What about if the house value drops 4% a year for the 4 - 5 years after you get the mortgage, similar to what started in 2006?
And I would also point out that you have to account for the extra money that you have because you either aren’t paying P&I for mortgage payment that you had been, you’ve gotten a lump sum to invest, or you are getting a monthly draw to offset expenses that you were having to pull out of your portfolio. That needs to go on the plus side of the equation.
The optics of calling the loan because of deferred maintenance would mean that the house would have to have gotten pretty bad before they would actually do so. In that case, the house wouldn’t be worth anywhere near what the FMV was, so your heirs wouldn’t have much benefit anyway.
Which is exactly why I’m considering a reverse mortgage.
Home prices never dropped 4 or 5 years in a row. The median home price dropped from $257k in Q1 of 2007 to $208k in Q1 of 2009 (a 19% drop). By Q1 of 2013 it was back over $257k.
So, if you have a $1M house, and take a $500k reverse mortgage. After let’s say 5 years, you’ve received maybe $150k, and your loan balance is now $650k. The $1M house after 3 years of 3.5% gains, followed by a 2-year 19% drop, is now worth $900k. So the choice is to pay off the loan at $650k or to buy the house at 95% of appraised value. The reverse mortgage didn’t protect you from any downside.
Here’s the data I found on house prices. You can see that despite the 19% drop, it recovered within 3 years, and then went on to continue rising as usual until 2020 when it went nuts as we all know.
Hi guys. I am the original poster. I read all of your creative suggestions and am still trying to understand them all. You guys are amazing. We are now looking at another scenario and I wanted to get your input. First we would buy a lot to build on (sell some stock), and get started with a home builder. So, that process would be started. Then, we are thinking we could move into an apartment (approx. $1800-2000/mo. rent). Next we would remodel our existing house and sell it. The remodeling would take 2-3 months. We are thinking it would sell for $450K (probably take 2 more months to list it and sell it.). The home builder takes approximately 11 months, so apartment rent would accrue. (But we are thinking it’s not too much in the scheme of things…) New house would be $850K total. So… we would have the 450K downpayment (minus the rent payments… about 20K…) The lot would already be paid for – approx, $170K. If a mortgage company requires 20% downpayment, I am thinking the price of the lot could count as our downpayment?? Not sure about this. So, new house at $850K, old house has sold for $450K, $400K left to finance. So, as you may remember, we live from our SS checks plus sales of stock every year. So, I think our SS “income” is still, not enough to qualify for a $400K mortgage. I think at this point, it would be great for me to find a really good mortgage broker and talk to them. Any suggestions? I think this is where we are at. Unless you all have other suggestions. As a side note… we would try to pay off the $400K mortgage in 2-3 years. (But I guess I don’t want to mention this to a mortage person, right?) … Thank you all so much. You are all smarter than me, but I am trying to hang in there. LOL
In that case, when you account for all the costs of originating the mortgage, the effective interest rate you will pay will be quite high. For a really simplistic analysis - let’s say you take a $400k mortgage at 6%, closing costs of $12k, interest over 3 years roughly $72,000. Add the $12k to the $72k, and you get $84k cost of the mortgage (very roughly), That makes the effective rate about 7%. The short-term nature of this mortgage might make a margin loan even more attractive.
I don’t think they care. They get paid at origination. Heck, they would prefer for everyone to get a new loan every 2-3 years so they can get more and more fees from originating mortgages. It’s like auto loans at car dealers, as long as you take the loan and have it for 1 month plus, they get their cut from the loan company.
And you definitely do want to mention the short-term aspect to the mortgage broker because they can tailor the loan to make it less expensive for you over that period. For example, let’s say a 5-year loan is 5.5% and a 15-year loan is 6%, you might choose the shorter term to save some money. Or they can fid you a loan with lower closing costs, but a higher interest rate, which makes more sense if you are paying it off early. Etc.
Thanks for the info. Today, I actually found a local mortgage broker who comes highly recommended in “thinking out of the box.” I haven’t spoken with him yet, but hope to talk tomorrow. Hopefully more Fools will post here too. I need all the help I can get. Thanks again.
I’m confused. You’re going to pay cash for a $170k lot, and you’ve indicated that the total new house would be $850k. That means that you should only have to pay $680k to the builder. So, after $400k netted from the sale of your old house (assuming it sells for $450k, and costs to sell and costs for apartment add up to $50k), you would only need to borrow $280k, not $400k.
If you are paying $850k to the builder, plus buying a $170k lot, that means that the new house is going to cost you $1.02MM, not $850k.
I would point out that to pay off a $400k mortgage in 3 years means that you will be paying an average of $11.1k in principal off per month. A 2 year repayment period would mean that the principal payment would average almost $16.7k/month.
If you’re going to do that, I’m not sure why you’re bothering with a mortgage.
Monthly payments on shorter term mortgages are significantly higher, so choosing a shorter term mortgage doesn’t really save cash flow.
So it’s not clear to me that cash flow isn’t a problem. Unless there is some lock-up provision that’s preventing them from selling enough stock to pay for the entire house right now, I’m not sure why they’re bothering with a mortgage.
If they wanted to soften the tax hit, they could have sold some last year, some this year, and then some next year. Added to the money from the sale of their old house, they would have enough to pay for the new house by the time it’s finished. That’s not significantly different than selling enough stock to buy the lot this year, selling their house this year, and getting the house and mortgage next year, and selling enough stock over the next 2 or 3 years to pay off the mortgage.
I would also note that if there is a lock-up provision, it’s not clear that they would be able to get a margin loan, since, with a lock-up provision, the stock may not be able to be liquidated for a margin call.
Maybe. But a standard $3M+ stock portfolio rarely has lock-up provisions unless it all happens to be in employer stock that gets released 6 months after separation/retirement. And if it’s all employer stock, I think it would be exceedingly risky to spend a third of it (pre-tax!) on a new home! #countingchickens
The more I think about it, the more a standard margin loan seems appropriate. There are now several advantages:
The margin loan can vary in size at will. That means you can draw $20-30k a week to pay for construction costs and only pay interest on what you’ve drawn. Not so with a mortgage.
Even though the margin loan rate may be a little higher than a mortgage rate, it will drop when interest rates drop. Not so with a mortgage (even an adjustable won’t adjust for a year or two).
Pre-paying a margin loan (basically just allowing money to flow into the account) doesn’t have the same risks of pre-paying a mortgage on a fixed amortization schedule.
The margin loan can also be immediately reduced by selling stock in the account. And it is an automatic and instant occurrence. Not so with a mortgage loan.
Essentially the margin loan has all the advantages of a HELOC (other than being secured by something other than the house), and none of the disadvantages of a mortgage.
Of course, another idea would be to use a combination of a mortgage and a margin loan. Can get a mortgage early on for perhaps $250-300k (land value plus infrastructure plus early construction, slab, etc). Then use a growing margin loan to fund the rest of the construction. Then when complete, decide what to do - either sell a bunch of stock to own the house free and clear, or keep the small mortgage and sell stock to clear the margin, or deposit other new money (from the sale of the old house) to clear the margin, or refinance into a new long-term mortgage that may be larger or smaller as you desire.
I get that. But if there’s no lock-up provision, that’s why I can’t understand, if they’re going to sell the stock to pay off the house anyway**, why they are bothering with a mortgage, unless it’s to help soften the tax hit of selling all of the stock at once. In that case, they missed their opportunity to sell 1/3 of what they think they’ll in 2023, another 1/3 in 2024, and then sell the final 1/3 in 2025, when the house is ready. No mortgage required, no interest expenses and spread out the tax hit over 3 years.
**I keep going back to the fact that their entire income is from SS and sales of stock, as mentioned multiple times in this and other threads by @footsox That means in order to pay off the mortgage, they’re going to have to sell off stock, since SS isn’t going to cover enough to pay off a mortgage.
If there is some type of lock-up provision, because, for instance, they acquired the stock through selling a business and it only vests a portion of the stock each year, then it’s likely not eligible for a margin loan, and they may need a mortgage until enough of the stock vests to pay off the house. But then they would be taking on a liability that they plan to pay off using a single stock, which is a risk in itself. Seems to me that it would be safer to wait to sell enough stock to have enough cash in hand to pay for the new house, rather than taking out a loan that has a payoff plan associated with the future sale of stock.
Thanks guys for all the mulling about. There are no restrictions on our stock portfolio, except the normal tax consequences of selling stocks that have profited. We just thought it would be better to borrow money for perhaps 6% interest, and leave our stocks growing. Last year, we had a few that made 30-40%. So, why take money out of the market and buy a house with it, when we could get some kind of loan or mortgage. I will have to check the interest they are currently charging on a margin loan. That might be the way to go. I like the idea of not paying P&I too, And after we sell the old house, then our margin loan would only be $200-$250K left. And yes, spreading out the sale of stock over a couple years would work with that. Thanks for all the great possibilities. I look forward to hearing more.
This isn’t easy to do. That’s because every brokerage has a listed margin loan rate (usually tiered rates). And they’re almost all relatively high. But margin loan rates are negotiable, and depending on the size of the account, the longevity of the account, any other relationships with the bank/brokerage, size of the margin loan, etc, those margin loan rates will be lower. I haven’t used margin much (and not at all in recent decades), but I know for a fact that the rates are very negotiable.
Here’s an example -
IKBR has among the lowest quoted margin loan rates, and I know that even they negotiate down from there. Now you won’t be getting margin loan rates between 1% and 2% as they were giving a couple of years ago to good accounts, but you potentially could get rates at or even a little lower than current mortgage rates.
Then why would you have a goal of paying off the mortgage in 2 or 3 years? If you’re going to pay off the mortgage (or any loan that you get to buy the house) that quickly, then why wouldn’t you just sell enough stock so that you have cash to pay for the house when you close on it? If you don’t want to take the tax hit all at once, figure out how to spread it out over a few years before buying the new house.
Original Poster has some crazy ideas. As a mortgage broker, I always wonder how people come up with such complicated scenarios. In the end, it’s simple: You need to finance a home purchase: margin or finance. I am biased but would not a margin loan. OP is going to have closing costs regardless of obtaining a loan or not. How much depends on the area: title company to process lien waivers, potential transfer taxes, and permit/inspection fees. A couple of additional points:
If you really are going to pay off in 2-3 years, lender doesn’t care. But ask for a higher rate to cover your closing costs. For example: if current rate is 6.75%, you can take 7.25% and get a huge credit to cover some or all of your costs.
If you are building, you will need a construction loan. When home is done, then you get what is commonly called an “end-loan”…this is your traditional conventional mortgage. You may want to just get a HELOC on current residence.
Why dump so much money into renovating current home if you are moving??? Just sell it. Unless home is in disrepair, majority of improvements won’t get you dollar for dollar return.
The cost of the lot is factored into the final valuation of the home but when building a home; many times it may not appraise to what your total cost with the lot came out to be. This is fairly common.
Expect to run 20% over budget. I’ve still never come across someone that got in at original budgeted cost to build.
Getting a mortgage is additional closing costs over and above other closing costs. ‘No closing cost’ mortgages generally up the interest rate, and/or add to the principal balance, so they aren’t truly ‘no closing costs’.
It’s still a cost. The size mortgage that was being discussed was $400k. The 0.5% rate difference on a 30 year mortgage that you suggested would potentially cost as much as $4.4k (if paid off in 2 years) or $6.8k (if paid off in 3 years) in additional interest. That’s a real cost. Whether it offsets closing costs associated with the mortgage vs. what, say, a margin loan would cost, would have to be analyzed based on the particular mortgage being offered.
400k Loan at 6.875% with zero points -
* closing costs here in IL would be about 2,500 + about 1,100 prepaid interest (assuming closing 15th).
* If person pays 125k at end of 12mo, 24mo, and final payment in month 36 for roughly 112k; he would have paid a total of $53,965.73 in interest + 3,600 in costs = $57,595
400k loan at 7.125% today would give person roughly $3,800 credit -
* that credit eats up the closing costs and prepaid interest.
* same payment structure of 125k at month 12 and month 24 plus final payment in 36th mo for 111k; total interest paid is $55,273.73.
* 55,273.73 - 3,800 credit = 51,449.73 total.
So in this scenario based on today’s pricing, borrower would come out ahead with taking the slightly higher rate with knowing that he would have loan paid off within 3 years…saves person just over $6,000. And if rates drop, he can do another no cost refi and save even a tad bit more.
Now this is based in IL and may or may not make sense in other high closing cost areas like New York, Florida, or Texas. But would make sense in pretty much 90% of states west of the Mississippi.
Hey tlucio, Thanks for the numbers. Is there any chance you can share the interest calculator you use for that. I would really like to run a lot of scenarios… and play with some numbers… Very helpful. Thank you.