Mortgages

There Are No Easy Answers

Today, I read a very sad story about a 76-year old man who sold his home when his mortgage payment went up. Presumably, the story was about the impact of rising mortgage rates and the lack of affordable housing in Calgary. In reality, what I took from the article was an appreciation of just how risky it is to have a mortgage when you’re on a fixed income.

Now, it should be noted that the article failed to explain why this 76-year old man still had a mortgage!!! To my mind, the journalist who wrote the story – or the editor who removed the relevant details – failed the reading public by leaving the financial questions unanswered. All we know from the article is that the man’s mortgage went from $1,000/mth to $2,600/mth and that he received $2,200/mth in social benefit payments.

Without any confirmation, I’ve tried to be generous and have assumed that he went through a grey divorce and he had to re-mortgage his home so that he could pay half of the home’s value to his ex-spouse. I could be completely wrong, but the bottom line is that his senior citizen has to move out of his home because he can’t afford to repay his mortgage.

When I was born, the mantra to all mortgage holders was to pay off the mortgage as fast as possible. Times have since changed. In the past 20 years, the message has gone out that it’s better to pay the minimum mortgage payment and to invest the difference in the stock market.

Sometimes, I think this is great advice. If you’ve got a 25-year runway ahead of you, then it’s less risky to invest your money for the long-term. You can have your mortgage paid by the time you’re in your 50s and you might still have a decade or more to invest if you retire at age 65. The dollars invested in your 20s might have 40+ years to compound if things go exactly according to plan. You’ll have a paid off home and a comfortable retirement waiting for you. Even if you make a few mistakes with your investing choices, the odds are still pretty good that you’ll retire comfortably.

The calculus changes considerably if you’re starting your mortgage in your 40s or 50s. Going into retirement on a fixed income while carrying a mortgage is like dancing on razerblades! You’re asking for trouble.

Mortgage rates started to skyrocket in 2022 from their historically un-characteristic lows of the previous decade. Rates haven’t stopped going up in 2023. When I worked as a cashier last millennium, any rate under 8% was cause for celebration. My first mortgage rate was 6.50%, and it steadily dropped over the next 20 years. The last mortgage I had in my name was for 2.79%… and I felt ripped off because one of my friends had a rate of 2.49%! I doubt I’ll ever see mortgage rates that low again in my lifetime.

These increased rates are the normal ones. It will take a long time for people to accept that but they are here to stay. The main problem with these rates is that people’s incomes haven’t kept pace with the impact the rates are having on their budgets. People who’ve had to renew their mortgages at rates 3%-4%-5% higher than what they were paying before are having to come up with several hundred dollars more each month to pay back their mortgages. And these are people who are working!

Imagine being a senior on a fixed income. The 76-year old doesn’t have as many options for increasing his income. In this case, he chose to sell his home and is looking for some place to rent. He’s having no luck. Again, the journalist/editor failed to tell us how much he received from the sale of his home and how much of that went to paying off his home equity line of credit. We have no way of knowing whether he’s in a position to buy himself something smaller than his former home. Presumably not since he’s decided to look for a roommate…

Anyway, my point is this. Stories like these should be a cautionary tale. Whatever your current circumstances, strive to stay employed until your debt is paid. Do not retire with debt!

Want to know one of the very worst elements of this story? All of the money that this man put into his house is gone! We don’t know how much of it was siphoned away via his HELOC. What we do know is that all of his payments went to the bank until he couldn’t afford them anymore and now he walks away without enough to buy himself another home. To add insult to injury, he doesn’t even have enough to easily rent another place. He could very well be homeless in a few weeks.

Do yourself a favor and learn from this man’s story. If you have debt, get out from under it. And if you’re out of debt, stay out. It’s so very easy to get into debt but it’s really, really, really hard to get it out of your life. You deserve to have the experience of being debt-free. Live below your means for life!

There are no easy answers. I don’t have any secrets that will make your debt magically go away. All I can tell you is this. If you’re fortunate enough to have some extra money in your budget, then use your good fortune to aggressively pay off your debt. When it’s gone, don’t spend the money on stupidities. Instead, invest it. Save up to pay cash for your next bright-and-shiny-whatever-it-is that you want. Just stay out of debt and don’t become the senior citizen who has to start job-hunting in his mid-seventies. Strive for a debt-free life.

Living Underwater is Fantastic for Fish & Bad for People!

When it comes to mortgages, you never want to be underwater. Repeat after me – living underwater is for fish, not people!

A person is underwater on their mortgage when the mortgage amount owing is higher than the value of the house. For example, if you have a $450,000 mortgage but you would only be able to sell your house for $395,000, then you are underwater on our mortgage.

This is a not a desirable situation because it means you cannot sell your house without taking the deficiency to the bank in order to pay off the bank. In the above example, the deficiency is $55,000 (=$450,000 – $395,000). The mortgage debt to the bank can only satisfied by a payment of $450,000. This is known as discharging the debt.

Unfortunately for you, potential buyers of your home are only willing to give you $395,000. In order for the bank to discharge your mortgage debt, you would need to take the $395,000 from the buyers of your home and another $55,000 from your own pocket to the bank.

Just out of curiosity, do you have an extra $55,000 lying around? No? Then you, my friend, are trapped in your house.

The Downsides of Being Trapped in a House

If you’ve got no reasons to leave the house you’re in, then living underwater on your mortgage is an academic problem. Since you’re not going anywhere, there’s no issue about having to pay any sort of deficiency to the bank. You can continue to pay your mortgage and wait for the real estate market to recover. Even if recovery takes a decade, you don’t need to care since you won’t be trying to discharge the mortgage on your house.

The situation is quite different if you want to move across the country for a new job, or your health status changes and your home is no longer suitable for you. There are any number of reasons why you might choose to move your current abode to another one. None of them change the fact that being underwater on your mortgage means you can’t sell your place without satisfying your full debt to the bank.

I ask you again, do you have enough money in your wallet to satisfy the deficiency and get the mortgage discharge you need?

Mortgage Rates are Rising

Those without a mortgage can be forgiven for not realizing that the cost of mortgages is increasing. For the rest of you, it’s imperative that you start thinking ahead. When it comes time to renew your mortgage, will your budget accommodate a 1%-2% increase in your current rate?

If the answer is “No”, or “I don’t know”, then you should be making extra payments to your mortgage. Make extra payments as often as you can. And make those payments are large as you can! This will ensure that, at renewal time, your mortgage is as small as it can be. This means that your new payment at the higher rate will be lower than it would be otherwise.

You can use an online calculator to estimate the size of your next mortgage payment. Whatever rate you’re paying now, add 2%. Assuming you’ll be renewing a mortgage of $350,000 and the anticipated 5-year rate at renewal time will be 5%, here are the mortgage payments generated by this online calculator.

If you’re renewing with a $350,000 balance at 5%, then your bi-weekly mortgage payment is $1,017.81 or $2,025.62 monthly.
If you’re renewing with a $325,000 balance at 5%, then your bi-weekly mortgage payment is $945.11 or $1890.22 each month.

How to Stop Being Underwater

There are a few ways to stop being underwater. Some are harder than others. The most effective way to cease living underwater is next to impossible – you can change market conditions so that the value of your house rises above the balance on your mortgage. See what I mean? That method is next to impossible. Manipulating market conditions likely isn’t within your particular skillset.

Your best bet is to find a way to make extra payments on your mortgage until the balance equals, or is less than, your mortgage’s balance. At that point, the trap is sprung! In other words, what you get from a potential buyer is enough to satisfy you debt to the bank.

Paying extra on your mortgage is a simple plan. Note that I said “simple”, not “easy”. Depending on your other financial obligations, it might not be easy to find the extra money to throw at your mortgage. You might take on another job or start a business. Maybe you’ll sell you no longer need or take in a roommate.

Ridding yourself of non-mortgage debt facilitates another way to make extra payments. Maybe you owe money on student loans, credit cards, vehicle loans, or other consumer loans. As you pay off other debts, re-direct that former payment to your mortgage. Think about it. You were already sending that money to a creditor, so you’ll keep doing so. Your lifestyle won’t change since you were living without that money anyway. All that will change is the name of the creditor.

However you choose to do it, the goal is to stop living underwater on your mortgage.

Will you be prepared when it’s time to renew your mortgage?

According to the various talking heads in financial media, mortgage rates are set to rise over the next two years. They’re predicting that almost everyone is going to see their mortgage payments rise on renewal. If you’re on your last mortgage term, then you have my heartfelt congratulations. You don’t have to worry about your mortgage payment going up because it will be going away. You will get to keep your current mortgage payment instead of sending it to your lender. Hooray for you! Take a chunk of it – no more than a third – and use it for day-to-day spending. The rest of it should be invested for long-term growth. Enjoy your money and the comforting feeling that comes from knowing that your disposable income has gone up, way up!

If you’re one of these lucky ducks, you need not finish this article. The increase in mortgage rates will have little to no direct impact on you.

For the rest of you, keep reading. If you’ll be renewing your mortgage at some point in the future, you’d be wise to ask yourself how your budget will accommodate an increased payment. The only pertinent question that you need to consider is the following one. Will you be ready when they do?

Fortunately for you, there are many online amortization calculators. These little beauties will tell you how much your new mortgage payment will be if your mortgage rate changes. I urge you to find one immediately! Then I want you to add 2% to whatever rate you’re currently paying, figure out how much your remaining mortgage debt will be on renewal, and determine what your new payment will be at the higher rate. The sooner you have this information, the better.

Should you be fortunate enough to have access to Excel or Numbers, then you have the ability to create your own amortization table. This spreadsheet will break down your payments into the principal and interest portions. You can then play around with the interest rates and mortgage debt to see the impact on your future payment.

Armed with this new information, you can turn your attention to your budget and figure out where the money will come from to fund the higher payment. Remember! If you don’t pay your mortgage, then your lender can take your house. No one wants this to happen to you.

If your budget can accommodate the new, higher payment without trouble, then hooray! You’ll be fine and you need not worry about the increase’s impact on your life. Your house won’t be at risk of foreclosure, and you won’t need to worry about declaring bankruptcy. You can stop reading here if you choose.

Should you be in the position that your budget will balk at the increased payment, consider the following option to prepare yourself for the inevitable.

One way to keep the same mortgage payment, even if rates go up, is to make a lump sum payment at renewal time. After all, your payment is based on both the prevailing interest rates and the remaining mortgage debt. The smaller the debt, the smaller the payment. If you can accumulate a few thousand dollars between now and renewal, then do so! You’ll have the option of making a lump sum payment at renewal time. Doing so will keep your payments from inflating more than your budget can bear.

You could even start sending extra payments to your mortgage in advance of your renewal date. Doing so chips away at the mortgage’s principal balance even sooner. Every dollar of principal that is repaid is a dollar on which your lender can no longer charge you interest. Prepayments are a fantastic method of ensuring that your increased mortgage payment isn’t as high as it could be. Revisit the terms of your mortgage contract and see what options are available to you for making prepayments.

Be prepared for the day when your mortgage lender asks you for more money. Mortgage terms in Canada are rarely set for 25 years. You’d be wise to assume that mortgage rates will continue to increase. If they don’t, then you’ll have done yourself absolutely no harm by being prepared.

A Primer on How Banks Make Themselves Rich

The first thing you should know is that I am not a banking expert. I worked in that industry on a part-time basis while going to university. That was 20+ years ago. Currently, I am what you would call “just” a customer. I don’t have access to private banking, nor is my business significant enough for the executives at the banks to care about me. This primer on how banks makes themselves rich is based entirely on my personal experiences as a customer and my part-time job at ATB before moving into my current career.

Savings Accounts

Customer A: “I should start saving some money.”

Banker: “Great idea! We can put you into our Never-Fail, Best-Option savings account. It pays you interest. The more you have in there, the more you earn.”

Customer A: “I like earning interests on my money. I’d like to open one of those accounts please.”

Banker: “Easy-peasy-lemon-squeezy.”

The account is opened. The customer goes away. The banker has the customer’s money and is wondering how to make it grow. After all, Customer A was promised that interest would be earned on her funds. The banker certainly wasn’t going to pay the customer with money from the bank’s own pockets! A lightbulb goes on as the banker realizes that money can be made from lending. An idea begins to germinate. If the Banker only had to pay out a fraction of the interest charged to lend, then the bank would make buckets of cash!

But how to make that happen?

Customer B: “I need to borrow some money to buy a property.”

Banker: “I can help you with that. The interest rate on our mortgages is very fair.”

Customer B: “That sounds good. Where do I sign?”

The banker is gleeful. Two customers! One brings in the money to be lent to the second. The bank only has to pay Customer A an interest rate that is a tiny portion of what’s being charged to Customer B. The difference between the two rates will be spent on administrative costs & other expenses, but any leftover is profit. How many other ways could the Banker come up with to make money?

Lines of Credit

Customer C: “I’d like to borrow money, but I’m not sure when or how much I’ll need.”

Banker: “Not a problem. We’ll set aside some money just for you. If you don’t use it, then there’s no charge. If you do use it, then the interest rate will be the prime rate + 3%. We’ll start charging you interest from the minute that you use your line of credit, but you only have to make the minimum monthly payment. You can pay it off whenever you want to.”

Customer C: “Awesome! Thank you!”

Auto Loans

Customer D: “I want to borrow money to buy a new vehicle.”

Banker: “I can help you with that. We’ll secure the loan with the vehicle. If you don’t pay the monthly note, we’ll repossess it.”

Customer D: “Sounds fair. Thanks!”

Credit Cards

Customer E: “I’d like a credit card please.”

Banker: “Done. Now, it charges a double-digit interest rate.”

Customer E: “Double-digits? That’s kind of expensive!”

Banker: “You know what? You’re right. So I’m going to do this for you. We won’t charge you any interest at all so long as you pay off the full balance when the statement is due. Think of it as a grace period. If you don’t pay it off in full, then I’ll charge you interest… and other assorted fees for late payment.”

Customer E: “Okay. Can I have my credit now please?”

Service Charges

The Banker wants to make even more money. The spread between interest paid on savings accounts and the interest earned on mortgages and other debt products is pretty good… However, the Banker is convinced that there is a way to increase its profits. Customers had always paid for drafts and certified cheques, but those instruments were often rare and not guaranteed income to the Banker. In a world of electronic transfers, fewer and fewer people need such services. Yet, everyone still needed to pay their bills, send electronic transfers to each other, make loan payments, and clear cheques.

Banker: “I could charge them just for having an account! Or I could offer them a so-called free account, but charge them by the transaction. People are inherently lazy about switching banks. I might lose a few customers but most of them will stay with me…and will pay me every single month to use their own money!”

The Banker add service fees to its bank accounts. Presumably, these are to cover the costs of providing services like utility payments. The Banker tell people they can pay per transaction, or they can pay a flat monthly fee for unlimited transactions. Better yet, customers can leave several thousand dollar in their account at all times in order to have the monthly fee waived completely.

Customers: “This sucks!”

Banker: “What are you going to do?”

If you’ve ever wondered…

…how banks make themselves rich, I hope this post gave you some insights. Banks make money because they have a vested interest in getting customers into debt. They profit when people borrow money. That’s the heart of their business. Everything else is a detail.

The vast majority of us will need to borrow money at some point. Assuming you’re interested in paying as little as possible to do so, here are some things to consider:

And should you be in a position where you cannot avoid owing money to the bank, then do yourself a small favour. Start buying shares in the banks! In Canada, banks pay out dividends every single quarter. Their profits are going up and their shareholders are benefiting. If you become a shareholder, then atleast some of the interest and fees that you pay is coming back to you every year. After sufficient period of time, all of the money that you’re paying to the bank will be returned to you in the form of annual dividends.

Now you know.

My Money Mistake – Investing vs. Paying Off a Mortgage

One of the eternal questions that’s raised in the personal finance world is whether one should be investing or paying of a mortgage. I made my choice 15 years ago. In hindsight, my choice could qualify as a mistake but, if so, it’s not the worst one I’ve ever made. As I’ve said before, personal finance is personal and it should be about what makes you the most comfortable when it comes to investing your hard-earned money.

I was raised to not carry debt. It’s a good lesson, and I can’t disagree with it too, too much. That said, there are nuances to debt that I did not learn nor understand until after I’d paid off my mortgage at age 34. I’m going to share my perspective of those nuances with you so that you have the information to make the best decision for your own life and goals.

Different Choices, Different Risks

Jordan and Leslie are both 30 years old when they finally buy their first house. They both have 25-year amortizations, and they both have an extra $1500 per month that can be used for investing or paying down the mortgage.

Jordan decides to pay off his home early. His extra $18,000 per year goes into making extra mortgage payments. He’s in line to pay off his home in 15 years when tragedy strikes. At year 14 of the amortization, Jordan loses his source of income and cannot make his mortgage payments. Within six months, he loses his house to the bank in foreclosure. After years of making mortgage payments, Jordan is left without a house and without an investment portfolio. He has to start over from scratch – find another job, build another down payment, start making mortgage payments all over again, figure out how he’s going to pay for his retirement.

Leslie makes a different choice because she knows that time lost can never be regained. Investments need to be made early so that they have the maximize time to grown. Leslie decides to pay minimum monthly requirement on her mortgage, which commits her to the full 25 year amortization. Leslie invests her extra $1500 per month by fully funding her TFSA and RRSP every single year. Once those two registered plans are maximized, she invests the remaining money in a non-registered investment plan through a brokerage. In short, Leslie chooses to invest $18,000 per year. As with Jordan, Leslie loses her employment income at year 14 of her mortgage.

Leslie’s not worried about losing her house. Why not? Her investments have grown quite nicely over 14 years. She has money in the bank. Her dividends and capital gains are enough to provide her with cash flow to pay the mortgage. They’re not yet enough to replace her entire former income, but they’re enough to keep her afloat until such time as she finds another job.

Even if Jordan and Leslie hadn’t lost their jobs, Leslie would still have been wealthier than Jordan at the 25-year mark. Why?

Leslie’s investments would have had 25 years to grow while Jordan would have only had 10 years of growth. Even if he starts investing his entire former mortgage payments the day after his mortgage is paid off, Jordan’s investments will not grow as large as Leslie’s. Her investments have had an extra 15 years to grow, assuming the same rate of return for both portfolios. Both Jordan and Leslie would have a paid-off homes at the 25 years mark, but Leslie would also have a much bigger cash cushion than Jordan.

Hindsight is 20/20.

Now, don’t get me wrong. The logic of this example was lost on me when I took out a mortgage on my home. As a matter of fact, I don’t even think I saw the options presented this way until after I’d paid off my home. If I’d seen it sooner, I would have atleast thought about it while paying off my biggest debt.

With the benefit of hindsight, I now realize that I should have followed Leslie’s lead. It’s been nearly 25 years since I took out my first mortgage. Had I kept that mortgage and invested my money instead, I’d be that much closer to financial independence. Instead, I chose to become debt-free in my early 30s and have been diligently investing in the stock market for the past 15+ years.

My parents taught me to stay out of debt, and I heeded their advice. Was I wrong to do so? Not really… Yet, if I had learned about more about investing and the compounding of time, I would have made a better-informed decision. I might have better appreciated what it meant to lose those early years of compound growth as I worked very hard to pay off my home in 5 years.

Since you’re best-placed to know your own life goals & dreams, you will make your own choice. Investing vs. paying off a mortgage is a major financial decision. The consequences of the choice won’t be known until long after you make it.

My hope is that you make an informed decision. While you can’t know the future, you can influence it by making wise choices and planning accordingly.

There’s nothing wrong with changing course, if necessary.

If you’re currently making extra payments but you’re doubting that choice, then know this. It is perfectly okay to change your mind. When you know better, you do better. Maybe you stop the extra payments for a few months while you stuff your RRSP and your TFSA. Perhaps you decide to alternate – one month the extra money goes to your mortgage and the next month it goes to your investments. You have to do what makes you most comfortable. And if you decide to keep paying off your mortgage, then do so with the full knowledge of what that might mean for your future.

We no longer live in a world where the majority of people have pensions. For the majority, saving for retirement is up to each individual person. Lifetime employment with the same employer is no longer the standard. Committing to decades of mortgage payments without the security of gainful employment is risky. In Canada, houses are ridiculously expensive so mortgages are often several hundred thousand dollars. I understand why getting rid of such a large debt is a huge priority for people. At the same time, getting out of debt shouldn’t diminish the responsibility you have to funding the Care & Feeding of Senior You Account.

When I think about my own choice through the lens of maximizing my wealth, I feel that I made a mistake and that I should have kept my mortgage for as long as possible in order to invest. Yet when I consider the fact that employment is not guaranteed and funding retirement is on the shoulders of the employees, I think I was wise to eliminate my mortgage as fast as possible.

Will I have the absolute maximum amount for my retirement? No, but I’ll still have enough and that’s what matters most.

Beware the HELOC!!!

HELOC is an acronym that stands for home equity line of credit. It is a way for homeowners to access the equity in their homes without actually selling the home. Banks love these kinds of loans because they are secured by the property. For this reason, HELOCs are risky – they put your shelter at risk. This is hardly ever a wise move from the personal finance perspective!

In short, if a homeowner doesn’t repay the HELOC, the bank has the right to foreclose on the home in order to recoup its money.

Another way to think of a HELOC is to view it as a line of credit that is tied to your house. An unsecured line of credit carries a higher borrowing rate, since the bank doesn’t have any recourse if you don’t make your LOC payments as required. Banks presume that most people do not want to lose their house and that they’ll do whatever they have to in order to avoid that unfortunate outcome. As a result, the risk of delinquency is also presumed to be lower than lending borrowers money through an unsecured line of credit. Since the HELOC has a lower risk, the bank charges a lower rate of interest.

Those who’ve been reading my blog for a while now already know that I hate debt. Payments to creditors prevent most people from investing for their futures. Debt forces people to put today’s income towards paying for past purchases.

I especially despise the HELOC. Like all loan products, banks benefit from them more than the consumer. If you have a HELOC, you have to make payments on the loan each month. And if you miss enough payments, then you’re considered delinquent on your debt and the bank can take your house away from you. This is why I personally believe that HELOCs are risky.

Remember! A HELOC is a charge registered against your mortgage. When you take out a HELOC, you’re putting your home up as collateral.

If you really must take out a line of credit, then I would urge you to get an unsecured line of credit. This kind of LOC is not tied to your house. If you fail to pay it, you certainly damage your credit rating… but no one is going to take away your home. It might take 7 years to repair your credit, but so what? It’s better that you repair it from the comfort of your own abode, than suffer the double-whammy of repairing your credit and also losing your home through foreclosure.

Another reason I very much dislike the HELOC is that it is a loan that can be called at any time. A HELOC is a demand loan. That means your bank can demand that you repay it whenever they want.

Let’s say you take out $45,000 of debt via a HELOC against your $375,000 house to do… whatever. (Equity withdrawn via a HELOC can be spent however the homeowner sees fit.) You agree to repay the HELCO at a rate of $750 per month. You’re making your payment as agreed, and getting on with the business of living your life. For reasons they need not declare, your bank gets twitchy and demands that you pay off your outstanding HELOC balance. And if you don’t, they’ll proceed with foreclosure proceedings to get their money bank. You’re suddenly in the position of losing your $375,000 house over a $45,000 debt…Not good!

How are you going to repay the debt? If you’d had the money in the first place, you wouldn’t have borrowed from the bank, right?

I’d suggest that you think long and hard before you take out a HELOC against your home. Make sure you understand what you’re risking before you sign on the dotted line. And if you already have a HELOC, then I suggest that you pay it off as soon as you can.

Life is stressful enough. The risk of your home possibly being the subject of a foreclosure is one added stress that you should work very hard to avoid.

Mistakes with Money – Hindsight is 20/20

As I’ve said before, you need not make every mistake yourself. You can learn from the mistakes of others and make better choices for yourself. Luckily for you, my hindsight is 20/20. If you’re facing the choice between paying off your debt or investing your money for growth, perhaps my experience can offer you some insight into the best choice of your circumstances.

Roughly 14.5 years ago, I had a choice between paying off my primary mortgage or investing a six-figure lump sum of money into the stock market. At the time, I owned two rental properties and my tenants both told me they would be moving. Faced with the prospect of having empty rental units, I immediately chose to sell. It literally never occurred to me that I could get new tenants. I was a young landlord who hadn’t heard of people like Brandon Turner of Bigger Pockets or Coach Carson. No one in my family owned rental properties so I didn’t know where to find the mentorship or guidance that would have opened my eyes to my many options.

Unfortunately, I reacted poorly and made a decision out of fear. Instead of doing a basic Google search on what to do when tenants move out, I sold off my rentals within weeks of each other. The housing market in my corner of the world was on fire!!! I’m sure it was the easiest money my realtor had ever made.

I took the proceeds from my rental properties and paid off my primary residence. Within a few weeks, I was completely debt-free! Woohoo!

What would’ve happened if I’d invested that money and kept my mortgage?

Firstly, I would not have had to pay a penalty. The mists of time have obscured the exact numbers, but I do seem to recall paying a penalty for breaking the mortgage on my primary home. Where I live, you can break a mortgage without penalty if you’re selling your home. However, if you’re simply paying off the mortgage, then the bank wants you to pay the interest that would’ve been paid as per the mortgage contract.

I was younger, financially un-sophisticated, and completely committed to being debt-free. So what did I do? I paid a 5-figure penalty to break my mortgage. That was definitely a money mistake! I had the cash from my two rental properties. I could’ve simply carved out a chunk of it to cover the remaining years’ payments under my mortgage agreement, and thereby avoided the penalty, while investing the rest. When the mortgage was up for renewal in a few years after the sale of my rentals, I could have just paid off the mortgage debt in full. Alternatively, I could have invested the whole lump sum and simply kept up with my regular mortgage payments until the mortgage was discharged.

By paying off the mortgage on my primary home, I didn’t invest as much as I could have in the stock market as soon as I possibly could. If I’d invested those proceeds in the market, then I’d be a hell of a lot closer to my original goal of retiring at 50.

We know that, up until the onset of the pandemic, the stock market has rewarded investors with a very long bull-run. Full equity portfolios have done amazingly well between 2009 and 2020. Brace yourself! My rental proceeds were over $100,000. Had I been as wise then as I am now, I would’ve invested that lump-sum of cash and continued with my life-long habit of investing a chunk of my paycheque every time I got paid. My investment portfolio would’ve definitely landed me in the Double-Comma Club by now…. and my mortgage would still have been paid off in good order.

Instead, I focused on becoming debt-free. I chose to pay off my debt instead of investing for my future. My actions were not aligned with my goals.

Why weren’t they aligned?

That’s a good question. Thinking back, my own ignorance about investing is the root cause of the mis-alignment. I didn’t know as much then as I do now. Also, I’d been watching the global monetary chaos created by the financial crisis in 2007-2008 and I wanted no part of it. Being debt-free felt safe. I didn’t have the luxury of relying on someone else’s paycheque to support my household. I very much craved the security of owing not a single nickel to anyone! In other words, I let my ignorance and my fear of being in debt guide my actions.

That global financial crisis caused the stock market to drop. Today, I know that such declines are to be relished because they are excellent buying opportunities. Steep drops mean that the stock market has gone on sale, and that it’s time to load up on quality investments in good companies. Back then, I naively determined that the “smart” course of action was to wait until things settled down before investing any money in the market. As I’ve written before, I waited far too long to start investing. Sigh… this is why hindsight is 20/20. Coulda-woulda-shoulda! I delayed the implementation of my investment strategy for years. It was the wrong move!

Now that I’m older, and wiser, I realize that I should have invested my lump sum. The market started its recovery in 2009. Sure, I would have invested in 2006 and then I would have gone through the rough years until the recovery started. It wouldn’t have been terribly fun, but it would have been quite profitable. Like I said earlier, that course of action would have gotten me much closer to my financial goals.

Don’t feel too, too sorry for me. Like I said, I used that lump sum to pay off my house. I haven’t had a mortgage on my principle residence in over 14 years! Trust me when I say it’s a good feeling. Not having a mortgage means a smaller overhead for my life. My emergency fund need not include 6-9 months of mortgage payments. I don’t have to worry that the bank is going to take away my home. Instead of forking over mortgage payments, I can make contributions to my investment portfolio. I sleep better knowing that my largest debt is in my rearview mirror.

Like they say – if I knew then what I know now, I would’ve made different choices. Hindsight is 20/20…c’est la vie!

Housing Prices & Interest Rates

When I was a kid, one of the things I learned from my mother was that interest rates are inversely correlated to housing prices. If interest rates are going down, then housing prices are going up.

Over the last 12 months, I’ve seen this lesson play out in real life. By the time this blog post goes live, we will have passed the one-year anniversary of the COVID-19 pandemic. Yet, there are cities in this country where the housing market is red-hot. People are tripping over themselves to buy homes and they’re “winning” bidding wars to do so.

Five-year mortgage rates in my corner of the world had been on offer for as low as 1.84% up until just recently. At the time of writing this article, they’re slowly creeping up but a few can still be found at just around 2%. The Talking Heads in the media are predicting that 5-year rates will increase steadily over the next year. They say that this will be due to the economy fully re-opening as everyone gets their vaccine.

Who am I to argue with the Talking Heads?

The corollary to my mother’s great insight is that house prices drop as interest rates rise. This is due to the fact that fewer people can afford house payments when the cost of borrowing increases. Fewer people buying is a fancy way of saying lower demand. Less demand for something forces sellers to drop prices in order to sell their goods. In the housing market, rising interest rates are very strongly linked to decreasing housing prices.

For the past 10 years or so, the interest rates for mortgages have been less than 4%. I can tell you that my very first mortgage – taken out nearly 20 years ago – was for 6.5%. That seems astronomically high by today’s standards! When I was teenager and working part time as a grocery store cashier, I worked with folks who were thrilled to get a mortgage at 8%. The super-low mortgage rates of the past decade have been normalized, and I worry that people forget that rates can also move in the other direction.

Two Minds

I’m of two minds when it comes to housing. Buying a house was a very smart move for me. I was fortunate enough to buy what I needed at a price that was less than 3 times my gross income. The mortgage payments were less than 30% of my take-home pay. I could afford the repairs and maintenance that come with a house. Taxes and insurance weren’t an onerous burden on top of these other costs. The monthly nut associated with my shelter did not inhibit my ability to invest for retirement, travel, and have a bit of fun with my family and friends.

In short, buying a house was a good move for me… 20 years ago.

Today, twenty years later, I’m not so sure that buying a house would be a good financial move for me. For starters, I would have to choose between servicing the monthly nut of homeownership and every other financial goal. My mortgage, property taxes, insurance, repairs & maintenance would render me house-poor for a very long time. There wouldn’t be room in my budget for things like retirement savings, travel, entertainment, vehicle replacement, or those little luxuries that make like easier. My financial life would revolve entirely around paying for my housing, and there would be no room for my other money priorities.

I used to think that renting was a bad idea. However, my perspective has become more nuanced. If renting allows one to have a balanced life, then I think it might be a good idea. Of course, that balance has to include maxing out all retirement savings and building an investing portfolio. Those investments need to be big enough to pay for rental accommodations when the paycheques stop arriving. Whether you own a house or rent your space, you need to pay for shelter one way or another.

Cheap rates aren’t here to stay.

Today’s very low 5-year mortgage rates will go up. Securing a mortgage at 1.84% is wonderful, but that rate is likely only going to be locked in for 5 years. (And only for those who were lucky enough to grab it!) At renewal, the rate might be 3.5% or higher. Can your crystal ball predict the future perfectly? Will your budget be able to survive the mortgage payment increase that will come with a higher mortgage rate? Are you positive that you’ll still have the same income that you have now?

Even if your job’s salary stays the same, will your other expenses do the same? I’ve noticed that the cost of my streaming service goes up every 18 months or so. The price of food hasn’t gone down, ever. Taxes seem to only ever move in one direction. The list goes on. Life gets more expensive every year, yet salaries and wages don’t always go up in tandem with the increased expenses of every day life.

So even if you were only of the lucky ones to grab a super-cheap mortgage rate for a five-year portion of your mortgage, I strongly urge you to calculate how much your mortgage payment will increase when you renew. It’s not too, too crazy to believe that the bond market will push the five year rate up by 50 basis points each year for the next five years. Add 2.5% to your current rate and see what your new payment will be. Can you handle it?

Alternatives

Your first option is to pick rich parents. It’s been my observation that some parents with an excess of money are willing to help their offspring purchase a home. Financially speaking, it’s wonderful to have that kind of help to get onto the property ladder.

Not all of us can pick our parents, so that means being a little more creative.

If I were starting out today, I’d be looking at becoming a landlord. Either I’d try to buy a house with a rental suite or I would have roommates. There would have to be someone else around to contribute to the mortgage payments. If my salary paid for the minimum monthly mortgage payment, then the tenant’s rent would be what I would use for the extra payments to principle.

Would it be ideal? No. Would it have to last forever? Also, no.

A third alternative would be waiting to buy. Like I said earlier, house prices will come down as mortgage rates go up. Figure out how much of a mortgage you can afford. This number will be different than what the bank says you can afford. After all, you’re the one who’ll be responsible for the payments so look at your budget and be realistic.

Once you know how much mortgage you can comfortably carry, open an account at EQ Bank and start salting that mortgage payment away. This benefits you two ways. First, you’ll get used to having a mortgage payment since you’ll have to make that payment once you’ve signed the mortgage documents. Second, this money will help you make as large a down payment as possible.

I’m not trying to dissuade you from buying a house. Truly, I’m not. I just want you to think long and hard about the financial commitment that owning your own home will entail.

In a world without pensions, I am not persuaded that it’s a good idea for a person to spend 25-30 years paying off a mortgage without the ability to save for retirement. A mortgage debt that leads to an extended hand-to-mouth lifestyle is rarely a good thing. It limits options and inhibits one’s ability to pursue their true dreams, goals, and desires.

House-Hacking is Worth Considering

House-hacking can be an amazing tool for building wealth.

You know how sometimes you’re on YouTube watching one thing and then a suggestion pops up on the side of the screen? And you decide to hit play instead of scrolling past it? Well, this week held one of those so I indulged my curiosity and hit play on a video that I otherwise never would have found by searching. For one reason or another, I was watching some videos about tiny houses. I started with this one because I wanted to know how anyone could spend $165,000 to build a tiny 300 sqft house.

And that’s how I discovered Robuilt. I promptly watched several more of his videos and I have to admit that a lightbulb went on after watching his video on house-hacking. I loved this particular video because this fellow goes into detail about how he financed his house-hacking project. He’s not shy about sharing how he obtained the money to build a tiny house, to renovate his basement suite, and how much rental income he’s earning from various sources. The only question I would’ve appreciated hearing him answer was how he and his spouse had initially accumulated the down payment for the purchase of their $640,000 home on writer & teacher salaries, but I guess everyone likes to maintain at least some small measure of mystery.

Anyhow, the lightbulb moment for me was when I realized – deep in the marrow of my bones – that it’s sometimes okay to go into debt if you’re borrowing money to buy real estate. I shouldn’t have been so shocked by this revelation. I’ve borrowed money to buy all of my properties. I’m very familiar with the concept of mortgages, how they work, how to repay them, etc…

Living in a Million Dollar House for Free

No. What shook me to the core was the manner in which Mr. & Mrs. Robuilt went from having a $4000/mth mortgage payment to a $0/mth mortgage payment by borrowing money. This video goes into more detail about how exactly they accomplished this feat so I encourage you to watch it.

Okay – so they bought the house and renovated the basement suite within two months. That rental of that suite netted them at least $2K – sometimes $3K – each month.

Blue Lobster, that still leaves at least a $2K/mth mortgage payment.

Yes, Numerate Reader – you’re right. Having the basement suite wasn’t enough.

The Robuilt’s decided to build a tiny house in their backyard. They’d initially budgeted $40,000 but the project ended up costing them $72,000. They didn’t take the money from the equity in their main home. Instead, they went to a private money lender to pay for this project.

Once the tiny home was built, they eventually rented it for $1800 per month. They refinanced the mortgage on their home to get rid of their PMI, bringing their mortgage payment down to $3700/mth… meaning that they were able to live in their home for free. Oh, and the value of their principal residence had gone up to over $1,000,000 because of the tiny home in the backyard.

Damn…

The Key was Getting Financing

Pay attention to the part where they went to a private money lender. (And they also relied on their credit cards, which is a very risky move because of the very high rates on credit cards. I am not recommending that you do this.)

As I watched the video, I could hear the thunderclap inside my head. You need access to money to acquire property, whether your own home or rental properties. The money can come from your own savings, from a family member, from friends, from a sou-sou, from a lifetime of collecting your loose change… it matters not. You need to get your hands on money to fund your real estate purchase.

And if you don’t have cold hard cash of your very own, then you need financing.

The Robuilt videos opened my eyes to the world of private money lenders. I don’t know all the details about how they work. Nor am I familiar with how they structure the lending terms. I don’t even know the rates or how they assess your credit. And to be clear, I don’t know why Robuilt’s didn’t go to a bank to get the money they needed to build their tiny house.

What I do know is that people who are cut off from obtaining financing are essentially cut off from the opportunity to acquire real estate. And if they’re not cut off completely, then their lack of access to money contributes to their delay in wealth-building. Maybe it takes someone an additional 7 years to be in a position to buy real estate. Whether that’s 7 years to save up a sufficient down payment, or 7 years to clean up their credit enough to qualify for a mortgage or a private money loan, it hardly matters. The result is the same – that person is unable to build wealth through real estate for 7 years.

Financing & Intergenerational Wealth

The thunderclap for me was the realization that access to financing is one of the keys to getting ahead when it comes to building wealth. If you buy rental properties, then you earn the equity while your tenants pay down the debt. If you buy your own home, then you still earn the equity while you pay down the debt. In order to earn the equity in the first place, you have to own property.

House-hacking as displayed in the Robuilt videos wouldn’t have been possible in as short a timeline as theirs without access to financing. That access allowed them to start creating wealth for themselves today. They’re also now able to build intergenerational wealth for their daughter.

It should be obvious that a lack of access to financing inhibits the creation of intergenerational wealth. In this blog post, I’ve focused on one couple who have used financing to buy & build real estate. Their reliance on financing allowed them to craft a situation where others pay for their mortgage. This results in their salaries going to other things, like accumulating another down payment to buy more property if they choose.

I’d like to point out financing can also be used to start a business. People who are more sophisticated than I am use it to invest in the stock market. For the record, there are many ways to use financing to build wealth.

People who don’t have access to financing have fewer opportunities to build wealth. It can still be done but it’s harder because those people have to accumulate the same amount of money from their own earnings. Imagine if your credit was so bad that you couldn’t get a mortgage. Or if you were legally prohibited from owning property. The only way for you to buy a property would be to save money from your paycheque then pay cash for a home.

How long would it take you to save enough money from your paycheque to buy a house? Even if you were house-hacking by living with a roommate?

Access to Financing = Access to Opportunity

The person who has to pay cash for a house doesn’t have the same opportunity to build wealth through real estate as the person who can get financing to buy property. I know that it might take the mortgage-holder a lifetime to repay the debt. After all, that’s why 25-year and 30-year mortgages exist, right?

Assuming the mortgage is paid, then the home can be passed down to the next generation. Imagine where would you be financially if you’d inherited a full-paid for home!

The person who can’t get financing for a home – yet miraculously saves enough money to buy one – can also pass their home down to the offspring. The possibility exists in theory only. It’s just such a monumentally harder endeavour to use cash to buy a home that most people never seriously consider doing it this way.

I’ve always believed that debt-free is the ultimate and best status when it comes to personal finance. This week, I’ve had cause to re-assess my position on debt. For whatever reason, these videos about house-hacking were more visceral for me than anything else I’ve read, watched, or heard. The power of financing and its ability to generate intergenerational wealth was put on full display. I have to admit that my eyes were opened to the possibilities in a way that they hadn’t been before.

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Weekly Tip: Borrow books from the library. It’s free and it’s a better use of your time than scrolling a social media site. There are books on anything that you can think of. Borrowing books is free. Libby is a magnificent app that prevents you from ever incurring a late fee because it automatically returns books to the library for you. Feed your brain – read a book.

Old-Fashioned Advice

It struck me recently that one of the reasons I’ve achieved some of my personal finance goals is that I’ve followed old-fashioned advice. These are the top three nuggets that come to mined.

Stay Out of Debt.

This particular pearl has served me well. I’ve had credit cards in my wallet for more than 25 years. I’ve paid interest once, and that was because I’d miscalculated when I made my payment. I don’t carry a balance on my credit cards.

The credit card companies would call me a deadbeat. I wear their moniker with pride.

One of the keys to becoming a deadbeat is to have an emergency fund and other accounts to fund short-term inconvenience. If you have a vehicle, then you know that you’re only one weird sound away from a mechanic’s bill. When my vehicle needed $600 of work, I had the money set aside in an account set up to field these kinds of expenses. Mary Hunt calls this a Freedom Account, and she describes it in her book Debt-Proof Living.

If my house burned down, or I lost my job for an extended period of time, then I’d go to my emergency fund in order to pay cash for my living expenses. I have insurance on my house but why should I pay the credit card companies interest while I’m waiting for my insurance money? And if I’m out of a job, that’s hardly the time to be incurring debt in the form of 19.9% interest payments to the banks. I have money set aside so that I don’t have to turn to credit cards during the bad times. You should too.

It takes as long as it takes to create a nice, fat cash cushion of emergency money. Start today.

Pay Cash.

The following method has worked for me. I suspect that it will work for you.

First, I identify what I want. Second, I look at my bank account to see if I have the money.

The third step goes one of two ways. If the money is already in my bank account, then I buy what I want. If the money is not in my bank account, then I don’t make the purchase.

Fourth, I get what I want… when I have the cash in hand to pay for it. The fancy term for this is delayed gratification. Call it what you want. The bottom line is that paying cash throughout my life has benefitted me far more than any inconvenience caused by waiting.

Pay Off Your Mortgage

I was lucky enough to get into the housing market with a modest, mid-sized mortgage under $70,000. When I moved from my first home into my next one, I bought a property that suited my life circumstances. I did not accept the bank’s gracious offer to lend me several times my annual income. My refusal of that gracious offer has meant that I live in an older home that’s roomy enough for a Single One. It also meant that I could pay off my mortgage in my mid-30’s. I’m happy to report that those former mortgage payment are now the foundation of my automatic investment plan.

I know that there is a lot of debate among very smart people about whether to invest or to pay off your mortgage. Today, we live in a world without pensions and $300,000+ mortgages. Essentially, these two facts combine to create circumstances where people can spend their entire working lives paying off a mortgage. They may not have any “extra” funds to put towards retirement. Every dollar is allocated to paying for the mortgage and for the costs of living. Most people enjoy the little luxuries – you know, food & transportation. Crazily enough, they’ll even prioritize those luxuries over saving for a retirement that’s decades away. Even I go back and forth on whether I should have taken 25 years to pay off my mortgage so I could have invested in the stock market for a longer period of time.

Since paying off my home 10+ years ago, I’ve never worried about having shelter. Rental increases haven’t impacted me, because I own my home free and clear. Mortgage rates no longer make me apprehensive, because I don’t have to worry that my budget will be impacted if those rates shoot up. (Of course, that’s a hollow argument in the mortgage market of 2020 – when 5-year rates can be had for less than 2.5%.) I no longer have to hope that absolutely nothing goes terribly awry with my paycheque for over two decades so that I can service a gigantic debt. This last benefit just might be my very favourite – sleep is easier without money worries.

I still think paying off your mortgage is a great course of action. At the same time, I’m realistic enough to recognize that it’s not always the best option.

Everyone’s situation is different so use these nuggets as you wish. Stay safe – wash your hands – be well.

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Weekly Tip: Ladies, you’re statistically more likely to outlive men so you should invest a greater percentage of your portfolio in equities to generate higher returns over your longer lifespan. Withdraw your age from 120 and allocate the number as the percentage of your investments to the equity portion. As you become a more sophisticated investor, you can change this percentage if you want.