As long as mortgage money is cheap, the most profitable course of action is to use the 30 year mortgage, but keep a large chunk of money in reserve and invest the rest in the market for the long term. And never allow yourself to not be well-cushioned.
Debt gets people in trouble when they use it to get things that put them on the edge, where losing a job causes them to miss a payment. For people who stay far away from the edge, and are good with money, it's very profitable.
However, for someone disciplined, taking a 30 year mortgage and paying it off like a 15 year mortgage with significant over payments is a good strategy. It means if you need to tighten your belt you can always drop down to the normal payment for a spell without so much as having to speak to the bank.
The worst option is to take the 30 year mortgage and then buy the larger house that the longer period allows you to afford.
In real terms cash is losing significant money every year while assets are gaining money. Debt makes sense as long as you have a margin of safety and can multiply the impact with leverage.
IF you believe inflation will be significant over 30 years say, and can lock in a low rate, it is better to go with a longer term.
If you think the return of your investments will >= 3% mortgage rates then you're losing money by not taking on debt (albeit with a bit of risk).
This being the utter fucking fallacy of hypothesising with the benefit of perfect information.
It's not a trick, it's simple maths. It certainly doesn't always work, and there are risks involved, so not everyone will agree on the right decision, but there is clearly a path where borrowing money to pay for a large asset makes sense.
Imagine a more extreme example:
Interest rates 0.1%, Inflation 10%, 30 year term, leverage meaning your 50k becomes say 500k invested.
Now it makes sense to take on as much debt as you can get over say 30 years, and to put off paying it as long as possible, because even after a few years the payments will be quite minor compared to your inflating income, and at the end of the 30 years the debt you have left and the interest payments on it will be trivial compared to your income.
This is the worst of both worlds. You pay the interest penalty of a 30 year, with the payment of a 15 year (well, slightly more). The interest difference between a 30 and 15 year mortgage is about 30% (2.x% v 3.x% APR).
I did a 15 year mortgage, then refinanced it every 12m or so ($250 each time), resetting the payments back to 180 months each time. That way, I get the interest savings of a 15 year, which is significant, and each refinance makes your payment quite a bit lower because a 15 year loan actually pays back principal. After six years, my mortgage will be the same as it would have been if I originally got a 30 year, but it will be paid off in 21 years instead of 30.
There's a risk interest rates rise, or I lose my job and can't refinance. But so far, so good. And honestly, my mortgage now is so close to what it would have been with an original 30 year loan that it doesn't even matter if I can never refinance. The hardest part was the first two years.
Depends on how much better the same amount of money would perform if invested in an index fund. It could be more profitable to throw the difference in monthly payments into a vanguard account instead of a higher 15yr monthly payment.
Personally my view is exactly your second point: Buy small enough that you can consistently put $x extra each month against the principle + one full extra payment each year. It's a good middle ground to maintain flexibility
And absolutely-- buying the biggest you can fit into monthly expenses may even seem responsible: "I'm not living beyond my means!" but is a razors edge of risk for unanticipated expenses or more significant life disruptions.
Purchase a house where you can afford the 15-year fixed mortgage, but take out the 30-year fixed mortgage. Pay it off as if it were the 15-year fixed (ensure that your loan has no penalties for prepayment or extra payments, and that 100% of extra payments go toward the principal).
If things go smoothly for you, you’ll pay a marginal amount of additional interest (because your % will be higher as a 30-year than a 15-year). However, if you run into cash flow issues, you have a good amount of reduction in mortgage payments that you can make while keeping the bank completely satisfied.
Obviously if a bond paying 3% would be interesting to you, pay the mortgage off first before buying the bond.
Essentially, I don't expect my overall happiness and satisfaction to be linearly correlated with my finances, and I expect that non-linearity to be such that I'd rather be more risk-averse in such a way that I have to give up some of the potential gain.
If there were a world where I could _guarantee_ the avg. stock market return, then I'd of course take that offer, but sadly such guaranteed returns only exist in the form of scams and ponzi schemes.
You're right about the compound interest, but compound interest can work for you as well.
That said, I don't think they exist in the US.
But consider a thought experiment where you could borrow $1m at a low rate of interest, suppose 3%, from a generous lender who requires no collateral and requires an amortizing repayment. You take the $1m and reserve, say, $100k in "no-touch" cash (your cushion) and invest the remainder in the market, and suppose that the market returns an average of 7% over the long run.
In this scenario, you obviously pay much more interest than not taking the loan. The interest you pay is nearly $500k, which sounds like a lot - almost half the loan! Yet you make a tidy profit over 30 years: after paying back the loan, you have a portfolio worth over $4 million, plus the $100k reserve you still have.
While that's just a thought experiment, the math works fairly similarly for a mortgage. So long as the market returns more (over the long term - it'll be bumpy short term) than the cost of money, you will be paid handsomely for assuming lots of long-term, fixed low-interest debt and investing the proceeds.
And this leads to a second surprising conclusion: you should not pay off your mortgage. Once you've built equity, releverage the house and borrow more, so long as you take the proceeds and invest it in an instrument that will pay more than the cost of money over the long run. If interest rates rise, the math might not work.
This is bad advice for some people, because a pile of savings and investments can be a tempting target to use for luxury vehicles, or boats or whatever, and that can upset the math, although eventually you make enough with it that might be OK. But for people who can live as if those investments were illiquid, it's quite a rewarding path.
And for some people, the psychological value of living in a house with no mortgage exceeds whatever financial gains come from continuing to pay for a mortgage. And while there's nothing wrong with that, it does come at a stiff financial cost.
Regardless though, as a result of working at a successful unicorn and selling a lot of my equity on the secondary market, I ended up benefitting from the Fed's insane money printing anyway (the prices offered for my equity doubled and doubled again in 24 months).
I'm now sitting on a pile of cash. I invested a small amount (about 25%) into stocks (mostly REITs and dividend yielding stocks), but the rest I left in cash with the hopes of buying a home without debt (I can always take out a mortgage later to invest).
But the homes just keep increasing in value. The homes I looked at in 2016 in the Bay Area that were 600K are now 1.5M and up. I took my family out of the Bay Area into the Sacramento area, and even here houses have gone up 30% in the last year. Houses that were 800K are now going for about 1.2M.
But I'm still being patient. Now we're looking to leave the state entirely. I could buy a home here, but I'm looking at the economics for someone who is entry level or working a blue collar job (or being a teacher or caretaker), and I realize I don't want to live here. Apart from housing, I also have to think about what kind of teachers my kids will have, what kind of chefs will be at resteraunts, etc. A California that is unaffordable for everyone but me is a lame place to live.
After checking out Texas, Colorado, and Florida, we've decided we'll get way better value for our money, in terms of lifestyle for the family if we leave. California is bad and only getting worse.
I share your holistic view, I don't want everyone around me suffering and acting tense. Its been that way in most of the country for a couple of decades now. A lot of people must really enjoy that, but I don't really see a true benefit to holding everyone down in such a way. To get a fairer society means less profits for employers so there's a lot of effort to contain those costs. My spouse is a teacher so I know what you mean, though teachers are fairly compensated where I live for sure. She makes more than I do with better benefits by a longshot. Most public school teachers in big cities are bad because the families/students are bad, and they have no authority to discipline them. Most teachers that care don't last and go teach for less money in the suburbs.
I'm in Chicago and while dangerous in 80% of the city, if you lived in the suburbs and don't mind winter, I've never known anyone that doesn't like it here. It's my favorite city in the country, it's the only city that the times I've driven out to move or visit elsewhere that I felt heartbroken. The only other place I've lived where I felt that way was France. I've lived all over and multiple countries on top of it. Crime and undesirable weather for most people keeps costs down here. I like Florida but it's such a diverse state that each area needs examined by itself. Just some thoughts.
My thoughts on buying for you are the same for me: at least wait until January. There's just too many near-term risks. My conclusion has been if things are still the exact same as today in Q1 2022, then go ahead and buy, my crystal ball is broken. That said, I'm deal hunting so if I can get anything for 15% off going rate or more, I'll probably just do it. I'm looking at homes that are in blue collar neighborhoods.
If California would allow anyone to build an apartment complex nearly anywhere (as Minneapolis does in many neighborhoods) then there would automatically be more housing, and more affordable housing for blue collar workers and entry level workers. Instead, we have so many neighborhoods where each house is forced to be on .25 acres, or .15 acre, with forced single family occupancy. Affordability is a construction, zoning, and permission problem in California.
And that high expense for housing then trickles up and makes everything more expensive from child care to healthcare to services ... as everyone has to pay workers ever more just so they can get a roof over their heads. People are making $25/hour with no college degree and feel poor.
I have found a happy (to me) medium - I invest all of it diversified across low to high risk assets (muni bonds, i bonds, tips, mREITs, dividend stocks, stablecoins, growth stocks), and at this point just the interest/dividends (NOT counting unrealized gains!) almost cover even my crazy rent (3500/month, for the house we are renting which is valued at about 1.5m). I just don't have the time or the energy for a house. Also a house doesn't MAKE anything other than provide shelter. Psychologically it doesn't make much sense to me to "invest" in a single house, tied to one area, such a large % of my networth. My friends bought houses recently, and even the "flips" turned out to be fixer/uppers. The supply is so bad right now you can really get burned.
Once the supply improves - and really this means most of the government distortions disappear, I would reconsider. By government distortions i mean specifically 0) stimulus checks 1) extra unemployment (bonus monthly $, extra time, and expanding benefits to people that would not have otherwise been covered) 2) mortgage forbearance programs 3) student loan forbearance 4) super low rates. i agree at one point these distortions were necessary when we were all hunkered down and hospitals were being overrun, but we are far from that these days.
Eventually I just simplified things. Living in a property you own gives so much more for your money compared to what one could afford at the same level renting. And on a long enough timeline crashes have had minimal impact. Many of those disruptions would affect the financial markets too so unless you’re extremely conservative leaving the money in stocks is not very safe either. I’m not renting for another 5 to 15 years with a small place and a nosey landlord jacking up rent regularly. So I bought.
This isn't true everywhere. Prop13 in California for example means that a long-time owner can rent out a property at below market and still make money since they're paying near-zero property tax. Both the renter and landlord come out ahead.
Ultimately I chose the former. Because at the end of the day, a house represents shelter to me. And roughly speaking, shelter is fungible. If the value of my shelter goes up by 50%, the value of the other shelter around me goes up 50%. If it goes down by 50%, so does the shelter around me. So buying into the market gives me a foot in the door to, roughly speaking, be able to move to similarly desirable dwellings regardless of where they are.
This is obviously a bit simplistic, but I think its a fair way to look at it.
A lot of homeowners who needed help during the start of the pandemic were able to get a forbearance on their mortgage. Thus, there was not a huge increase in foreclosures and instead people just had extra payments tacked onto the end of their mortgage.
3) If anything, wealthy homeowners are getting a tax break. Congress is considering a repeal of the SALT deduction limit, which helps homeowners.
5) The number of people who were fired or quit due to mandates has been very small.
If you're buying just to buy, then hold off.
On the inflation risks. I really wish the Democrats would cancel all their ideas about child care and what not, and just shift the tax burden from the working class that punch a clock, to the investment class that live off of IRS-defined unearned income. So much easier, simpler, doesn't engage in designing society, rewards working, helps the economy more than anything else you could do through increased spending, and would be far more popular. But that's an aside.
If you have a great mistrust of the future, then there's never going to be a good time to buy a house. If you think politicians are going to mess things up yet again, buying a house is foolish. Hanging off every word the next three or four presidents make is going to make your heart sink and your blood pressure rise on bad news, and curse the name of whomever convinced you to buy an millstone of a house to hang around your neck.
If, however, you're convinced that buying a house (for you to live in, not as part of a basically-liquid REIT) is your path to financial freedom, then when the refrigerator or other large appliance breaks, that's just part of owning a home, and you'll relish in picking the one you want.
How do you want to live for the next few years? (One thing to keep in mind is that houses can be sold before the full 15-30 years is up, which may be advantageous, depending on your finances.)
You raise really good points. Insightful, like many of the responses here. My main thought in reading is this is why I'm buying as cheap as home as I can that is functional. My strategy is just to buy the cheapest home that I'm happy with. If things go to hell, and I really don't have much to lose with the anchor around your neck that home ownership is. If the fridge breaks that's annoying, but I've been renting a long time, few to no landlords want to spend a dollar anyway. They don't lose so owning is the ticket to financial freedom, even if it's not a money maker and merely a way to get expenses down to taxes + utilities. Which is how I see it.
4 you have to ask yourself about real rates, not nominal rates. Yes you want to get paid interest, but you also have a loss on inflation. Also, you pay tax on nominal but you don't get a credit on inflation.
What you really want to think about is whether rates will get so high that people can't afford to refinance, and are thus forced to sell.
As sad as it sounds, you may want to look into that forced seller thing. When someone hits hard times, it gets even harder due to them having to sell at a loss compared to the market, which for you as a buyer is straight up money in your pocket. See about your local foreclosure markets, I think a lot of them might still be done in an old fashioned show-up-in-real-life and shout way. Depends on where you live.
Finally, it's good to list risks as you do. The big question though, is always whether the market already reflects your thoughts.
This takes a bit more patience though. They can drag on for a while as the bank & "owner" possibly reconcile or the owner fights things tooth & nail. These deals tend to fall through a bit more than traditional sales. Given patience though, you can get a good deal: Banks don't want to be in the business of actually owning houses & their carrying costs, so they generally sell at a market-clearing rate instead of waiting for the best possible offer.
How into the geopolitics of China-US relations are you? I ask because my reason that we're at high risk for a conflict and now low over Taiwan is that China just upgraded their navy, while we have a refresh going on right now. Once that investment is complete China will have essentially the window closed on any hope of winning the conflict. They have to move relatively quickly to have a realistic chance at taking over Taiwan, if US determination is resolute in stopping them at least. It could happen at any time.
1) This will impact rentals much more than home sales, and evicted renters aren't going to increase demand in the home sales market. It's also a positive factor if you're buying: Don't be in a hurry, wait 2-3 months to see how the end of the moratorium impacts supply. If supply increases, sticker price should go down-- you win.
2) This seems too vague of a threat to factor in. Neither side wants an all out trade war (though idiot meaningless wars have been waged before) If you mean military? Well, anything significant enough to trickle into the housing market may not spare you as a renter either. Outcomes in that scenario are beyond the event horizon. If you really think that's a significant enough threat to factor into home buying decisions then you should be buying a home way outside of urban circle-- one with solar power, well water & purification, and two levels of basement for all of your prepper material.
3) Easy enough: factor that possibility in to what you're willing to spend. Let's say a worst case is a 10% increase to your marginal rate. Unless you're over $400k/year that is very unlikely anyway from the (still too few) details I've seen out of congress.
4) Okay, just don't crash the market on purpose. The rest of us have to live here too
5) From areas (NYC) that have implemented these mandates, non-compliance has been very small. And I'm willing to bet that extremely few hold outs are from people who would lose their home & suffer economic ruin over a refusal. Anyway, there's a simple solution here too: wait 2-3 months to see how they shake out.
You're likely making a bad bet by holding on to cash. The inflation and low rates are doing their job for the most part by driving investment and spending, and you're swimming against the current by doing exactly what you're not supposed to be doing: hoarding cash.
> 5) Vaccine mandate job losses. Supply.
We're already back to full employment. These threats of en masse departures haven't really materialized, the few who haven't caved are just helping newer employment market entrants by offering up some nice safe jobs.
This is not universally true.
On the mandate job losses, I think a lot remains to be seen. We have the airline issue going on right now, and I think that's directly related. Not sure there's any in-person "nice safe job" honestly. This is so far from being over in regards to variants, there's just no sense in all this. The only mandate people need is a mandate on employers that any job that can be done at home, shall be done at home. Then mandating hazard pay for those that must do their jobs in-person. Those are the only mandates that make sense to me, and I would hope that by Jove, even our most brainwashed vaccine-loving brethren could get onboard with.
> Those are the only mandates that make sense to me, and I would hope that by Jove, even our most brainwashed vaccine-loving brethren could get onboard with.
I'm afraid that on a planet with 8ish billion meat-based life forms of extremely similar cellular makeup, vaccine mandates are going to be the norm going forward. Covid won't be the last pandemic, and vaccines are the best defense we have against them. It's not brainwashing to accept vaccination as a countermeasure, it's very clear-eyed realism.
I'm uninterested in the flu "vaccine" and the COVID "vaccine". With their narrow band of immunity, that wanes after 6 months requiring yet-more longterm untested vaccine shots. I am interested in the polio vaccine, or any COVID vaccine that's sterilizing.
I don't really want exposure to the real estate market. I put every tax-advantaged dollar that I can into index funds. I hate it, but I don't have a better option as a retirement vehicle. I figure if the stock market is down in 2040 from today's market, we have a lot bigger problems going on in the world than just my retirement. Should have invested in Glocks, Brownings, and ammo. Which I am, but not for that purpose, but rather home defense. When I finally own a home that is.
Covid and flu vaccines save lives in vast numbers, perfect or not, but the capacity to have a sense of responsibility beyond your own life isn't equally distributed in our society so I do see and understand your point of view here.
Still, this is very confusing reasoning. Like refusing to use the seatbelt in your car because the car doesn't have side impact airbags.
You sound bullish so I wanted to share five risks in the short term that have been on my mind lately:
1) Evictions now allowed in 43 states after a pandemic moratorium on them. My state allowed them October 3rd. Supply.
2) A China conflict at any point. Disruption.
3) Taxes going up on the wealthy. Disruption.
4) Rates going up to counter inflation. I want this one since I have cash and don't care if rates are 2% or 20%. While I do want the free loan (2%), I prefer the market to crash. Disruption.
5) Vaccine mandate job losses. Supply.
Given this, I've been extremely hesitant lately. So I've been trying to hold off until January for my purchase to see how correct I am, or not, on these risks impacting the market. I don't see the point in waiting years as rent drains about $18,000 a year and you have to balance that with home ownership costs. Even with repairs, I don't mind slightly overpaying if it means getting out of rent slavery. I'm also buying a home that I can nearly buy outright. I'm determined to never lose a home due to job loss, tired of working for someone else, so a 30-year mortgage isn't happening under any circumstance. 15-year only.
The one way I've been trying to protect myself is at least seeking a 15% discount off market rate for any home that I do purchase. I see that happening in my city enough that I'm confident. Eats into the 40% buffer from 2019, so I'm still at significant risk but does take some bite off in the event of a market catastrophe.
Any thoughts are welcome. Definitely would appreciate it. Whether the answer is: buy now, or, buy in 15 years. I'll try to integrate them into my view and choices.