Some of you might being wondering why the title of my last post on mortgage acceleration included the words “tunnel vision” at the end. The reason is because I really approached that experiment with tunnel vision. I only looked at two different scenarios, I touched upon a decent amount of other scenarios, over a 20 year time frame. I don’t really think that does the experiment justice.
Today we are going to look at 3 different outcomes built off of the mortgage acceleration experiment.
1. Sell or Refi
I’m going to consider these the same because both will result in the mortgage getting paid off in a lot shorter time than 20 years. If Elle were to sell she would then have the option to rent or buy another house and there are just too many scenarios to cover of what could happen. What we are going to do instead is just look at how this house would work in the first 7 years or so.
In order to take a look at this I made the following table. I’m using the assumption that if she were to sell the house she would get $123,239 which is the value of the original mortgage. Whether she gets more than that is arbitrary because it would be an equal addition to each. Then I am subtracting the mortgage payoff amount in each scenario and determining how much money she would put in her pocket. For the life insurance value I’m using the surrender value of the life insurance. If anyone is wondering there are no surrender charges on this particular policy. Here’s what it looks like:
| Year 1 | Year 2 | Year 3 | Year 4 | Year 5 | Year 6 | Year 7 | |
| Extra Payments | $3,660.05 | $7,507.36 | $11,551.51 | $15,802.56 | $20,271.10 | $24,968.26 | $29,905.74 |
| Life Insurance | $3,601.52 | $6,760.87 | $10,777.10 | $15,043.76 | $19,537.75 | $24,273.28 | $29,262.88 |
What we see here is that liquidity is costing a little bit of money in the early years. It looks like the differences peak around year 3. It will cost you upwards of about $770 for extra liquidity if you were to sell your house in the early years of this experiment. Since cost is only an issue in the absence of value, do you see the value in the extra liquidity?
2. 30 year view
This is a 30 year mortgage so truthfully we should take a 30 year perspective on this. What we learned from the first experiment is that over a 20 year period it’s a bit of a coin flip. What about a 30 year period?
This would mean that Elle would have to be okay still having a mortgage for an extra 10 years, although I wouldn’t consider her being in debt. With her paying off her mortgage after 20 years it would free up $811.57 per month for her to invest for the next 10 years at least and let’s say she gets a 6% rate of return. After the 10 years it becomes arbitrary. So let’s look at the two scenarios:
| Year 21 | Year 22 | Year 23 | Year 24 | Year 25 | |
| Investing | $10,012.23 | $20,640.94 | $31,925.20 | $43,905.45 | $56,624.61 |
| Life Insurance | $69,272.48 | $75,209.76 | $81,488.38 | $88,130.81 | $95,148.13 |
| Year 26 | Year 27 | Year 28 | Year 29 | Year 30 | |
| Investing | $70,128.27 | $84,464.80 | $99,685.57 | $115,845.13 | $133,001.38 |
| Life Insurance | $102,562.84 | $110,393.05 | $118,661.47 | $127,385.67 | $136,586.55 |
This is where I see a lot of people get surprised. People assume that since the mortgage is paid off and Elle would be putting away almost 5 times as much money that it has to be better to pay off the mortgage and then save the difference. When you look at it over a 30 year period it’s because of the head start the money on the side gets. You might find out that that 30-year mortgage can beat a 20 or even a 15-year mortgage.
I even left out taxes. The whole life insurance policy allows your money to grow tax-deferred and when accessed properly it can be accesses tax-free. The investment account that she starts after paying off her mortgage mostly likely will have some tax consequences. I’ll leave the tax discussion for another time but things can get real complicated really quick.
3. Life Happens
Well today we saw that if Elle were to sell her house in the first few years (or refinance her mortgage) as most people tend to do then there is a small cost for having more liquidity. We also saw yesterday that over a 20 year tunnel vision approach to mortgage acceleration that the whole life insurance policy isn’t going to be the best way to pay the mortgage off exactly at that 20 year point because of an access problem. Then, today, we took a 30 year view at the issue and realized that the life insurance begins to have more benefits after 30 years vs 20 years.
The basis of the experiment is still, what if life happens? The only reason the concept of liquidity, and not giving too much money too quickly to the bank, comes up is because of flexibility. Flexibility to adjust to the curveballs life throws our way. I don’t know enough about Elle’s situation to know what is going to derail her personally but what about you? What things are going to affect you in a way that you might need to go into the bank and ask for help?
- job loss
- injury
- sickness/illness
- extended leave from work
- disability (waiver of premium)
- death
- natural disaster
It could be a bunch of things or anything. You could probably think of more or better things that apply to you and your situation. My point is that life will happen. That is a certainty. If you don’t have some flexibility to do things and make changes when something does happen, then things could get real bad real fast.
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{ 7 comments… read them below or add one }
I love posts like this. Mortgage acceleration is such a hot topic. I like the play done here!
.-= Mrs. Money´s last blog ..Costco’s Return Policy Rocks =-.
Mrs. Money:
Thank you. Just seeing if I can open up a few minds.
So many variables can affect the long-term results. Everyone has different situations, and the choice to accelerate (or not accelerate) your mortgage is a personal one. We want to accelerate ours a bit, but not completely at the expense of investing for retirement or achieving some liquidity.
.-= RainyDaySaver´s last blog ..Extremely-Frugal Couponing: Do Some People Go Too Far? =-.
RainyDaySave:
You’re exactly right. It’s really about what is right for you. It’s about a balance of reason and emotion. For some people that means what ever the numbers say go and for others they might ignore the numbers completely. Sounds like you are somewhere in the middle as are most people.
#3 strikes me as the most relevant. We can make all the plans we choose, but life often heads in a different direction!
What ever we do, we always need to have options for the “what if” scenario. Usually when we have such an option, the worst never happens and we can go about our business.
A disproportionate number of the refinances that I did when I was in the business were in reaction to “life happens” issues. They’re neither uncommon nor unpredictable, especially over 20 years or more.
.-= Kevin@OutOfYourRut´s last blog ..Over 50 – No Pension, No 401K – What Now? =-.
Kevin:
You’re exactly right. I forget the exact statistic (so don’t hold me to this) but I believe it’s like 50% of all foreclosures are due to disability. Of course that has probably changed in the last few years. Most people don’t look for wiggle room or flexibility in their financial world. It’s unfortunate.
Don’t forget the benefit of waiver of premium!
.-= Evan´s last blog ..Explanation of Health Care Bill in Time Line Form =-.
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