Mortgage mathematics

I'm using karl's mortgage calculator to assess whether I'm better off taking a 30 or 20 year mortgage term.

House price: 700k

Deposit: 275k.

Loan: 425k

Assuming an interest rate of 3%, over 20 years there is a payment of 2357 per month and a total 566k paid.

Over 30 years, this would be a payment of 1791 per month and a total 645k paid.

In the 20 year case, I would then have 10 years to compound 2357 per month. This amount to 356k at 5% (roughly going by 7% return - 333% for cgt = 5% return)

In the 30 year case, the extra 566 per month invested by the same rate, not contributed to mortgage, amounts to 451k.



So, in the end, option a involves 566k paid but - 356k in profits = negative 210k

Option b involves 645k paid but - 451k in profits = negative 194k



I know these are very rough maths with problematic presuppositions, and without the knowledge of how pensions are really taxed, as I am doing this as if they were normal stock investments subject to CGT, but option B, the longer option seems to win out here, and I'm guessing it would look even better if that 566 were put into a pension.



Does anyone have thoughts on this?

It wins because you are using mortgage rate of 3% but compounding the repayment difference at 5%,

This is all based on huge assumptions about future interest rates, investment returns and tax treatment.

The best advice is generally to pick the longest term to give you flexibility and then overpay if it's convenient.

NoRegretsCoyote said:

This is all based on huge assumptions about future interest rates, investment returns and tax treatment.

The best advice is generally to pick the longest term to give you flexibility and then overpay if it's convenient.

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I agree. The only minor downside is that the mortgage protection life insurance cover will be higher the longer the term but that's generally insignificant in the greater scheme of things.

cloughy said:

It wins because you are using mortgage rate of 3% but compounding the repayment difference at 5%,

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Yes which is not incorrect based on those assumptions

NoRegretsCoyote said:

This is all based on huge assumptions about future interest rates, investment returns and tax treatment.

The best advice is generally to pick the longest term to give you flexibility and then overpay if it's convenient.

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True. Do you think it's fair to say that since mortgage rates are generally lower than S&P returns - tax that that makes longer terms better if investing aggressively?

ClubMan said:

I agree. The only minor downside is that the mortgage protection life insurance cover will be higher the longer the term but that's generally insignificant in the greater scheme of things.

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Did not know about this, thanks

settlement said:

Did not know about this, thanks

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If possible when taking out your life cover (mortgage protection) make sure it has a conversion option. This will allow the older you to take out a new policy without any loading for age or illness.

settlement said:

Do you think it's fair to say that since mortgage rates are generally lower than S&P returns - tax that that makes longer terms better if investing aggressively?

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Everyone in their 30s and 40s should be both paying down mortgage and accumulating pension wealth.

If you have spare cash you should take advantage of tax-relieved contributions and employer matching over paying down mortgage.

For overpay mortgage Vs EFT it's not so straightforward given how brutal the tax treatment is.

Silversurfer said:

If possible when taking out your life cover (mortgage protection) make sure it has a conversion option. This will allow the older you to take out a new policy without any loading for age or illness.

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Interesting. I presume this costs slightly more initially but pays off in long run. Do you have any idea how much extra mortgage life insurance is for a longer policy - seems like a few thousand maybe? Trivial in the grand scheme, as you say

NoRegretsCoyote said:

Everyone in their 30s and 40s should be both paying down mortgage and accumulating pension wealth.

If you have spare cash you should take advantage of tax-relieved contributions and employer matching over paying down mortgage.

For overpay mortgage Vs EFT it's not so straightforward given how brutal the tax treatment is.

Click to expand...

I agree. I spent my 20s working and loading up on ETFs. Now I need a house and a pension.

With spare cash I won't but ETFs as I hate the tax treatment, I only really buy BRK B and a handful of other stocks to try and mimic s&p.

I guess I shoud probably learn a bit more about private pensions. I heard about pan-european pension products recently so maybe I should read up on them as it sounded like things were about to get more promising for irish contributions

settlement said:

I guess I shoud probably learn a bit more about private pensions.

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Its an interesting question

And when you've read up about pensions, the tax relief on contributions and how there not taxed till drawdown might change a few things for you
Very simply put option B if investing in a pension your €566 contribution could actually end up been around €850 with the tax relief
so €850 pm for 30 years gives you a saved pot before any growth of €306K
But option A after you pay your mortgage you have €2357 to invest which would be around €3535 with the tax relief
and €3535pm for 10 years gives you a bigger pot before growth of €353.5K

So for me at this stage option A is the better option, you've paid less interest and have a bigger pot

But I've excluded growth from my figures and if you were to include growth another question is,
which will give you the better return, to invest €850pm for 30 years or €3535pm over 10 years??
I've a feeling the €850pm might give the better return as it has a longer time to grow
so now I'm thinking option B

So ran the numbers in a pension calculator using a 5% growth and yes option B is the winner
Option A the house costs €566k and the pension fund will be worth €539K leaving you €27K in the negative
Option B the house costs €645K and the pension fund will be worth €681K giving you €36K in the positive

Of the two option B looks the better one but that's if the pension performs at 5% annually, what if it only performed at 3%
Option A house costs €566K and pension fund is now worth €491K leaving you €75K in the negative
Option B house costs €645K and the pension fund is now worth €487 leaving you €158K in the negative
So now both options are in the negative but option A is the winner with the smaller negative balance

I reckon the best answer lies somewhere between the two options, start your pension as early as possible and pay down your mortgage as quickly as possible all "supposing" you have the means to do both