Yes, You Should Pay Off The Mortgage

Charlie Munger, one of my investing heroes, once said:

(The ironic part of that quote is I once racked my brain for hours to try and figure out an instance where Munger publicly changed his mind on something and I couldn’t figure it out. I don’t think he really changed his mind on much in 50 years.)

But I digress.

Even though Munger seemingly saw more value in the quote than the actual exercise, I firmly believe changing your mind on something is a superpower.

We see it way too often in finance, especially when picking individual stocks. An investor falls in love with a name and will research it to the point where they know the tiniest details about the company, all while dismissing important things that impact the company’s long-term health.

In other words, they get a sense of false precision by knowing all the minute details, when it’s the big picture stuff that really matters.

I’m proud to say I’ve changed my mind on several significant things during my investing career. Some of the more important things I’ve changed my mind about are:

• I went from being dividend agnostic to insisting on being paid my share of a company’s profits

• I used to be a hardcore value investor, now I realize growth (and a narrative) is every bit as important as value

• I borrowed to add an additional oomph to my investments when I was younger. Leverage isn’t a part of my investing plan today

• I went from researching companies deeply to medium dives, a few hours-long process designed to identify a stock’s major drivers without getting too into the weeds

• My overall philosophy changed from getting rich to staying rich mentality, a goal I hope to achieve by embracing a low-risk investing profile. Which, by the way, can still lead to excellent returns

There are more, but y’all get the picture. And, as my thoughts and goals change, so will my investing philosophy.

But today I want to talk about one of the more important things I’ve changed my mind on, an issue that I would have adamantly argued against a few years ago before more recently changing my mind.

The topic is on paying down your mortgage, and my take will piss some people off.

Let’s dig in.

Math versus peace of mind

For many people, the argument for or against paying down their mortgage goes a little something like this.

If your mortgage rate is less than your expected rate of return investing in stocks, then you should keep your mortgage as cheap leverage.

Thousands of people reading this are in that situation. They either locked into cheap 15 or 30-year loans (if they’re American), or locked into a cheap five-year term (if they’re Canadian).

It can almost feel like winning the lottery to have locked in to such an attractive rate, especially as rates kept climbing higher. Canadian readers who have a 2% mortgage are suddenly facing a renewal at 4-5% (or more, depending on timing), a situation that would result in a much higher mortgage payment.

Other Canadians aren’t so lucky. They gambled on rates staying low and signed up for a variable rate mortgage, which came back to bite them when rates went up in 2022 and 2023.

Your author was one of these people. I sold a house in 2020 and used the proceeds to invest in stocks, taking out only the minimum needed to make a down payment on my new place. I foolishly listened to The Bank of Canada’s Governor, Tiff Macklem, who told Canadian borrowers to expect lower rates for a long time.

Whoops.

I put the capital to work in unloved, beaten-up stocks (this was summer of 2020, stocks were great bargains), collected my dividends, and enjoyed my cheap leverage. The dividend yield alone on the investment was greater than my mortgage interest, and the payment on the loan was quite reasonable.

Then, 2023 happened. Suddenly my cheap sub-2% loan skyrocketed and I was stuck paying more than 6% interest.

Faced with a decision, I made the simple one. My investments had appreciated nicely, plus they paid me dividends the whole time. The experiment was a success. Although my mortgage payment was pretty much the same as when I started, my amortization period went from a standard 25 years to 80 years. I was going nowhere and realized I’d eventually have to start making much larger payments.

So I threw up my hands, sold some investments, and paid the damn mortgage off.

And let me tell you — it felt unbelievably great. Suddenly our living expenses fell by at least a third. There was no stress about a bi-weekly mortgage payment, either. The number one money stress in our lives melted away, and it was a massive weight off our shoulders.

Intermission

This week on the pod, Bob and I discuss social media and investing — touching on the good, the bad, and the downright ugly. Twitter (I’ll never call it X) can be a great place to discuss investments with like-minded folks, but it also comes with trolls, pumpers, and folks doing downright illegal things to try to gain attention in a crowded world.

You can listen on Spotify, YouTube, or anywhere else you get your pods. Links are below.

And now, back to your regularly scheduled programming.

Unique math to justify paying off the mortgage

As household CFO, I needed a financial justification to pay off the loan. I didn’t just want to do it because it felt good.

Here’s how I justified it. We owed approximately $240,000 at 6% interest, or about $1,200 per month in interest alone. Add on a few hundred bucks per month for principal repayment and I was looking at about $1,500 per month in carrying costs.

We’ll ignore property taxes, insurance, and condo fees because those are expenses whether I have a mortgage or whether I don’t.

At a 4% withdrawal rate, I’d have to put aside $450,000 in capital to fund that kind of cash flow. Or I could spend $240,000, pay off my mortgage, and free up $1,500 per month in expenses.

In other words, I reverse engineered the process and discovered I’d get way more bang for my buck if I paid off my mortgage versus keeping it.

Now here’s the thing. I’m fully aware I can do the math another way and it would give me a completely different conclusion. If I target a 10% total return on my dividend portfolio, and I pay 6% on what essentially amounts to margin debt, then I’m still ahead of the game — at least from that perspective.

Here’s why I didn’t look at it that way.

Firstly, retirement is all about cash flow. Sure, I want my net worth to go up every year, but the primary motivator is making sure I have enough dollars coming in every month.

Secondly, I’m under no illusions my 10% return target is going to be consistent from year-to-year. The stock market delivers lumpy returns; that’s the nature of the beast. Paying off my mortgage offered a guaranteed 6%+ return, compared to a lumpy 10% return. Suddenly, the mortgage payoff was a pretty viable option. Guaranteed money will always have a special place in my heart.

Third, paying off your mortgage isn’t just about the math. It felt great knowing I’d no longer have to worry about a bi-weekly payment being sucked out of my account. If everything goes to hell and my stock picking skillz are revealed to be worthless, at least I have a paid-off house. No whimsical market can take that away from me.

And fourth, if you’re going to borrow to invest, then make sure you’re doing it in a way where you can at least write the interest off. That’s a massive benefit you don’t get if you’re just using your mortgage as a source of cheap leverage. Wealthsimple has made getting margin debt ridiculously simple, and if you’re looking to borrow as cheaply as possible then open an Interactive Brokers account.

Equity investors tend to overvalue their exposure to the stock market. I know guys with credit card debt who are regularly investing in stocks. There’s no hope they can beat the guaranteed return of paying off the credit card, but they overvalue their abilities and do it anyway. I could’ve potentially beaten the return of paying off my mortgage, but I’d rather take the easy one-foot bar I can step over than a four-foot bar I’d have to jump over.

And, in hindsight, the market actually delivered a better return than the mortgage repayment did. Oh well. What are you going to do?

Having a paid-off house opens up all sorts of options. I can choose to redistribute that cash flow towards a second property, a portfolio of REITs, or a million other things. I can choose to live there or rent the place out. I can even choose to borrow against it again — although I highly doubt that’ll happen.

Ultimately, it came down to this. Paying off the mortgage was probably 50% motivated by math and 50% motivated by psychology. It was nice to free up cash flow by paying the loan off, but it was about equally as nice knowing those four walls were all mine, dammit.

Besides — I’ve never met anyone who regretted becoming mortgage free. All those tweets saying you’re a SUCKER to pay off your mortgage are written by people who have one. All of them.

The bottom line

Imagine it’s 2007, or 2019, and you’re presented with a choice. You have a big lump sum of money, and you can either put that cash into stocks or use it to pay off your mortgage.

You listen to the math guys and invest it, buoyed by the promise of returns that exceed your mortgage rate.

Then, the worst happens. The market falls by 30%. Suddenly a big chunk of your savings have evaporated, but your mortgage debt is still there. How does that decision feel at that point?

One powerful lesson I’ve realized about personal finance is it’s really about minimizing mistakes. All you need in life is a robust savings rate, a decent return, and to avoid screwing up badly. It’s like tennis, or golf — personal finance is about avoiding mistakes.

Defense wins championships, and it also can help make you wealthy.

So screw making the optimum decision. Sometimes it pays to take the easy win, which is paying off the mortgage. And even if you “lose”, and investments gain more than mortgage interest, it still feels great knowing your house is actually yours.

(A reminder that the comment section is open and ready for your thoughts. Have at it!)