to use that leverage and make it last.
5. Lawsuit Risk
Something a lot of people don’t think about is the substantial legal risk of having a house paid off in cash.
I explained this to my Uber driver friend.
Remember, she had four houses that were all paid off in cash.
I gave her this example to explain:
You back up at your house and you hit the neighbor’s kid.
If you survive this accident, you are a liability.
So, more plainly, let’s say you make a mistake or something happens and you get sued.
A lawyer can very quickly go in and ask: Who is this person? What do they have?
They can do something called an asset search.
They can find all the houses you own, free and clear, with no loans on any property.
Does that look like you have money?
Yes, it absolutely does.
In this instance, it’s better to have loans on your properties, because it makes you look more leveraged.
This is true even if you have a second house!
If you can get one, it shows you have two mortgages, or two loans on the property.
You’re much less likely to be pursued in a legal suit for that reason.
If you have a loan, you’re less of a target.
While it may seem like a small chance or a stretch, we know here to expect the unexpected.
How Do You Invest Instead of Paying Your House Off?
Next, I’m going to get into how exactly this all works together.
Specifically, I’m going to compare the two routes of paying down your mortgage versus not paying down your mortgage.
I’ll also briefly go into what you can do with the money if you don’t pay down your mortgage.
Example 1: Paying Down
You owe $250,000 of a $300,000 house.
You’re going to pay it off.
You say: I want the freedom. I want to feel better. I want to be able to sleep at night.
You go and pay it off. You’re done.
Over the next five years, you save $62,800 in monthly payments for your mortgage principal and interest.
At the end of those five years, you have a fully paid off house.
You still have taxes, which typically go up every year, and insurance, which also usually goes up.
So you still actually have two payments on this, even though you’re hoping for no more payment.
Keep this in mind!
Even if you pay a house off, you still have some money that’s due every year for insurance and taxes.
Example 2: Not Paying Down
We’ve got the same $300,000 house.
Instead of paying off the $250,000, we found investments that have a 15% per year return.
You heard me right.
15% per year.
You’re probably thinking something along the lines of: Bronson, how can you find 15% per year?
Where are these annualized?
Don’t worry, I’m going to talk about that more in a bit.
So keep reading!
Now, we have a 15% per year return over a five-year period.
With that return, the $250,000 goes up to $502,839.
You have to subtract the mortgage payments, which we calculated earlier to be around $62,800.
After that, you end up with just over $440,000.
That is much higher than the $250,000 you would have paid off otherwise.
Now, what I really want to draw attention to is the fact that this is only over a five-year period.
What happens if you do it for the life of the mortgage over the next 30 years?
At 15%, you would end up with $16 million.
That’s a lot of money!
This is why compounding interests has been said as the most powerful force in the universe.
Now the questions become: Where do I find these investments? What does this look like?
First, take a look at this video I did about multifamily real estate.
There are also other kinds of commercial real estate: Self-storage, mobile home parks, office space, retail, land.
To get a more in-depth look at that, you’ll want to take a look at this video, which talks about some of the different kinds of investments you can get involved with.
Also, make sure to check out our special report about investing. It compares the stock market to real estate, and it also includes how the pandemic affects your investment future.
If you are interested in investing with us, we are happy to answer any questions that you may have. Join our investment club today and we will be in touch.