<p>DW is suggesting that we payoff mortgage so that our DD high school annual tuition along with annual mortgage interest will be sufficient to pay the annual expenditure at MIT.
She is putting forward the following points in favor:
1. In case of us loosing our jobs we will have the house and DD will qualify for FA.
2. The money in bank is only earning 2% interests while we will be paying 5% interest on mortgage.
3. We will be able to pay the DD expenditure from the pay and DD wont have to take loans (interest rates for those starts at 8%).
4. Our 20th anniversary is this year and it will be a great gift.</p>
<p>The biggest issue, that you didn’t mention, is retirement. Everything I’ve read suggests making sure you have enough money stashed away for you and your wife before paying any money for college. Kids can get loans for college, but parents can’t get loans for retirement.</p>
<p>I know there will be a lot of conflicting opinions, but I think this key. If you have enough money in the bank to pay off your mortgage and still have a cash cushion to cover a couple of months expenses in an emergency, I say pay off the mortgage.</p>
<p>toledo: Thanks for bringing that up as we did discuss it and DW suggest putting the principal portion of the mortgage payment to be invested for retirement. The interest portion of the mortgage will also be available to invest after 4 years (hopefully).
DW is conservative in investment and will not allow us to invest this money in stocks, so the interests in bank CD is around 2% and the mortage at 5% is a net loss of 3% interest every month. But she is ready to invest the principal portion in to mutual funds or stocks.</p>
<p>If you have enough cash to pay off the mortgage, that’s essentially the same as investing it for a 5% return, guaranteed. That’s pretty good, these days.</p>
<p>What about the tax benefits of having a mortgage? You must take into consideration what amount of tax you are not paying because of the interest deduction. You will be paying more in taxes after you pay off your mortgage unless your income drops considerably.</p>
<p>There’s also the time value of money to be considered; you’ll be paying off the mortgage with future dollars that have less buying power than the dollars you have now. </p>
<p>Look into investments other than savings accounts in a bank, such as I-bonds.</p>
<p>runmanstl: Yes, we did take that into account as we still be able to claim itemized deductions and the interests earn on the cash in bank will be taxed too.
The itemized deductions phase out also after an amount and can cause AMT to kick in too. I don’t think we will be able to omit AMT by paying of mortgage but it will bring the itemized deductions to less than the phased out amount.</p>
<p>That works both ways. Let’s just use a 30% tax rate and $100,000 either in the bank or owed to the mortgage for illustration. The $100,000 in the bank is earning 2% interest, so that’s $2000/yr (we’ll neglect compounding for simplicity). That $2000 is taxable income, so after paying income taxes the net gain is $1400/yr. </p>
<p>A $100,000 mortgage at 5% interest is costing $5000/yr (keeping it simple --neglecting amoritization). That $5000, deducted from your income, will save you $1500 in taxes. So you will have paid $5000 interest to save $1500 taxes, for a net loss of $3500.</p>
<p>That’s why I say to pay off the mortgage with money that’s sitting in a bank making 2%.</p>
I was also of the same opinion but the time value of money depends on the usage of the money too. Till now we were getting upward of 5% on our CDs and the mortgage interest was 4.75%. But now we are unable to find any investments that provides better than the 5% with the inherent protection of the prinicipal.
Also maintaing both $52000 annual college expense along with the mortgage from our current pay is impossible.</p>
<p>You also need an emergency fund. Here is a suggestion:</p>
<p>Get qualified for a Home Equity Line.
Then payoff the mortgage. (The doc’s are easier if the first mortgage is paid off when you put on the HE line).
Then put the home equity line on your house that you will only use for emergencies.
If you need the cash, then you can make a draw on the Home Equity Line. If something bad happens (laid off, bank in financial trouble, etc), then draw on the Line ASAP before it is canceled. Once the crisis clears (or get a HE line from another bank), if you didn’t need the money, you can pay off the draw.</p>
<p>From a FAFSA perspective, I think equity in your home is protected, but only a certain amount of cash in the bank.</p>
<p>Note: Ignore the tax effects - They won’t make a difference in your situation. Also, you won’t be able to earn enough on a Muni Bond without going out a lot of years.</p>
Yes, that seems like a good option to have but most bank force you to withdraw an initial amount. We do have Credit Cards with large limits that we don’t use but HE has much lower rates.</p>
<p>^ Ok, so if it’s before taxes, you’re probably “losing” money in the bank account.</p>
<p>I’ll assume 25 years out of a 30 year mortgage…you’re getting a big tax break keeping the mortgage because you’re paying a lot of interest still.</p>
<p>Depends on what you buy…you could also buy high dividend stocks. Some are paying 8-12% return while you wait for capital growth. But, it all depends on your level of risk tolerance.</p>
<p>If it’ll give you greater peace of mind to pay the mortgage, and you plan to stay in the house forever, pay it off.</p>
<p>Another way to look at it is the difference between the bank rate and mortgage rate (5-2=3%), which is what you “earn” by paying off the mortgage. Moreover, the 3% earning is a risk-free rate. Of course, if you are “rich” as defined by the Prez, then phase-outs come into play, not to mention tax rates in the years of 2010+.</p>
<p>We debated and debated this exact decision in our household. In the end we decided against paying down the mortgage. Too many unknown variables. If a college uses an institutional method or the profile to determine FA they will take into account the equity in your home - I don’t know to what extent. I still don’t know if we made the right financial decision but in the end we felt better knowing we have available money. I also did not like the idea of tying up money in a house when the real estate/job markets are so uncertain. The pitiful interest on savings really hurts - the banks don’t need our money anymore - they have the bailout - this is what my banker told me!</p>