Why Choose To Live In The Poor House...Again?

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My husband went to visit his brother this weekend and he came back with a sad story that I just don't get:

Friends of theirs sold a home in the city and built their dream home just outside city limits for a whopping $600,000.

So what's the problem?

They're in their fifties...and they have a huge mortgage!!!

I have no idea how much equity they had in their previous home, but I do know they went into debt to build. Let's conservatively say their home was worth $300,000 (we know the neighbourhood, so it's a reasonable guess). Let's also assume their home was paid off, which I highly doubt*. That leaves $300,000 as a mortgage.

*I doubt their home was paid off because once you've had a taste of what it feels like to have no mortgage, you just don't go back and sign up for the same experience all over again. Being mortgage-free (read debt free) is just about the best feeling in the world, second only to being in love.

Here's what the math looks like, based on the best case scenario:

Of note: Assuming these fine folks benefit from the same low rate and don't pay the mortgage off early, they'll pay over $34,000 in interest over the 5-year term and over $103,000 in interest overall for their home, a 17% premium over the initial purchase price.

  • Cost of home: $600,000 
  • Down payment: $300,000
  • Interest rate: 2.5%, 5-year fixed rate over 25 years**
  • Payment: 1,350 per month
  • Property Taxes: $300 per month ($3,600 per year - low estimate)
  • Total monthly cost: $1,650

Like many Canadians, they've chosen to have a mortgage well into retirement. In fact, we seem to think that having a mortgage for life is somehow acceptable, with over half of Canadian home owners expecting to have a mortgage well into retirement.

Three reasons why a mortgage for life is NOT acceptable:

  1. You pay double for your housing when you count all the interest you pay over your lifetime (yes, even with low interest rates), thanks to these behaviours:
    • Extending the terms every time you refinance.
    • Moving up in house or to a costlier neighbourhood.
    • Using your home's equity to renovate, buy a car or anything else your little heart desires.
  2. You sign up for significant payments even though your income will eventually decrease in retirement:
    • If you have a mortgage for life, chances are you did not save a significant nest egg (because you have a "taste for credit" as lenders like to say).
    • Your pension income will be less than the income you made during your working years.
    • You may be downsized from work and have difficulty finding work that offers the same pay and benefits, especially as you near or reach retirement age.
  3. Your home will never be yours. It will always belong to the bank.

But a home is a great investment, right?

First of all, a home should be considered an asset you need and use every day. And, if you don't maintain it properly, it can depreciate just like any other physical asset you own.

Considering it an investment is not a good idea for a number of reasons:

...and bigger is not better. According to Elizabeth Dunn and Michael Norton, authors of Happy Money, spending on housing has little to no correlation with living a happy life, either now or when you're retired. Food for thought.

  • As long as you have a mortgage, the home's potential appreciation is often eaten up by your mortgage interest rate and inflation.
  • You can't sell your home and still live in it to free up the appreciation, unless you become renters of your own home. (Caution: reverse mortgages are very expensive.)
  • While your home is appreciating in value, it's likely your next one is doing the same.
  • Once you factor in taxes and maintenance (roofing, flooring, landscaping, windows, foundation work, etc.), any return you make on a home's appreciation is a wash.

Three reasons to live mortgage-free:

  1. Now that you've eliminated a significant fixed monthly payment, you have the opportunity to:
    • Save and invest more and retire more comfortably and/or earlier.
    • Spend more on what you love (travelling, learning, giving, playing).
    • Feel you have more money than month and that almost anything is within reach.
  2. The bank has lost another hostage and have one less person/entity to answer to.
  3. You feel different when you know that, no matter what happens to you financially, you and your family don't have to worry about the roof over your head.
  4. Bonus point: Did you know your home insurance premiums can go down by 20% or more once you're mortgage-free?

I hope I've convinced you that perpetual mortgage bondage isn't attractive or necessary. If so, or if not, I'd love to hear what you think of mortgage vs. no mortgage as you move into retirement. 

**According to ratehub.com, this is the rate that folks in their 50s select over 65% of the time.

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House image credit/copyright: Witthaya Phonsawat/freedigitalphotos.net