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Debt Free!

(except the over half a million dollar mortgage!)

Ryan, Dave Ramsey would NOT be happy … he would want you to pay that l’il ol’ mortgage off. But, what do you want to do? What do our readers think you SHOULD do?

I would also like to know more about the mortgage (interest rate; fixed/variable; etc.) …

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A short time ago I was deep in debt, and constantly stressed and worried about it. I wasn’t (and my wife definitely wasn’t either!) going to live like that anymore. So I took action to aggressively pay down all my debt and find a job that paid significantly more than I was making at the time.

Since that time (about five years ago) I have paid off all of my debt (including student loans, credit cards, and cars totaling around $60,000) except our house.

Granted the mortgage on our house is $665,000 and our home is worth around $600,000, so technically that puts us about $65,000 in the hole. We don’t, however, plan on selling anytime soon, so that loss is not yet (and hopefully won’t ever be) realized.

Good Debt?

Photo credit: revdancatt

Sounds like Mark has embraced the concept of ‘good debt’ pretty quickly; I wonder where he intends to live when he converts his current home to a rental? I am also wondering why he is planning to ‘flip’ it in 2 -3 years for another?

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I must admit, I came from a culture where debt is frowned upon. This apply to mortgages as well.  I’ve never hear of the concept of a good debt until recently. What kind of debt do I have?

For starters, I don’t carry a credit card balance so I don’t have any credit card debt. The only time I did carry a balance is when it was 0% many years ago right after college. I was a poor student!

I had brief moments where I have an auto loan. The first one only lasted 9 months and the latest auto loan is paid off using a HELOC I obtained from my home which is a much lower rate and it is tax deductible.

Here is my current debt situation:

1) Primary mortgage on my current residence. The balance is about $92K @ 4.75%. It is an ARM that will reset next year but I’m only planning to keep this property for 2-3 years. The cost of refinancing is not too attractive for that time frame. Alternatively, since this is an ING Orange Mortgage product, I can just pay $750 to get the current rate for another 5 years. Currently it is at 4.5%. The ARM is tied to the 1 Year Constant Maturity Treasury Rate + a margin of 2.5%. It is currently at 0.62%. If it resets today, it will be lower than 4.75%. That’s why I’m not too keen on refinancing.

2) HELOC on my current residence. I took out a $25K credit line from my local credit union. I used about $10K to pay off the auto loan and about $7K for investments. The rate that they are charging is Prime Rate -1% which is currently at 2.25%. This is definitely a steal and I’m repaying this slowly.

3) Future primary mortgage. I’ll be taking up more “good debt” end of this month. I just identified a property from a builder and completed the purchase agreement and obtained financing for it. The mortgage amount will be at $183K @ 4.999% fixed for 30 years.  There is actually an interesting story behind this deal which deserves its own post. I will get to it, I promise.

I planned to convert my current residence into a rental very soon. There is some up front cost like minor repairs and replacing the 15 year old heating / cooling system. I will just rent it out for 2-3 years and will plan to sell it during that time frame to avoid some tax liability. That will  eliminate debt (1) and (2) but I will be purchasing another property at that time, hopefully.

I owe, I owe, So It’s Off to Work I Go….

Another great post title

It appears that all things Jeff-related are on a sky-high trajectory; but, when it comes to debt and liabilities is that a good thing: when is ‘good debt’ too much debt? I’m keen to hear your thoughts – as, I’m sure, is Jeff …

Jeff’s post also shows how far our expectations have changed when we consider 8% ‘expensive’ debt – and, compared to today’s rates, it is!

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…well, that’s not the only reason.

I’ve never been a big debtor.  At least not in terms of credit card debt nor in terms of total numbers of creditors that I owe money to.

Presently I have three liabilities which I’ve discussed at length here on 7m7y.

Home: $500,861 at 5.5% with 29 yrs and 11 months to go. 

Rental Property: $235,380 at 5.375% with 25 yrs left to go.

Short term bridge loan (secured by one of my vehicles): $17,650 @ 8% with four years and 11 months left to go.

Total debts: $754,802  Ok, so maybe that is a lot of debt.  I just don’t consider it bad debt.

My plans are to continue to pay only the minimums on the home and rental mortgages.  I do not intend to pay either down early, although I’ve been very intrigued by some of the equity accelerator programs I’ve seen advertised recently.  But I digress and that flies in the face of Adrian’s advice.

As for the short term bridge loan, I do intend to tackle that one in short order.  That loan was necessary to force my recent home purchase through.  The property was a foreclosure and required more cash than I had on hand in a rapid manner.  This loan will be paid in full no later than May 2009 at which point I’ll be back to only having debt that is associated with real estate.

House or Home?

It’s probably not appropriate for us to make any ‘confessional’ jokes … but, we appreciate the candor, Lee. You’ll need to also look at Lee’s NWiQ profile to calculate the 20% Equity Rule for yourselves, and take a chance that Lee’s $71k a year income is before or after tax (?) in order to check Lee’s calc’s on the 25% Income Rule.

Any sage words for Lee?

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2009 marks our 40th year of being married. In 1969 many ministers had the mixed blessing of living in a church owned parsonage.  This was great for all concerned.  The church didn’t have to pay a livable income because they there was no house payments, insurance or utilities. Pretty sweet deal.  But on the other hand in terms of future investments and a place to retire in this was not such a great idea.  But again for young couples just starting out and for church that couldn’t pay large incomes this was just the way things seemed to work out.  But Now it’s 2009 and church owned parsonages are not so popular, things have changed pretty much across the board.

Nearly 15 of my 40 years of ministry and marriage was tied up in the parsonage era and has put me behind the eight ball so to speak.  Then add to that poor money management, bad decisions, and an inability to sell a previously owned home in a low income community which made us have two mortgages for several years and eventually the heart ache of bankruptcy  Oh and let’s not forget the good old GI Loan that wasn’t all it is made out to be.  All this said my housing situation is not where it should be for a man 61 years of age with a 40 year work history…Oh I didn’t mention numerous refinancings did I?

Housing lenders and bankers must really like me, I can tell that by the way the laugh when I go to do business with them.

Anyway the present value on my home is $120,000 and the current Mortgage is $82,000 and we make $732 a month payments which figures out to be a little less than 11% of our annual income.  So I would guess that on the 20% rule I’m ok on but with only making approx $71,000 a year the  25%Income Rule is out of  line.

WHAT ARE MY PLANS? #1 plan is to better understand early retirement (another not so smart decision) being self employed for the past 15 years and putting literally nothing aside shot a huge hole in my retirement holdings.    #2 Learn to live with my present housing situation since it also serves as housing for my daughter and her two children who can’t at this time afford to pay anything on the mortgage. #3 make plans to get out from under the mortgage altogether as soon as possible.

By the way, confessing to past mistakes takes a lot out of a guy but this does give me a better picture of myself.

Housing Situation

Photo credit: patchworkpottery

It’s only three posts in, and we have already covered a lot of ground on the subject of houses and housing … you should also be able to see that this blog is unusual; it’s like an iceberg: only 10% can be seen ‘above the ground’ (i.e. in the post, itself) … 90% of the value is ‘hidden’ in the comments below the water line. So, do yourself a favor, go back and read the posts over the last few days and scroll down to the comments …

When you’re done reading, add one of your own!

Now, our intrepid hounds have tracked Mark down to one of his secret global locations (Mark: will you let us in on the secret … and, send the requisite photos??!), to find that he is the poster-child for the 20% Equity and 25% Income rules … both now, and planned.

What do you think? Does Mark get an elephant stamp?

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The real estate market has been on the news a lot; be it housing starts, mortgage rates, foreclosure rates, refinancing activity and so forth. While at the macro level it seems like it is affecting everyone, we should zoom in on our own situation to assess where we are at in the current situation. Using some numbers from networthiq.

Basic numbers:

Current home value (according to zillow): $140,000 (Range: $133,000 – $152,000)

Current mortgage: $109,600 ($92,600 first mortgage and $17,000 HELOC).

Current mortgage payment: $515.39 (first mortgage) + $216 (HELOC) + $100 (Taxes) + $146 (HOA dues) = $977.39 (I’m including taxes and HOA dues).

% of after tax income per month: 15.6% (($977.39 / $6241) x 100)  using 70% of gross income.

20% Rule

Now let’s look at the details for the 20% rule:

The current equity for the home is $140,000 – $92,600 – $17,000 = $30,400

This approximately (($30,400 / $181,900) x 100) = 16.7%

20% Rule – check.

25% Income Rule

Based on the 25% Income Rule:

I’m currently spending about 15.6% of my net income on mortgage, taxes, and HOA dues.

25% Income Rule – check.

But wait, the 20% Rule and 25% Income Rule is a general rule of thumb. What if the number is significantly below the threshold? Are we not investing enough in our primary residence? Are we missing out on tax breaks on the mortgage interest?

Some of these questions got me thinking and I’m currently in the market to upgrade my current residence and convert my existing home to a rental. It is definitely a great time to buy, if you can afford it. Mortgage rates are at multi-year low and housing prices are declining. It is a buyer’s market.

As for my current residence, I don’t foresee it being a good rental because it does not cash flow with the high HOA dues and the HELOC payments. I dont’ think I will get rid of the HELOC since it is at 2.25%.  The main reason for me to keep it as a rental is to ride out of the current market and sell it later when the housing market picks up again.

Let’s run some numbers for the upgrade:

Home value according to zillow: $210,000 ($190,000 – $220,000). I believe I can get a $210,000 market value home at $200,000 given the current market. Not a lot of discount but I’m not looking at foreclosures or HUD homes since I want to live in it for about 3-5 years and upgrade again.

Current home value: $210,000 (purchase value at $200,000)

Current mortgage: $180,000 (after $20,000 down payment)

Current mortgage: $1,216.82 (PITI)

% of after tax income per month: 19.5% (($1,216.82 / $6241) x 100)

Great! This is still within the 25% Income Rule. How about the 20% Rule?

The current equity for the home is $210,000 – $180,000 = $30,000

This approximately (($30,000 / $186,900) x 100) = 16.1% (Assuming equity gain at $10,000 – $5,000 closing cost). The rental is now an income producing asset (if we consider taxes and depreciation).

Nice. Let’s hope I find a good one.

Mark is traveling again – where?

Straight To The Point…

No pictures of jets, Jeff? Straight down to business? So, THAT’S how it’s gonna be is it … ?

In the post, Jeff is flaunting his violations of both Rules, what are we gonna do about it??!

Seriously, Jeff has a plan and a strategy and I would be interested in hearing comments from any of our readers, including the 7MITs, of course … but, also the ‘silent majority’.

C’mon, we all have homes, so we all have something to learn/offer here …

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As most you already know I’m closing in rapidly on “closing” on a new home.  Rather than answer Adrian’s questions by using my current home in Virginia as the frame of reference (it’s soon to be a rental business), I’m going to do a little guestimating and use my future home in Boston as the basis for my answers.

1. What is your home’s current value?

The appraiser hasn’t visited the home yet, so I’m going to use the low estimate from Zillow.com as my answer: $698,860

2. What is your current mortgage?

$502,650

3. What is your current monthly mortgage payment – both as $ and as a % of your ‘usual’ after-tax income?

$3600 / 37%

4. How does your current setup fit within the 20% Rule and the 25% Income Rule?

Vs. the 25% Income Rule: At 37% I’m clearly in violation of this recommendation.

Vs. the 20% Rule: With the new home in the mix, my Networth is now approximately $509,210.  The equity I have in the home is roughly 698K-502K = $196K.

196K/509K = 38% so I am violating the 20% equity/net worth rule as well.

5. What – if anything – do you plan to do about it, if you currently break either/both of these rules?

The main reason I’m in violation of the rules is that I’m making a speculative play for appreciation on this property based upon two factors.  The first being my belief that we are at or near a low point in the real estate market and the second being that I was able to purchase the property at an additional discount because it’s a foreclosure.

At this point I don’t plan to do anything to adjust my situation with regards to the 20% rule.  I’m stretching myself to get into this house and I’m not ready (nor able) to stretch some more by doing a cash-out refi to get under the 20% rule (a cash-out refi will raise the monthly mortgage payment).

I’m trying hard to fix things in relation to the 25% Income Rule.  That’s what my Making Money 201 strategies are all about.  Click baby click!

6. What are your plans for your first home (if you currently rent) or your next upgrade (if you currently own)?

Do I have to think about buying another home already?  I’m so burned out on Mortgage lenders and Realtors, I can’t stand it.

If I must…the next home that I plan to occupy will likely not be much of an upgrade relative to the one I’m purchasing.  Size-wise, this new home in Boston is more than four people need, so if I buy a follow-on home to occupy, it will be because my family moves again.

A move away from Boston will likely result in a sale of this new property.  I believe the mortgage payment is/will remain in excess of local rents for a few years.  I’m not interested in running a negative cash flow rental property unless there is a really good reason that I should maintain ownership of the property.  If that be the case, then I am mentally prepared to operate the property at a loss and consider the negative cash flow as an investment.

I’m projecting the sale of the Boston property could yield 150-400K in profits depending upon what the real estate market decides to do over the next three years.  My fingers are crossed, but I’m in positive territory either way.  I’ve often heard that in real estate, you make your profit when you buy.

With a sale, I would take the resultant profits and put some of it into a new home and some of it into down payments for several rental properties.  I’m planning to split the profits 50/50 between a new home and several investment properties.

7. What questions/issues/opportunities, if any, that you would like to explore further do the above questions bring up?

I find the 20% Rule and the 25% Income Rule interesting book ends to one’s approach to affording a home and how much equity to have in it as you manage money.  On one hand you shouldn’t have too much of your net worth tied up in the equity of your home (20% Rule) and on the other you shouldn’t be using too much of your after tax income to pay your mortgage (25% Income Rule).

I’m going to caveat my next comment with the fact that I’m speaking off the top of my head and have not run the numbers in detail.

To me these these two rules work against each other.  Strictly abiding by the 25% Income Rule limits your ability to adjust your situation relative to the 20% Rule, and religiously following the 20% Rule in some situations could force you to grossly violate the 25% Income Rule.

If faced with this dilemma, should you knowing violate one rule to satisfy the other?   If so, which one should you sacrifice first?  I think violating the 25% Income Rule could be the greater danger.  Where is the balance point?

Of course, this is coming from a guy who is knowingly violating both rules.