Saturday, March 20, 2010

Mortgage Payoff or Retirement Savings

This has been my on-going struggle with what to do with extra money. Should we pay down our mortgage or put it into our retirement savings (IRA, TSP, investments)? Out of your rut looks at three options for your extra money and goes through its pros and cons. Pretty basic stuff but we still having trouble doing what is better in the long term.

Right now we are doing the hybrid solution. We are putting about 15% into retirement while paying down our mortgage until we hit 80% PTV (to get rid of PMI).

We see the benefits of owning a house after getting back a substantial amount on this year's tax return from itemized deductions. But we are essentially paying an extra $100 each month on PMI so we can get $30 back, or simply paying an extra $70 each month. The interest we are getting back is similar. About $850 of the mortgage payment is interest each month. Of that, we get about $130 back. Or put another way, we pay $720 in total interest each month.

So the hybrid solution is temporary, but I plan on paying an extra $1000 each month for the next 11 months to pay down 20% principal and in parallel we are putting away about $1000 each month into retirement (not including the match). This way we are can start early with our savings and quickly pay down the mortgage.

Caveat: We're actually going in the red each month by doing this. We actually have a bunch saved up in regular savings. Instead of paying down mortgage all at once in one lump sum payment, we decided to spread this money over a year just in case something happens. So let's see if we can keep this up for another 11 months. We are currently in month 2 of this crazy paydown mode.

Questions:
Aren't we also saving to buy a new house in two to three years time frame?
Yes.

Aren't we tying up all our money into this house if we pay it down?
Yes.

How are you going to free up this money to buy a new house?
Good question. We can either sell our current house, find a way to make more money, or start saving a whole lot more in year two and year three of this plan.

What are we going to do after we pay down mortgage to 80% PTV?
I think we will continue putting 15% into retirement and the rest will be saved for future house purchase.

Isn't investing in the stock market risky?
It is, but so is putting money into the real estate market or baseball cards or just putting it under your bed. I think for me investing in solid companies and diversifying (up to a point) is a wise thing to do. I'd rather not put all my money into stocks nor put all my money into my house. Nothing is guaranteed in life except for death and taxes.

If you have any other ideas, please let us know!

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