Mortgage Refinance/ Cash Out Opinions

Right off, let's just clarify this is strictly a request for opinions.  Ain't none of us got a crystal ball, so everything here is based on hearsay, conjecture, and bullE36 M3.  

There.  That's out of the way.  

We bought our current house in 2013.  Got a conventional loan for 30 years, made the exact payment every month, so right now there's about 23.5 years left on the loan.  Looked at refi, we can drop our interest rate by 1%, so yeah, makes sense.  We're not planning on moving anytime soon, house meets our needs, job situation seems fairly stable, got 2 kids, etc.  The refi would be for a 20 year loan, so we'd have the place paid off 4 years sooner, and the monthly payment drops to boot.  Win-win.

We currently have another, higher-percentage loan that we are likely going to pay off using some cash out from the refi on our current house.  The appraisal came back on our current house and there's plenty of headroom to pay off the existing loan, the 2nd loan, and still come in under the 80% LTV required.  Doing all this will save us 5 figures worth of interest total, get everything paid off sooner, and still give a lower total monthly payment.  

Win-win-win.  OK, getting to the question...

As I mentioned, there's plenty of headroom (equity) in our current house to pay off the higher percentage loan.  I'm considering taking out additional money as we still have some plans to do some work on our current house.  I'd like to build a new garage, and finish up a few other projects that have been dragging on and could use an injection of cash to close out quickly.  We're looking realistically at 2-3 years to do this stuff.  We have a line of credit on the current house, which has $0 in it now, that we could tap to pay for these projects.  The HELOC will stay after the refi, I've already confirmed this.  But, it's at a higher interest rate (about 1% higher) than the quote on the 20 yr loan, and it's variable.  Should I take more cash out of the refi, and just keep it in the bank until we need it to pay for the garage and other repairs?  Should I take out just what we *think* we'll need, or max out the loan at 80% LTV and, I dunno, put the rest in a mutual fund?   Really don't want to reset the clock to a 30 year loan; the plan is to be retired before then (I'm 42 now; Mrs. VCH is 34) and I'd like the house to be paid off before I retire.  Plus the rate on 30 year loans is higher than 20.

Thanks in advance for all your thoughts!  

How much is the 2nd loan? 

I suggest:  Refi at the lower rate, but take no money out of this deal.  That will drop your payment even more.  Try a 15 year mortgage also.  No to a variable rate.  Take the savings on the mortgage and throw it and everything else at the 2nd loan until it is gone.  Then start throwing extra at the home mortgage to knock it down and start budgeting for a garage or other projects.  You will be much better off.

General Wisdom from our Society Today:  Cash out that sucker, refi it at 30 years, party off every dime you get out of this and HAVE FUN!  It will be GREAT!!

In reply to Dr. Hess :

Listen to the doctor.  Wise information.  

Dr Hess is correct in a shoot from the hip approach and there is a good chance if you run the numbers he could be totally correct.

But a little time with a spreadsheet will tell you exactly how much you can save by picking the right option.  Create scenarios looking at monthly payment, total amount given to the bank, and possibly annual interest paid if it affects your taxes.  

But regardless, paying off everything as soon as possible is a good option.  We did it that way and at 61 the house was ours.  HUGE reduction in monthly cash flow.

I think you should go ahead and pay off the 2nd note using a cash out as it's an instant money savings at no additional cost (A mortgage for 70% LTV is typically no more expensive than a mortgage at 60% LTV). You can then send more money to your mortgage if you prefer to get the total loan balance back down to just your current mortgage balance, the whole time saving money on interest.

I would only get additional cash out beyond that if you were ready to use it NOW. Otherwise, every month is a month of interest paid on the money you're not using. Paying 2-3 years of interest on a significant amount of cash would suck. Investing the cash you get out is a crap shoot if you're talking using it in the next 2-3 years as the market often has down periods and it would suck to borrow money, invest it, have the investments go down, and then have less money for your improvements while still paying interest on the higher amount. But if you're going to use the money now and the interest rate is lowest on this versus other debt mechanisms then go ahead and get more cash out.

I know you're pretty conservative with your money otherwise my advice would be very different. ;-)

I basically did what Hess suggests, although a number of years ago (2002).  Refinanced from 30 down to 15, paid extra and finished it a littler over 10 years later.  While keeping 401k contribution maxed.  While a lot of folks are fine with debt, I am fairly debt-averse.  Should poo contact an air system and start flying, I know I can live off substantially less income if necessary. And there's nothing quite like the feeling of not having that mortgage over your head.

That said, if you wish to be more analytical about the decision, run payment spread sheets where you can see exactly how much the total interest payment differences will be.  Personally, I don't know if adding long-term debt at lower interest would be preferred over just paying off the high-interest debt off as quickly as possible - how long would it take to pay it off if you could throw everything possible at it?  Sometimes, not having that debt might net you an even lower refi rate on the house.

Be sure to add the costs of the refi into the equations.  From some experience, I know these costs can vary quite a bit.  Is it a flat fee or calculated based on the amount you are financing? So if you are financing more, you may end up paying more in fees that would offset some of the savings.

First, I'd do the math on paying off the other loan with proceeds from your cash-out. Either way there is still a loan on that money. So even though the rate may be higher on it now, the total interest paid over the life of the loan may be greater if the term is shorter.

Second, I'd get confirmation in writing that your LOC lender approves your refi at 80% LTV with no changes in rate or terms to the existing LOC.

This may be exactly what you've already done, but I figured it would be worth clarifying a couple of (small but critical) details on it just to be sure. Assuming you have some 'rainy day' funds, that the (reasonable rate) LOC will still cover any known major expenses for the next couple of years, and your income will comfortably cover both the first mortgage and paying down the LOC in a reasonable timeframe, I would refi at 80% LTV and invest the proceeds in the most tax advantaged and tax efficient manner possible...Which gets into some pretty situationally dependent details.

While it is still the preferred approach for the fiscally conservative, focusing on paying off the mortgage was considerably more advantageous when interest rates were much closer to long term market returns than they are today. But the lower interest rates get, the more financially conservative that option becomes. You can compound your growth by using other peoples money, especially when it's so much closer to 'free' to do so compared at just about any other time in lending history, and the rates are so much lower than even reasonably conservative long term investment returns.

Hell, if index stock funds are too risky for you, on a 20 year note today you're probably getting a rate low enough that you could invest in some decent bond funds and still be reasonably assured of coming out well ahead of focusing that same money on eliminating the mortgage debt...And of course there is any blend ratio of the two to suit your personal risk tolerance.

Pay off the other loan with cash out on the refinance. Lower interest is lower interest.

Consider a 15 year or even a 10 year note; when I bought my house last year the difference was 3/4 point, and the reduction in interest cut the difference in payment by over a third.  Since you're refinancing shorter-term / higher payment debt into it, your total monthly payment may not be any higher. 

chaparral said:

Pay off the other loan with cash out on the refinance. Lower interest is lower interest.

Don't confuse interest rates with interest paid. When looking at rates, the length of payoff makes a HUGE difference too. You can have a higher interest rate and still pay less total interest depending on how many years that interest is being applied.

Lets say that somebody has a loan balance of $10k at 6% interest with 5 years remaining, and is refinancing at 3% on a 20 year note. Paying off the loan as-is at the higher rate would cost $1,600 in total interest, while using refi money to pay it off would cost $3,310 in total interest.

dculberson said:

I think you should go ahead and pay off the 2nd note using a cash out as it's an instant money savings at no additional cost (A mortgage for 70% LTV is typically no more expensive than a mortgage at 60% LTV). You can then send more money to your mortgage if you prefer to get the total loan balance back down to just your current mortgage balance, the whole time saving money on interest.

I would only get additional cash out beyond that if you were ready to use it NOW. Otherwise, every month is a month of interest paid on the money you're not using. Paying 2-3 years of interest on a significant amount of cash would suck. Investing the cash you get out is a crap shoot if you're talking using it in the next 2-3 years as the market often has down periods and it would suck to borrow money, invest it, have the investments go down, and then have less money for your improvements while still paying interest on the higher amount. But if you're going to use the money now and the interest rate is lowest on this versus other debt mechanisms then go ahead and get more cash out.

I know you're pretty conservative with your money otherwise my advice would be very different. ;-)

This 100%. I'm curious to know what the advice is if you're not so conservative though... (Pull loan to invest in stocks?)

Driven5 said:

chaparral said:

Lower interest is lower interest.

Don't confuse interest paid with interest rates. When looking at rates, the length of payoff makes a HUGE difference. 

Lets say that somebody has a loan balance of $10k at 6% interest with 5 years remaining, and is refinancing at 3% on a 20 year note. Paying off the loan as-is at the higher rate would cost $1,600 in total interest, while using refi money to pay it off would cost $3,310 in total interest.

This is correct.  But its not as simple as one way or the other.  I did run the numbers on the 2nd loan we're looking to get cash out to pay off, and at its current rate and payment schedule it'll be paid off in 6 years...rolling it into the new 20 year mortgage means it will be paid off in 20 years, and even though it's at a 1% lower rate, the total interest paid will be more.

But...

Since the monthly payment is lower, that's money every month that can be used to put towards the new garage, other home repairs, etc, that's NOT being borrowd from the HELOC.  Also, at the end of the 20 years, that money will be pretty well eroded by inflation (currently about 2% per year) so the total interest paid over the life of the loan in real dolars isn't as high.  

In the end, it's a balancing act, all the variables are not precisely known, and there is some amount of future time orientation as well vs. immediate desire to get stuff done balancing that has to happen.  We do tend to be pretty conservative in our finances, but I'd also like to live in a house that's more "done" than ours is, and work in a nice garage with a lift rather than an 18 x 18 shack with an extension cord running to it for power.  Financially, we max out our 401k and ROTHs every year, plus save 10% of my income on top of all that.  The amount we owe on our current home is actually now (for the first time) less than my yearly gross income, which is kindof wild to think about.  

I dunno.  Keep the ideas and thoughts coming.  

EDIT:  Also, I want to add, we're doing the refi through our local credit union.  The rate is competitive, not the lowest out there, but they're generally good people to deal with (I have a car loan though them for my Mazda, as well as the open HELOC) and they absolutely positively do NOT sell mortgages, nor have they ever in their history.  

ALSO: the rate difference between the 30 year and 20 year loan was a lot but the difference between the 20 yr and the 15 year was not much, and the payment per month is much higher.  

In reply to volvoclearinghouse :

Glad to see my initial detail clarifications were redundant for you. The rate on your HELOC vs the refi rate will also have to play in, as enough higher of a rate may mean considering approaching this as if the HELOC didn't exist. But if the rate is decent and you're planning to pay it off considerably faster than the mortgage, I see no reason not to use that tool too.

The additional financial picture clarification does mean my initial recommendation would be a little less advantageous (and a little more risky) than my baseline of the vast majority of people not having fully maxed all tax-advantaged account contributions. The best you could do then is put the money into tax-efficient taxable accounts.

At that point I think it comes largely down to running the numbers on retirement savings and expected retirement age/date. If I was noticeably ahead of my targets, or on-track but nearing it, I'd go more conservative and focus on maximizing the mortgage paydown. If I was noticeably behind my targets, or on-track but further out, I'd go more aggressive and focus on maximizing the investments.

So, you've already made up your mind to go with the "But I want it NOW, I can't wait until CHRISTMAS" route, and your just kinda looking for support for that decision?  In that case, yeah, max out that HELOC and Party On.  New shop, new lift, new Porsche to put on it, go for it, doode.

Robbie said:

This 100%. I'm curious to know what the advice is if you're not so conservative though... (Pull loan to invest in stocks?)

The opposite, actually! If VCH was prone to blowing money and borrowing for silly things, I would say his idea was terrible and he should just plow as much as he could into paying off any and all debts. That way he'd be less likely to spend the money from the new loan on shiny toys and end up even more in debt after consolidation. But he's not prone to that, so I think he can handle using leverage to end up in a better place.

In reply to Dr. Hess :

"we max out our 401k and ROTHs every year, plus save 10% of my income on top of all that."

Do I strike you as the party type?  

In reply to dculberson :

Thank you for your sane contributions to the discussion, as always.  

In reply to Dr. Hess :

Just because somebody has a different opinion than you on leveraging debt as a tool in personal finance does not at all mean they are making poor financial choices. Operating under the assumption that they are, in spite of all other evidence to the contrary, is both arrogant and insulting. Regardless of what you might want to believe, there is no one right answer.

In reply to volvoclearinghouse :

You still want to party instead of getting your debt problem under control.  Take a year or two off of the 401K/ROTH/+10%, throw that at your debt, then you'll have more to catch up.  Or do whatever you want and have fun.  It's your future.  Several of us here have told you already how freeing not having a mortgage around your neck is. 

Dr. Hess said:

Take a year or two off of the 401K/ROTH/+10%, throw that at your debt, then you'll have more to catch up. 

Except that chances are, it'll never actually catch up. Not even close. Debt is not inherently a problem. While a lack of debt may be psychologically freeing, that does not make it more efficient or effective.

A mortgage is a tool like any other. It can me misused or it can be used well. I am far ahead of where I would be if I had paid off my mortgage instead of pursuing other investments. To the point that I could pay off my mortgage using only the return on those investments. But that would be silly, since the return is now making returns of its own far beyond what holding the mortgage is costing me.

Equating having a mortgage with partying is not just insulting, it's dumb. Feeling "freed" by having less money is your choice, but don't act like it's the smart choice. It's what helps you sleep at night, fine, but it doesn't mean you're some kind of financial wizard.

volvoclearinghouse said:

In the end, it's a balancing act, all the variables are not precisely known, and there is some amount of future time orientation as well vs. immediate desire to get stuff done balancing that has to happen.  We do tend to be pretty conservative in our finances, but I'd also like to live in a house that's more "done" than ours is, and work in a nice garage with a lift rather than an 18 x 18 shack with an extension cord running to it for power.  Financially, we max out our 401k and ROTHs every year, plus save 10% of my income on top of all that.  The amount we owe on our current home is actually now (for the first time) less than my yearly gross income, which is kindof wild to think about.  

 

I get where you're coming from - completely.  But if I was that close to paying off my mortgage, that would be the top priority. Then the money to renovate the house and build a new shop will accumulate pretty quickly. 

I'm not going to offer financial advice, but  will say that the decision should balance long term planning with short term goals. 

I would suggest the OP  make the decision that will make him and the mrs. happier without sacrificing their long term plans. 

We all know someone that left this world too soon (just look at the zombie threads that pop up on this board to be reminded).

The problem with putting off things you want to do until tomorrow, is that you might not get there.  Plan and save for a long retirement, but don't sacrifice your happiness now for something you may never reach. 

Ian F said:

volvoclearinghouse said:

The amount we owe on our current home is actually now (for the first time) less than my yearly gross income, which is kindof wild to think about.  

I get where you're coming from - completely.  But if I was that close to paying off my mortgage, that would be the top priority. Then the money to renovate the house and build a new shop will accumulate pretty quickly. 

Depending on interest rate, 6.5 years off a 30 year mortgage has probably 'only' paid off ~15% of the loan value. So to me it's more a testament to a conservative original loan amount, and/or a significantly improved income, than how close it is to being paid off...As it's really not any crazy amount closer than the starting point was.

Dr. Hess said:

In reply to volvoclearinghouse :

You still want to party instead of getting your debt problem under control.  Take a year or two off of the 401K/ROTH/+10%, throw that at your debt, then you'll have more to catch up.  Or do whatever you want and have fun.  It's your future.  Several of us here have told you already how freeing not having a mortgage around your neck is. 

His debt problem is under control though, that is what you're apparently missing here. Having debt is not necessarily a problem. For someone like VCH, from what he has told us, it most certainly is NOT a problem. In what world does it make sense to eliminate debt at [assuming] 4% at th expense of earnings in the 401k of 7%?

Bad math there, Doc.

EDIT: I forgot to mention the tax advantages of the retirement accounts compared to the mortgage, at least for most people after the last tax law was implemented.

dculberson said:

A mortgage is a tool like any other. It can me misused or it can be used well. I am far ahead of where I would be if I had paid off my mortgage instead of pursuing other investments. To the point that I could pay off my mortgage using only the return on those investments. But that would be silly, since the return is now making returns of its own far beyond what holding the mortgage is costing me.

Equating having a mortgage with partying is not just insulting, it's dumb. Feeling "freed" by having less money is your choice, but don't act like it's the smart choice. It's what helps you sleep at night, fine, but it doesn't mean you're some kind of financial wizard.

I'm in a similar boat- I could cash out my retirement savings and not only pay off our current house but also pay off our rental house (which we also have a mortgage on, and which generates a positive cash flow).  We have no student loans, no credit card debt, a solar loan to put up solar panels last April (at 2.9%) and a small car loan (also at 2.9%) on the Mazda3 hatch I drive to and from my job.  The other loan I was looking at consolidating is just an older HEL I took out to do some work on the rental property.  

mtn said:

Dr. Hess said:

In reply to volvoclearinghouse :

You still want to party instead of getting your debt problem under control.  Take a year or two off of the 401K/ROTH/+10%, throw that at your debt, then you'll have more to catch up.  Or do whatever you want and have fun.  It's your future.  Several of us here have told you already how freeing not having a mortgage around your neck is. 

His debt problem is under control though, that is what you're apparently missing here. Having debt is not necessarily a problem. For someone like VCH, from what he has told us, it most certainly is NOT a problem. In what world does it make sense to eliminate debt at [assuming] 4% at th expense of earnings in the 401k of 7%?

Bad math there, Doc.

 

EDIT: I forgot to mention the tax advantages of the retirement accounts compared to the mortgage, at least for most people after the last tax law was implemented.

Actually, the tax thing is a bit of a double edged sword in my mind. On one hand yes the reduced taxable income due to paying into a 401k gives a more likely tax advantage than any itemized deductions. And really putting money in your 401k is the double whammy because you get both the reduction in taxable base AND you pay more interest because you are paying off your home more slowly. 

BUT! It is very possible to get so much in your 401k (if you are maxing it every year, for example) that your distributions will put you into a pretty high tax bracket in retirement. So they will get taxed on the back end. 

Paying off your house, however, means you pay the taxes now and don't have as much distributions later to be taxed. So in essence paying your mortgage early is sort of like investing in a Roth (with guaranteed return, less risk/reward for growth, and with no penalties for taking the money out early). And many many many people wish they could put more toward their Roth's...

Edit for an example to illustrate my point:

Say you make 80k and have $12k annually to save. If you worked from 1980 to 2020, and put all 12k into a 401k in the sp500, you'd have 5.8M. You would have saved $2,640 on income taxes each year (assuming current 22% rate), for a total savings of $106k, not bad. But in your first year of retirement, your required minimum distribution will be $212k (5.8m/27.4), which means you will pay $35k or so MORE in income tax than your regular $18k on your $80k salary. So in 3-4 years of retirement the $100k tax savings is erased.

So that person would do well NOT to put all into a 401k, and rather split between 401k and other post tax investments, real estate included.