(Guest Post by Todd R. Tresidder — A great guy with a rather interesting take on his self-proclaimed “mistake” — I don’t know if I’d call it that, but how do YOU see it?)
I thought it was a smart move, but I guess I still had a few things to learn.
The plan seemed simple enough on the surface. I would buy a little two bedroom condo one block from the beach on the shore of Lake Tahoe. I would finance it with one of those garbage loans that suck you in with an unrealistically low teaser rate.
Yep, these are the same loans that got so many people in trouble during the real estate crisis. They trap you with a teaser rate so low you could afford the Taj Mahal, but then a year or two later the interest rate resets to reality and presto – your payment suddenly gets a lot less affordable.
But remember, I had a plan. I was smarter than that.
My plan was to pay it off during the teaser rate period so those dirty little bankers wouldn’t make squat off me. I was careful. I checked the terms of the loan to make sure there was no pre-payment penalty or small print to get hung up on. I dotted my I’s and crossed my T’s.
Everything looked like it should work out brilliantly. I signed the loan docs, moved into my beautiful home, and started the debt payoff plan…
Smooth Sailing… At First
Throughout the next year I dedicated every dime that passed through my hands to paying off that loan. This was war and I was a man on a mission: It was me against those profiteering bankers and their rigged loans. There could be only one victor.
But I had an ace up my sleeve. I was making a fat income at the time and the loan balance melted away right on schedule. By the second year it was time to throw the first (and last) mortgage burning party of my life.
I celebrated. I beat the bankers at their own game. Victory was mine!
The condo was paid for. It had risen in value more than the cost of the financing. I was feeling pretty smug at my brilliance. I owned my home outright. I was free and clear. What could be wrong with that?
Seemingly nothing, but then it happened…
What I Didn’t Plan For…
My investment portfolio doubled the very next year.
Now I know you are thinking, “Poor little Todd. His house is paid for and his investments doubled. Woe is me! My heart bleeds for you.” It’s a great situation, admittedly. But here’s the problem.
I just spent the last year tying up a fat pile of cash into a piece of real estate. I suddenly woke up to the reality that all the money that went to paying off the house would have been sitting in my investment account instead.
… and it would be worth twice as much as that darn house. It would have doubled!
Instead, it was tied up in home equity that was barely going nowhere.
The undeniable financial reality is that I left a fortune on the table by paying off my debt. I would have been far better off carrying the debt with a normal 30 year fixed rate mortgage and investing the surplus. Assuming a $150,000 first mortgage,I was $150,000 poorer than if I had just carried the loan like every other indebted American.
But It Gets Worse…
And if that doesn’t get your goat then consider this.
I was in my 30’s at the time. That theoretical $150,000 could have compounded to become many millions over my long lifetime. It isn’t just the 150K I left on the table. It is the lifetime compounded value of that 150K (which is millions).
Hey, but at least I don’t have that monthly payment.
So next time you get all fired up about paying off debt, recognize the equation isn’t as simple as it sounds on the surface. There are two sides to every story…
The Art And Science of Paying Debt
There are two sides to the “paying off debt” story – the art and the science.
The science of paying off debt is black and white clear. You place your capital wherever it provides the highest after tax return.
In my situation that was my investment accounts. For other people the answer might be paying off debt. There is no right-wrong answer that can be generalized to everyone; however, there is one right answer for you.
The other side of the coin to paying off debt is the art side – which is more subtle (as art usually is). It has to do with your emotions, goals, and happiness.
For example, I succumbed to the emotional appeal of being debt free even though I knew my investment accounts had a higher after-tax return. I love minimizing my cash outflows, and I deeply dislike owing anyone for anything.
Debt is the antithesis of freedom. I love freedom passionately so I loathe debt even more passionately. That was why I paid off the mortgage. It was an emotional thing.
I view my financial picture like a business so the less cash that goes out the stronger my “business”, the lower my risk, and the less I have to earn to sustain any given lifestyle.
It all sounds very logical from an art standpoint, but it is really just rationalization for an emotional decision. At the end of the day math rules your wealth equation – whatever provides the highest after tax return is what determines the financially best choice.
Emotions are a different thing… so I ended up paying off my debt.
And it cost me a fortune.
Todd Tresidder is a money coach with an unconventional take on personal finance… like why everything taught about the money you need for retirement is wrong and why variable annuities are a bad deal for almost everyone except the salesperson. He leaves the getting out of debt stuff to guys with far more experience living with liabilities like J.Money.
EDITOR’S NOTE: I’m still moving forward with Operation Mortage Payoff! I’ll take the emotional side any day – especially when you never know what’s around the corner ;) What do you guys think?
(Photo by petercastleton)