It was 12 years ago that Bob met Jim, they were both 35 at the time. See back in 1997 they just happened to be moving into their new houses on the same day. It turns out they were moving in right next door to each other. They had each just bought a brand new house in a fairly new neighborhood. To tell you the truth it was one of those neighborhoods where all the houses kind of looked a like; same design, same amenities.
They both had recently been married and were raising their families in their new house. As they got to know each other and their families became friends it turned out that they both paid $250,000 for their houses. They both put 10% down and then started paying away. The difference is that Bob wanted to pay his house off as soon as possible and Jim wanted to save money, inside and outside of retirement.
Well when they had moved in they were both sales people. They were both making $65,000 a year which was good money at that time and things were good. They were both contributing 6% to their 401ks respectively. Another difference arose. Since Jim wanted to build his savings he was saving $350 a month outside of his 401k. Bob on the other hand, wanted to pay his house off. So he paid an extra $350 per month on his mortgage.
In 2003, mortgage rates dropped. Both Bob and Jim headed to the bank. They were paying 8% interest on their original 30-year loans so this could save them a lot of money. Jim, who had not been paying extra on his mortgage, still owed $212,000 but by cutting his interest rate to 5.5% he was able to cut his payment from $1,651 per month to $1,204 freeing up an extra $450 per month for him to save. Bob had been paying extra to his mortgage and only owed $180,000. He went with a 15 year mortgage at 5%. This cut his payment from $1,651 to $1,425 and then put the $230 savings and put that towards the mortgage as well.
Now it’s 2008. Both Bob and Jim advanced in their careers and are now sales managers making six figures per year. Unfortunately, they both got laid off and they couldn’t make their mortgage payments. At this point Bob only owes $80,000 on his mortgage while Jim owes $193,000. The bank is knocking on their door. Bob says ‘I have all this equity’ and goes to refinance. The bank says you don’t have a job so the bank says no.
Let’s imagine they are the same exact financial situation. No job, horrible economy, lending is tightening. Things are going bad fast and getting worse. Remember last year? Which house will the bank foreclose on first? Bob’s owing $80,000 on a $400,000 house or Jim’s owing $193,000 on a $400,000 house? Banks are businesses remember out to make money. Which can they make money off of the quickest? What if we went one step further and said Jim took $100,000 out of the home when he did the refi in 2003. Now he owes $290,000. Does that change things?
To Be Continued…
Continuing your reading with Bob or Jim? Part II
Or skip ahead to Bob or Jim? The Final Chapter
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