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 Del Mar Times                                                                                                               February 21 -
                              Should you pay off your mortgage?                                                              February 27,
                                                                                                                              2003 issue
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    Opinion         By Christopher P. Van Slyke, CFP                                                                            How to
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     Dining             Often people are faced with circumstances that make them ask if they should pay off their            Del Mar Times
   Lifestyles       mortgages. You might have come into some money or you might be considering your capital needs
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                    to determine the appropriate amount of life insurance. If you recently changed jobs and have the
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     Sports         option of receiving lump sum distributions of any 401(k)/Pension monies, you might be tempted           a letter to the
     Prime          to pay off that mortgage. You would do this to save some money in interest expenses or to improve           Editor
                    your cash flow. Of course, that mortgage payment can be quite large compared to your other
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  Classifieds       debts. There are, however, many reasons to hold off on paying off that house.
                       First, the cost of a mortgage is very low compared to other sources of capital — auto loans,
    How to          credit cards and consumer lines of credit.
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                        Second, the interest you are paying on your mortgage is most likely deductible from your
                    income taxes. This makes the effective cost to you even lower. If you have a 7 percent loan (high
                    for today) and are in the 40 percent marginal tax bracket (Federal and State) the effective cost of
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                    money is 4.2 percent.
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     Editor             Third, when you consider other investment opportunities available, you could possibly invest
                    money at a percentage greater than 4.2 percent and realize a profit. Of course, the risks associated
                    with different investments vary greatly and you should always consult the advice of a professional
                    financial advisor and a tax advisor before making any investment decisions.
                        Fourth, if you keep your money out of your house and put it elsewhere it would potentially be
                    more liquid in the event you needed it quickly. In particular, you might find yourself in a situation
                    where your income has been greatly reduced and you would need the equity in your house to make
                    ends meet. The Catch-22 is, if your income were not adequate, you would not likely be able to
                    borrow against the equity in your home and therefore, would not be able to access the money you
                    need. If you keep the money out of the house, you can always pay it off later at retirement. This
                    gives you more options and better diversification.
                        Finally, your home is a leveraged investment and leverage is a powerful investment tool. For
                    example let’s say your home is worth $1,000,000 and you have a loan of $800,000 (80 percent of
                    the value). Your investment in the property is $200,000 and the property has increased in value
                    by 10 percent in the last year ($100,000). Your payments on the loan are approximately $57,552

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                       per year (based on 6 percent) which is tax deductible (assumes 40 percent tax
                       bracket) costing you $34,531 after tax. So, based on a 10 percent appreciation of $100,000,
                    and deducting the after tax cost of the payments, your return on an investment of $200,000 is
                    $65,469 or 32 percent in one year; which is tax deferred or tax free depending the circumstances.
                    That is hard to beat! (There may be other expenses like property taxes too of course but the
                    concept still holds.)
                        So, in conclusion, the decision to payoff your mortgage is not an easy one. It is very tempting
                    to want to free up your cash flow and reduce your interest expenses but as I have illustrated, it is
                    not always in your best interest to do so.

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