My wife and I have never paid extra on our mortgage and currently have it locked into an 5 year ARM at 4.0% that I think has three years before it adjusts. Our savings is currently sitting in an ING checking account earning us a paltry 1%. So even while our mortgage is tax deductible even a 1st grader can probably figure out that I am losing money every single day I do not pay off my mortgage free and clear.

So why haven’t I done it? Well the main reason I have not made the smart financial move is that if I were to pay off my home mortgage I lose the flexibility I may need if a piece of land comes available that I need to purchase. Most lenders require a significant amount of money down to by vacant land and the rates for vacant land are likely to be quite a bit higher than the interest rate I currently have my mortgage locked in at. So as soon as I make the purchase I am then losing money on the higher interest rate between my existing mortgage and the land loan.

If I were to pay off my house I would also possibly need to wait to sell my house before I could purchase the land which would put a big kink in things and potentially cost me losing out on a piece of property and while it didn’t seem quite so obvious when I originally wrote this post during the housing boom – its pretty obvious now that you might have trouble just turning around and selling your house right away. So I am willing to take a 3% hit on a pretty significant chunk of money every day for the flexibility it is affording me in my pursuit for a large chunk of land to build a house on.

Another ironic note is that even if paid off my mortgage it would save me my $589 mortgage payment each month but I as I pointed out in the post referenced above I still have to drop about $400-$500 a month on taxes, insurance, heating/cooling each month so its not like you write the check and live for free the rest of your life. The cost of a home goes far beyond your mortgage payment and for some of these dufusses who build extravagant houses their tax bill is the biggest liability they have on their balance sheet going forward.

When we purchase our property and build our next house I will have two big financial considerations on the forefront of our decision making process – property taxes and heating/cooling costs. These are two costs that can be significant and are guaranteed to go up exponentially every year for the rest of your life. The mortgage itself does not scare me because that is a fixed cost at a fixed rate that eventually over time inflation will eat away at and it costs you less and less each year and is also potentially offset by a gradual increase in real estate value. Taxes and energy costs on the other hand go up hand in hand or exceed the cost of inflation in many cases so every year you own that house it costs you more and more.

So you might be asking MFJ what is the deal man – you talk like some frugal dude that thinks owning a house is a waste of money and you’d be a dufus to build an extravagant house – yet here you are with a 6 figure savings account “downpayment” for your next house are you a crazy hyporcit? The answer is maybe.

First things first we are going to spend a crapload on our next house compared to what we would really need. We could live in our current house forever and it would be more than adequate. For the record we currently live in a less than 10 year old 1800 sq ft ranch house in a nice subdivision with an unfinished basement that could easily house our family of 5 even with some incremental family growth.

However life is all about balance and we need to balance between saving for tomorrow as we are with our retirement nestegg and enjoying some of our financial blessings now. It’s always important to give myself a reality check and making sure I’m being frugal and not being cheap – there is a big difference. So is a big fancy house going to make me and my wife anymore happy or our lives any better – the answer is no. We don’t need shiny new things to make us feel more important or make our lives more exciting. We enjoy living relatively simple lives and don’t spend much of any money at shopping malls, on new cars, or on other things that seems

The main reason we are saving so much money for our next house is that we want to purchase a large chunk of property (20+ acres) out in the country to build a house and start a fruit orchard. All in all I expect the cost of the land to be pretty close to the cost of the actual house which explains the large price tag for the combined purchase.

Overall I don’t expect our house to be that extravagant and one could actually view the additional land and fruit orchard as an investment, but to be honest I’m not even sure if I can grow anything so I’m not going to mix the two. This will be strictly for personal enjoyment and some place where my family will grow and where my wife and I will live for the rest of our lives. Because the land will be put to agricultural use the taxes will be very affordable and like I said if I’m able to grow a few things there could be the opportunity where the land could actually pay some dividends back to me.

Now off to find some land…

In case anyone is wondering I took my tax money and then some and used it to pay down my HELOC.  I haven’t talked too much about my HELOC on this blog partly because I’ve been pretty diligent about paying it off on my own.  I took it out 1.5 years ago when we purchased our house and the balance was at $16,500.  After yesterdays payment I only have $1,000 remaining, I’m still trying to estimate my cash flow out for next month and may be able to just go ahead and pay the entire thing off as I’ve seen to had a good string of luck lately running into unexpected money.

Edit: I actually just paid it off entirely. Feels good to pay off debt

Back to taxes – remember you have until April 17th this year to file your taxes, but if you are getting a refund you may want to go ahead and get your money back before then, it’s painless and quick if you file electronically.

Step 2: Start paying your credit cards off.

Ok I know what a lame post, but to be honest if you have credit card debt and your credit score is less than stellar it’s probably pretty likely that you are paying 20 or even 30 percent on your credit cards. This is the primary reason that people who get themselves into credit card debt have such a hard time pulling themselves back out of debt. So if you already accomplished Step 1 before reading my blog, the smartest thing you can do with any possible extra money is to put it towards paying those credit cards off.

Of all the “investment” options out there, nothing will come even close to the return you get on your money when you pay off your credit card debt. As much as I and others tout saving for retirement, investing in 401ks and IRAs, you should not even consider doing any of the above if you have credit card debt.

For great resources on getting out of debt check out

• No Credit Needed
• No Credit Network
• Blogging Away Debt

What’s better, paying off debt or investing?
My theory is that I’d rather have less debt because I don’t like owing money even if the interest on debt is less than the return on the investment.

Regards,
John

Well John as with most questions there really is not a right or wrong answer. It really depends on your situation and your personal feelings towards carrying debt. Growing up I was a person who had a personal hatred towards debt. I never wanted to owe anyone anything. I was going to pay down my student loans the instant I graduated, I was going to pay down my mortgage as fast as I could, and I would never in a million years carry a balance on a credit card no matter what the circumstance. Which I think is probably similar to the view you have.

My changing attitude towards debt
Shortly after graduating college I entered an MBA program and I can’t even pinpoint the class anymore, but suddenly I started seeing two kinds of debt. Good debt and Bad debt. In essence good debt was debt who’s interest rate was quite a bit lower than I could fairly easily make in the open market. Bad debt was debt where the interest rate was the same or more than I could easily make on money on my own.

So all of a sudden things like my student loans which were locked in at 2.8% and tax deductible suddenly became good debt, and I realized I would be a fool to pay them off early. I still detested credit cards with a passion, but I realized that if someone were going to give me money on the cheap I should gladly take it off their hands if all I had to do was give it to someone else who would pay me enough to cover my debt’s interest charge and leave some extra money in my pocket to boot.

It’s simple math
In theory the decision whether to pay off debt or invest is simple math (at least for me).

Rate of Debt vs. Rate of Return on investments x (1- TaxRate)

Or if you have debt that is tax deductible, such as student loans, mortgage, or HELOC you can use this formula

Rate of Debt x (1- TaxRate) vs. Rate of Return on investments x (1- TaxRate)

If the Return on investments side of the equation easily outweighs the debt side of the equation then you are better off investing money. If the debt side is bigger than you should be looking to pay off your debt.

Things to consider first

• Make sure the rate of return on your investments is a sure thing, because the debt side certainly is. Don’t blindly think that you can get a 10% return because you are going to invest your money in the stock market. You have to pay debt in the short-term so for the most part your investments should be safe short-term investments.
• You actually have to invest the money. You can’t just say ohh I can make a higher return than the debt I’m paying and then leave the money sitting uninvested (I know it’s common sense, but I’m an idiot)
• Rates of debt can be variable and so can investment returns, so what may be a invest vs payoff debt situation today may not be the same a couple months down the road.

There’s a lot more to it than just math
Ok you got me, even from a purely financial standpoint it might make sense in some situations to keep the debt and use the money elsewhere, the safe bet is probably to pay off the debt. Paying off debt gives you a sense of control over your life and can be a very rewarding experience. There have been countless stories of people concentrating on paying off their debt and that momentum keeps carrying them onto a life of wealth and riches.

Debt = stress, so paying off all your debts can free you up to do many things that you might not have been able to do before when you had debt. I have never carried a balance on my credit cards, but I can only imagine the sheer jubilation that is felt by people who crawl their way out of thousands of dollars of credit card debt and they get to a point where the credit card statements stop coming each month and they have nothing but $0 balances across the board.

I’m a homeowner now and as much as I think my mortgage is “cheap” money (locked in at 5.625%) I couldn’t argue with you that I would feel a complete sense of control and relief if I no longer had to make monthly mortgage payments. If I got laid off it wouldn’t even be that big of deal because short of a mortgage payment I think I could live off cash reserves for quite a while. Having to pay other people for using their money means that you have to keep working and if something bad ever happens well things are probably 5 times more stressful because of the debt.

The real answer
If you are a seasoned investor AND can very safely get more on your investments than your debt costs you AND you can handle the fact that someone else has some control over your life because you have their money AND you feel very confident that nothing major will likely happen to your income during the time where you are carrying debt, then by all means go ahead and keep the cheap debt (notice all the ANDs).

In other words, for the typical John on the street the answer is you probably should pay off your debt first. You can never really go wrong paying off debt. However taking on or keeping debt can end you up in a world of trouble fast if you aren’t careful or something unforeseen happens.

I have about $50,000 in student loans, that is an accumulation of my under grad loans, my wife’s under grad loans, and my graduate loans. I consolidated them all together a couple years ago when rates were at their lowest, so I was pretty excited about putting off even starting payments until as as long as possible.
I have all of this student loan money locked in at 2.82%, plus once I actually sign up for electronic payments I get another .25% knocked off my rate, plus once I make payments for 12 consecutive months I get another .25% knocked off. So in reality I’m sitting with $50k of loans at 2.32% on which the interest is tax-deductible. Needless to say I signed up for the absolute slowest repayment plan possible. I think I was able to stretch payments out over 28 years or something like that. I was very fortunate to consolidate when I did, heck had I known I could get money this cheap I probably would have taken out a lot more and just invested it.Anyway my initial payments will be $161 a month starting next August, which means I’ll have to find roughly $2000 a year from my already existing tight budget to start paying these loans

Now don’t get me wrong, I’m not in dire financial straights and looking to take out a balance transfer just to help pay the bills. I could easily pay off the HELOC if I wanted to, but that means I would either have to delay/skip maxing out my and/or my wife’s Roth IRAs in 2007 or lower my 401k contribution percentage below 17.5%. Basically I’ve got about $18,000 a year that I am putting away for retirement, so I’ve got a little wiggle room if things get tight. But the point is I don’t ever want to get to the point where I need to descrease or for that matter stop increasing my retirement contributions. If some credit card company will give me free money to play with I think I’ll take them up on it.

I have no credit card debt, nor have I ever or will I ever have any credit card debt (above 0%) and really I think I’ve just strung our household income to the limit with the amount I am contributing towards retirement. Currently that $18,000 makes up 32% of our household income and every penny of that $18k is after-tax money, add in Mortgage/Heloc and we really aren’t living on much.

If anything I will just take out a balance transfer for 12 months, pay off the HELOC, and put the extra in a high-yield savings account. Keep adding to the high yield savings account throughout the year as money frees up, and then worst case scenario I wasn’t able to come up with any extra money to pay off balance transfer in entirety, I’ll just pay of the balance transfer card with the HELOC, or do another balance transfer (BTW I doubt this will be the case). No matter what it will save me the $42 a month I’m currently paying on my HELOC and any interest from the extra money. That’s still a minimum savings of $500.

Anyway MyMoneyBlog seems to be the balance transfer expert so I am reading up and learning over there. It looks like Citi is the best company to do this with, but if possible I’d like to use Chase as the rest of my accounts are with them. We’ll see and I’ll keep you posted as I go through the process.