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Originally Posted by redpoint5
If the loan to value ratio goes above 1, then the banks carry the risk because people will walk away like we saw in 2007. That's what I mean by the banks carrying the risk even though real estate is normally a relatively stable market.
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Walking away from a mortgage does not end the borrower's legal obligation to pay the debt (at least in the vast majority of states). When someone walks away, the bank forecloses, sells the property, and then pursues the borrower for the remaining balance. This includes the option to garnishing wages until the full debt is collected.
Someone with negative net worth and few assets could declare bankruptcy to discharge the remaining debt but that isn’t an option for people with assets.
Quote:
Originally Posted by redpoint5
I'll throw together a spreadsheet to help me crunch the numbers, but I think even conservative ROI figures for the stock market and relatively short durations will show that having cash now is better than having equity.
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I made a simple spreadsheet that looked at total cost of the loan: closing + (payments x months) and based my decision on that. I used bankrate to calculate monthly payments.
No doubt the stock market has better returns than paying down a mortgage. That assumes someone invests the difference in the market. I’m already maxing out every tax advantaged fund available to me (401K, Roth IRA, and HSA). Any money I put into the market right now would be taxed 30% (20% federal capital gains + 10% Oregon capital gains). So that 7% return becomes 4.9% - 2.5% mortgage rate = 2.4% return. That return isn’t guaranteed and carrying a higher mortgage increases risk. The bigger the loan the bigger the payment and the fewer months my cash reserves last in the case that I lose my job.
It is the same for future rentals. Do we want 10 mortgaged retails bringing in $100 a month or 1 paid off rental paying $1000 a month? Mathematically we should have 10 houses with the least amount of equity possible to maximize ROI. That is what a MBA learns in school. What is ignored in that calculation is the risk. With the mortgages if we get another event like COVID 19 and renters are allowed to skip payments I’m screwed. I have to cover 10 mortgage payments out of pocket while the market is down and I would have to sell assets at a loss. With one paid for house I lose income but don’t have to pay out of pocket. The entire point of investing in real estate is to diversify sources of income so we don’t have to sell assets in a down market to cover living expenses.
No doubt the math works to carry a high mortgage balance and invest the difference in the stock market. However, that is a riskier bet and a risk I’m not looking to take 3 years from our target retirement date. We plan to enter retirement with zero debt.