My initial introduction to the world of personal finance was through a friend turning me on to a gentleman named Dave Ramsey. You’ve probably heard his name thrown around. You might have seen him on TV or maybe you even listen to his radio show. I personally take everything he says with a grain of salt. It’s kind of hard to trust multi-millionaires, who have already made their millions, trying to tell you how to save a few bucks at the grocery store.
His vision is for everyone to have financial “peace of mind”. I interpret that to mean having no debt, and money laying around in case of disaster. And I totally agree. He touts a 7-step plan that will get you out of debt and into the black that he refers to as “The Baby Steps”.
When we were still in debt, Mr. Ramsey’s Baby Steps were an incredible tool that ultimately helped us get into the right mindset to eliminate debt completely. It wasn’t the Baby Steps themselves that made us save, but they did help us form a plan to become a debt-free family. So, thanks Dave.
A few months after discovering his site, we were a debt-free family. We graduated from the Baby Steps program and that’s when I think we outgrew his philosophy.
People all over America and beyond flock to him to learn the power of being debt-free. His anti-debt message is so strong that he even encourages people to pay off their mortgages as fast as possible. In some cases, he’s encouraged people to pay off their entire 30-year mortgages within 5-10 years. Amazing right? Well, I for one, think it’s silly.
I consider my family to be debt-free, however, we carry a 30-year mortgage on our house. The interest rate is so low (3.25%) that after the mortgage interest tax deduction, we are essentially paying a rate LESS than inflation for our house. Why in the world would I want to pay off our mortgage early? Why would I ever even make a larger than normal mortgage payment?
Since we only spend about 50% of our income, we could take the other 50% and dump it on our house every month for about 5 years and pay it off completely. Then I wouldn’t have a mortgage payment any more. “Yay!”, right?
Well I’m not “Yay”-ing, because I just wasted 5 years of investing so I could pay into a liability. Yes, a house is a liability, because it doesn’t produce any income. It could, but only if you’re in the market to sell, and your home’s value has appreciated (or if the property is a rental). Remember that home values mean nothing unless you plan on selling**.
Over that same 5 year period, I could tuck away that other 50% of my income into savings and other investments instead. 5 years later I’ll have a bunch of money in the bank (like a baller), which would be great padding were we to have another recession in the near future.
The people who choose to put all that extra money into the house will just owe less on their principle balance. It won’t change their monthly payment, and in a financial pinch they’ll still have to keep making payments without that sweet cushion.
The good thing about paying my mortgage off as fast as possible would be the guaranteed return on investment. When you have a debt that is negatively impacted by interest like a mortgage, personal loan or credit card it’s like having a portfolio with a negative rate of return.
Every dollar applied against your “portfolio’s” principle balance early is guaranteed to grow at whatever the interest rate the debt is set at. If you make all of your payments when they’re due (instead of early) you’ll end up paying all of the interest as well. This is no bueno.
Basically, any pre-payments on my mortgage will grow at a rate slightly better than CDs. Abysmal. For you this may not be the case.
I don’t worry much about paying off my mortgage early since it has such a low interest rate and because the house should hold it’s value. That means, if someday I want to sell the house, I can sell it at a break-even price (enough to pay off the mortgage) and I would have only lost what I paid into interest.
People always seem to be worried about the possibility of losing money, but with interest rates for mortgages being so low right now the risk is almost negligible. Just remember that risk is never “negligible” for someone that can’t pay their bills on time.
As long as you aren’t buying more house than you can afford, and you aren’t paying PMI (mortgage insurance) then I think a house is a pretty solid investment. If you end up with an interest rate of 4% or less and you let someone convince you that paying off your mortgage early will grant you “peace of mind”, don’t buy what they’re selling. Your money is worth a lot more than 4% annually.
If you are paying PMI on your house, I would get on the Ramsey program and dump a shitload of your money onto your mortgage until you get to the point when you’re PMI-free, then continue paying your mortgage like I do: Minimum balance due. PMI is a good way of flushing money down the toilet. You’ll never see it again.
Obviously none of this applies to people who are being crushed by 6%+ interest rates. -6% is a pretty significant weight in your portfolio. If you’re able to, contact the bank and see if you’re eligible for a streamline refinance. After owning our house for one year we were able to do a streamline refi through Wells Fargo. No credit check. No appraisal. We had to re-pay closing costs, but it was worth it financially for us, especially because we are going to be renting the house out. The less we owe every month = The more profit we can generate.
Owning a home can be pretty sweet, but it takes a lot more work and caring than renting does. All a renter needs to worry about is paying the rent, and maybe mowing the lawn. A homeowner needs to worry about the mortgage, the lawn, maintenance, the roof, safety, random house-related-bills, etc. If you’re a renter and you knock a hole in the wall, you might just let the landlord eat your security deposit. If you’re a homeowner you gotta fix that shit on your own (or at least hire someone to). Either way, the responsibility is yours.
While Dave Ramsey isn’t a bad guy and I love anyone that tries to help people financially, I can’t and won’t trust anyone who is out of touch with common folk like you and I. His cookie cutter plan is a “you can’t fuck this up” kinda thing and that’s why it resonates with such a broad audience. It’s a message for the masses, not for people who have figured out personal finance. Let me know if you’re ready for the next steps, the Big Boy Steps.
**Home values also matter for tax purposes. Appraisals may be necessary for some refinancing programs.
**I’m sure this post will be debated like crazy and I’m open for the challenge!