Should I pay off my primary residence early?

Question

Hello,

I will soon be moving to Texas for work. I plan on buying my first home out there, but I am also planning on beginning to invest in buy and hold properties soon after I move. My wife and I will both be getting promotions and have a much lower cost of living, so we will be using this extra money to invest in real estate. I should be out there for about 5 years while saving to move to San Diego, CA. I know about the benefits of house hacking, but that option is not viable for my family. My main question is whether I should pay down the mortgage to have equity to use on the San Diego house while still investing in real estate, or make the normal payments and invest more aggressively in real estate?

Here are some numbers to give a bigger picture:

Current rent: $2,020

Mortgage payment estimate:

about $1,500 for a 15 year loan

about $1,100 for a 30 year loan

Should I get the 15 year loan and make extra principle payments to build equity to put towards the San Diego house, while slowly building my buy and hold investment portfolio?

Or, should I go for the 30 year loan and use the extra money to aggressively build my investment portfolio?

Thank you,

Robert

Jim Cummings · Answer

@Robert Reynolds. As @Derek Diamond says either is a viable strategy.

I would recommend going with the 30-Year Product. This gives you a Lower (Required) Monthly Payment. You then have the option of accelerating the payoff period by using a Bi-Monthly Payment Option or just sending additional Money each month or whenever you budget allows without the heavier (Mandatory) monthly payment required by a 15-year product.

If you are not familiar with the Bi-Monthly Payment program, the Lender collects half of your monthly payment every two weeks, So you end up making 13 payments each year instead of 12.

And, if you really want to accelerate the payoff - go with a 30-Year Product, setup payments on a Bi-Monthly Basis, and then throw additional Money in each month.

Either way - your rocking!

Account Closed · Answer

I agree with this recommendation and want to share my experience and decision logic when I faced this choice earlier in my life.

When I bought my house in the 1980s, I had to go with a 15 year product because that is all the banks were offering at the time (the risks were high with inflation above ten percent).  I refinanced a few years later with a 30 year product and with the reduced principal and a lower interest rate, my new monthly payment was only 40% of my previous monthly payment.

I took the opportunity to build up a cash cushion of two years by making the lower new monthly payment.  Then I went back to the higher old monthly payment because I don't like debt and wanted to get rid of it as soon as I could (my household budget allowed for the higher old monthly payment).  If I sound like I'm economically paranoid, I am.  The nature of the industry I worked in before I retired (tech) is a boom and bust industry.  Also, the types of engineers who make the big bucks change over time as technology advances.

Right now, for example, artificial intelligence researchers at a non-profit in San Francisco make million dollar salaries. In a few years when these types of engineers either become plentiful or become obsoleted by the next generation of experts (perhaps robots), AI salaries will decline.  Ideally, these researchers today have enough financial literacy to know to invest a good part of their income in income-producing assets so they can survive the harder times that historically are sure to arrive for them.

Lynn T. · Answer

I also agree with Jim's comment. I had to make a decision on the same scenario. Based on my recent research on the interest rate, the difference in 30 years fixed vs. 15 years fixed are still very minimal (under 0.5%) I would say do the 30 years fixed and accelerate the pay down when you can. But this way you are not obligated to pay higher minimum when going with 30 years fixe.

I also would recommend doing HELOC when you have saved up enough equity on your home. HELOC will allow you to buy some deals (where financing is not an option - and Hardmoney just won't make your number goal).

Sounds wonderful that you start thinking of buy and hold. Best of luck to ya!

Derek Diamond · Answer

Hey Robert, with either option it sounds like you and your wife are setting yourselves up for success.  Lower expenses and, I assume, higher income. Well done!  This can be a tough choice to make.  Paying your house down is the safer option because you will have less debt, and Dave Ramsey would be proud.  However, with this option your money will not be working as hard for you with the power of leverage.  If you focus your money on paying your home down then, like you said, you won't have that extra money to invest and buy other properties that could provide you with some great cash-flow.  I think you will be successful with either option.  I personally like the idea of the 15 year loan for your situation. You are using leverage, win, and you are paying it down faster, win! Good luck.

Robert Reynolds · Answer

Thank you all for the great information. This has been very helpful. This is my first time posting on bigger pockets and I am amazed with how beneficial this has been.

Dan H. · Answer

My opinion is leverage works best in appreciating markets.

If you have confidence of an appreciating market then use leverage to purchase as much value as you can is the best option.

However, if you are not confident of significant appreciation in a market I still do not advocate paying down the mortgage early.  There is no cheaper money than an owner occupied home loan.  The S&P 500 has historically averaged over 9% return.  Your owner occupied loan is likely at a far lower rate and you can write off the interest.  So if you are not confident of a market with property appreciation then historically you are better off putting additional money in the S&P than paying your owner occuppied conventional loan off early.

These might not be the Dave Ramsey recommended routes but mathematically it can be shown that historically the S&P route will provide significantly better ROI than paying down a conventional owner occupied home loan.

Dave Ramsey route is safe.  Safe typically does not provide good ROI. Paying off a conventional owner occupied loan provides a horrendous return on the capital.  Those with outstanding money sense would not pay off a home loan at accelerated rate.

Robert Reynolds · Answer

@derek diamond Thank you for your great input! I am kind of leaning towards the 15 year option as well, but I am still new to real estate investing. I do not want make a rookie mistake and forget about the opportunity cost just because I've heard it is good to pay off your mortgage quicker.

Should I pay off my primary residence early?

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