Saturday, April 21, 2012

Money - Pay off Debt or Invest follow up

I know many of you might be thinking, but haven't commented on this subject, that I didn't pick the right choice.  That I should have said investing is the way to go.  After all...there is nothing sexy about paying off debt.  Boring subject right?


Imagine rolling up to your broker and saying...hey!  I'd like to invest this pile of cash.  The broker looks and you and says, "Why don't you take that money and pay off your mortgage."


What?


I know...paying off debt is about as cool as going out on a date driving a Dodge Neon vs. Dodge Viper.


I get it...yes...that's what I'm saying.  I know, you cannot get rich by paying off your mortgage, but many people have mortgages.   It is typically the second largest expense next to taxes.


"Wait!  What about me?  I don't have a house!" Then, you need to start reading.


Starting by reading all of the recommended books listed on my blog.  You see, learning how to invest takes time...and unless you start today and have made it past reading the Intelligent Investor, then it would be difficult for me to explain where to go from here.  The blog has started to ease it's way into investing...but I think many people struggle with debt.  Until the struggle is over there isn't isn't any point in going there right now.  However, while you do the boring thing like paying off debt, you can start educating yourself.  Who knows...by the time you finish paying off your debt you might be ready to start investing.


Here is an example of why it is a good idea to pay off your mortgage debt rather than invest (when you have little financial education).


First of all, when you pay off your mortgage or credit cards...that money isn't lost.  As soon as you buy a stock...you lose money from a commission.  Then it goes down some more, and you lose more money.  Then you sell it cause you are in a state of panic, and you lose more money (yep...another commission).  Let's not do this.  If you don't think your mutual fund managers pay commission on the stocks they buy?  Think again...that is part of the reasons why they make you pay expenses.


You lose a ton of money on interest as well.  How much money?  Let's take a look.  If you go to my calculator page and click on the mortgage calculator you can follow along if you'd like.


Let's say you have a $100,000 loan @ 5% interest for 30 years.  We will (excluding taxes/insurance) making your payment is $536.82.


Total interest you would pay over 30 years is $93,255.78.  That is a truckload of money for some people.  You decide to pay $100 extra each month ($636.82) towards your mortgage.  What is your savings?  30,580 junior bacon cheeseburgers from Wendy's or a fleet of Dodge Neons (10 to be exact).


5 years goes by...your balance would be $85,028.12 (25 years to go).  You would have paid off $14,971.88 in 5 years.  Let's say you want to refinance because interest rates are lower.  4.5% for a 30 year, and 3.25% on a 15 year.  What should you do?


Let's look at the numbers...the clock starts over at 30 years again.  Monthly payment $430.82.  Total interest $70,068.78.  If you pay an extra $100 per month...$530.82 (less than your original payment), total interest $45,159.99.


For a 15 year mortgage...payment is $597.47 (less than you were paying with the extra $100 per month).  You knocked off 10 years off the life of the loan.  The total interest you will pay is $22,515.74.  Huge difference!


This means that a $6,000 investment ($1,200 x 5 years).  Helped saved you $47,553.04 and gave you an additional $39.35 in cash flow each month.  That is the power of putting money to pay off the house.  You now have more flexibility, and your mortgage payments will go towards principle rather than interest. 


Investing isn't sexy or exciting...well sometimes it can be exciting.  However, for the most part it isn't.  Trading, selling, gambling and marketing is what targets your emotions.  These are the cheerleaders of finance.  Many of your brokers are sales people.  This is why the illusion of excitement occurs.  No one gets excited about getting a stock dividend.  Mega Millions power ball with a chance to win millions of dollars...the news sells this stuff! Meanwhile millions of people are hurt financially.  I wish the madness would stop.


The real excitement when it comes to investing is realizing that you can retire when you want to retire.  Excitement is doing a job that you are passionate about or buying that dream house.  People invest so one day accomplish something.  Don't get caught up in the game...because if you don't know the rules, you will lose.

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