Wealth Building and Mortgage Planning: Two Great Flavors That Taste Great Together
What if I told you that almost everything you’ve been told about what to do with your home has been absolutely wrong and that one of the worst ways to build wealth is through your home? And what if I continue to show you that anyone who perpetuates this myth is probably not your best source for accurate financial information?
Most of you right now are looking at the signature a couple of times to see if this article is REALLY being written by a mortgage person. Some of you have taken this as definitive and unequivocal proof that all people with mortgages actually sit around a big table of teacups in fraction hats! No, you are not in Wonderland, but if you keep reading, many of you may have been for a long time.
One of the buzzwords or slogans floating around in financial circles is “wealth creation.” This has gained prominence due to the ability of the planner or agent to broaden their focus on overall wealth with their clients rather than just the return on a particular investment. While a holistic approach is great, wealth creation strategies often lack a defined strategy to achieve good – wealth creation! These plans often fail or underperform because they don’t adequately represent one of the most important parts of the wealth landscape – and that’s the house!
WHAT DID HE SAY?
That is not a typo and I did not contradict myself from the first paragraph. You see, most people believe that their home is something completely separate from the rest of their financial planning. It is this sacred cow that is in the green grass chewing while everything else in your financial life is trying to figure out how to grow without the food it needs. The sooner people realize that EVERYTHING they do is an investment decision, the better off they will be. The implication of your decision is not simply what you get out of your action, but the opportunity you give up.
So, let’s get back to wealth creation and mortgage planning. By borrowing some thoughts from a great financial partner of mine, Brent Gilmore, we can sum up what we typically look for in terms of characteristics of a good investment such as:
- something that generates a good return based on our risk
- it’s liquid if we need it
- you are not subject to additional restrictions to access it once we have it
- you are not at risk of loss.
The reality is that your home is by no means the definition of a good investment. The reasons are quite clear if we break them down. What if I told you that the MAXIMUM profitability that you could make on the purchase of your home is 0%?
This is where we come to the rabbit hole.
We must first explain the difference between return on investment and return on investment. Return on investment is simply getting back the money you invested. Return on investment is the difference between the final value of your investment and the amount you invested.
Whether you pay cash for your home or pay nothing, your home mortgage will be worth exactly the same in 1 year, 5 years, 10 years, or 30 years. It is true that if the values continue to rise, you will get a positive return on investment, but that is independent of the return on your investment. Even that fact has some doubts that cloud it, but that’s another article.
PAGING CHICKEN LITTLE
Now let’s step back from all the falling sky and get some things clear. Your home may continue to appreciate in value, especially in a strong local economy like Columbus’s. But appreciation, as I showed you earlier, has absolutely nothing to do with the return of capital. Remember that if you bought a $ 300,000 home today, paid cash for it, and traded it in 1 year and sold it for $ 350,000, you would have experienced the same appreciation as if you had put in $ 0 to buy the home. Your $ 300,000 was invested in an asset that yielded 0% during use.
The key to this is that when you pay off your mortgage, you “choose” to invest the money in your home rather than in other options that could pay you back more. Let’s consider the consequences of not being able to pay that mortgage one day:
- Will the bank return the money you paid for the mortgage and all the appreciation when you sell your home in foreclosure?
- Will they lend you more to help you recover on as good or better terms than you are now?
- And will they do it without asking you to prove your ability to pay off the new loan when you couldn’t pay off the old one?
It sounds silly, but this is what happens all the time.
Now wait, you say, I have a document that shows me that if I pay twice a month I will pay my mortgage 8 years early and save $ 84,000 in interest. You’re right, you will. BUT, is it a good option if that money you borrowed at 4% (after factoring in tax savings on interest) could get you back more, guaranteed, elsewhere? Also consider other factors:
- Are you making those payments and have “bad” debts like 15% credit cards?
- Having a hard time getting enough into your 401k to get the match your employer offers?
- Funding the Roth IRA or 529 College Savings Plan for Kids?
We don’t even address the implications of eliminating or reducing your tax deduction and increasing your overall tax burden.
TO PAY OR NOT TO PAY, THAT’S THE QUESTION
Let’s look at the positive results of paying your mortgage instead of keeping it.
You no longer have to make a mortgage payment to the bank every month.
You may have less to pay when you retire.
And that’s it. Now notice that I didn’t say anything about the myth that you finally “own” your home. In truth, you never do, you always have to pay taxes, and you always risk loss through various means, including but not limited to:
- Casualty loss
In almost any analysis where someone is using money that they would otherwise use to pay their mortgage principal for other means of wealth creation, the other “means” come out every time. The requirement here is to reject our human instinct to consume and use this money effectively.
Keep in mind that this is the key to wealth creation. If you can’t conquer that human instinct, nothing else matters. What this allows you to do is use the dollars you are already spending and inject them into the system to your advantage.
The simple truth is that canceling your mortgage is a purely emotional decision that we have been taught to believe is what we are supposed to do, but if you understand the implications of the decision and can act on it, that choice is often wrong.
PAY NO ATTENTION TO THE MAN BEHIND THE CURTAIN
Now you say, this is just a smart trick from another mortgage guy trying to make money from me. Well, normally consumers refinance every 3 years and many times that is because they need money. But customers who have invested that money in other elements of their financial plan are much less likely to refinance for reasons of necessity.
People borrow for car expenses, home improvements, college expenses, travel, or to pay off credit card debt they said they would never have again. People who are planning for these expenses and find tax-preferred or tax-free ways to finance them with money tied up in their home have little need to make decisions based on these “needs.”
WORTH GREAT. NOW WHAT
There are all kinds of different mortgage products and programs that can turn a consumer’s head. The important thing to note is that most of them are wrong on almost every level. If you are looking to build wealth, a home is a big part of that plan if used correctly. That does NOT mean you go out and get an interest only ARM so you can buy a $ 400,000 home when you could otherwise only afford a $ 200,000 home.
Many families want to invest in savings for college. They want to have more than $ 50,000 in life insurance from their employer. They want to protect themselves against disability or job loss. They want so many things but they don’t know how to find them in the pool of money they currently have available. Does it mean they give up? This is often the case, but it doesn’t have to be.
It means that you look for opportunities in capital that is doing nothing for you now and use it in conjunction with the reallocation of dollars that you are already spending. The mortgage vehicle you use is independent of this choice and only your situation will determine which is the best for you. For most, this is all it takes to see a difference of a million dollars or more in retirement. For others who are closer to an age where they will stop generating income, it is necessary to change current spending habits along with these measures.
These ideas that I have mentioned very briefly are the ones that need to be explored individually and on an ongoing basis with a team of financial professionals who understand how to help make this work for you. This is not one of those “plans” with steps you can follow from a book on your own and in 20 years a golden goose will lay precious eggs for you. Coordinating 401 (k), Roth IRA, investments, permanent life insurance, wills, and trusts is something that needs a lot more discussion than is wise here and frankly with people who are much more qualified to tell you than me.
It’s time to think of your mortgage and home as more than just a place where you and your family make great memories. If you allow it to work as part of a totally responsible financial philosophy, it can be an incredible wealth booster. With so many options in all areas of finance, it is imperative that you find a group of professionals who hold those same beliefs and values. Easier said than done, I know. I know this because that is exactly what we have been doing for over a year in Columbus exclusively for our clients.
Admittedly, this is not for everyone and some of you might have stopped reading by now because you think I’m obviously crazy. That’s okay, because changing that human instinct to hurry up and pay off a mortgage is hard. But for those of you who have had your eyes open, I hope I have provided you with enough material to think that you are beginning to reconsider how your mortgage is working for you.
For more information on home financing and personal financial information, visit: http://www.RightWayunlimited.com. Articles, calculators, newsletters, glossaries and more for your personal financial information needs.
by Jeff Blovits, Franklin Bank SSB
Http://www.Rightwayunlimited.com – A personal financial information resource for consumers.