House offer accepted - Mortgage or use Bonds in Taxable?

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craiggsean
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House offer accepted - Mortgage or use Bonds in Taxable?

Post by craiggsean »

I'm in Texas and our offer for a house was just accepted.
I can buy with cash by liquidating bond funds in a taxable account (barely any LTCG)
or get a mortgage of 500K for 2.875% at 30-yr fixed (lower for 20 or 15).
I'm 25 years away from retirement, married with young kids.
AA was ~90/10 But if I use the bond funds in taxable, bond portion would become much less.
Liquidity of cash is not an issue at this time. We know bond funds are losing to inflation.

Which is the wise choice?
A) Use Bond funds in taxable to pay with cash
B) Just get a 30-yr loan and keep the bond funds

I do understand risk profiles are different for A and B but I give a slighter weight to the expected returns with such low rates these days. Also am I right to assume there are no tax implications/savings with a loan these days?

Thank you for your help!
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craiggsean
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by craiggsean »

One more piece of information -
if I'm contemplating turning the old/current house into a rental (paid off) will that change the decision? This should be a separate question but since they are related, it'd be appropriate here I hope.
MikeG62
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by MikeG62 »

I’m going to make a few assumptions.

First, I’m betting the after tax income on the bonds is less than the after tax cost of the mortgage.

Second, it appears you have investments totaling in excess of $5.0 million ($500,000 in bonds is <10% of your investments).

Assuming both of those assumptions are correct, I think I’d liquidate the bonds instead of taking the mortgage.

FWIW, I paid off my mortgage early so I have a bias in that direction.
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craiggsean
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by craiggsean »

Thank you MikeG62.
I understand bonds are supposed to be for rebalancing when stocks are down but in March of 2020 I found myself not rebalancing at the time - just holding as is. I just tried to rebalance with new contributions over time. So I don't know how better to use those bond funds if I get a mortgage.
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craiggsean
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by craiggsean »

The bond fund is - Vanguard Intermediate-Term Tax-Exempt Fund Admiral Shares VWIUX
https://investor.vanguard.com/mutual-fu ... file/VWIUX
Little long-term gains (~10K) and negligible short-term losses.

With little hope for bond funds, and if I don't plan on using it to rebalance, would it make sense to sell these funds to use it as cash?
pizzy
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by pizzy »

It appears have at least $5,000,000 in investments and are buying a $500,000 house. I'm not sure either decision will have any noticeable impact on your success.
Vanguard/Fidelity | 76% US Stock | 16% Int'l Stock | 8% Cash
Mike Scott
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by Mike Scott »

It likely does not make much difference. If you do sell the bonds, you should probably use your "non-mortgage" payment to replace them.
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craiggsean
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by craiggsean »

Thank you Pizzy and Mike,
Then, another option which has slightly more risk -

C) to rebalance the bonds into TSM and get a mortgage?
This would change the AA to more stocks but more potential growth as well.

One of the questions I had was - why do folks get mortgages when they can simply pay with cash?
Although I'm nowhere close, I feel like I'm missing some benefit? of a mortgage?
csmath
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by csmath »

craiggsean wrote: Tue Oct 26, 2021 7:54 pm Thank you Pizzy and Mike,
Then, another option which has slightly more risk -

C) to rebalance the bonds into TSM and get a mortgage?
This would change the AA to more stocks but more potential growth as well.

One of the questions I had was - why do folks get mortgages when they can simply pay with cash?
Although I'm nowhere close, I feel like I'm missing some benefit? of a mortgage?
A) Use Bond funds in taxable to pay with cash
B) Just get a 30-yr loan and keep the bond funds
C) to rebalance the bonds into TSM and get a mortgage?

You seem to properly acknowledge that this is a risk story. You can afford any of them but as you transition through options A to C you increase your risk.

A and C leave you heavily at the mercy of equities.
B and C utilize leverage as you borrow for the mortgage.
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grabiner
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by grabiner »

craiggsean wrote: Tue Oct 26, 2021 7:54 pm One of the questions I had was - why do folks get mortgages when they can simply pay with cash?
Although I'm nowhere close, I feel like I'm missing some benefit? of a mortgage?
Liquidity, taxes, and leverage.

If you have $250K in liquid assets, and are buying a $250K house, you might not want to spend the entire $250K; a mortgage is a cheap way to get liquidity.

If you are in a high tax bracket and can deduct the mortgage interest, you might come out ahead by holding municipal bonds and a tax-deductible mortgage,or break even and still get the benefit of liquidity and the option of refinancing.

If you have liquid assets which are in stocks, the capital-gains tax for selling those stocks might cancel out the amount you would otherwise save by using your liquid assets to pay for the mortgage.

If your investments are 100% stock, you can hold more stock if you take out a mortgage than if you pay cash. Here, the mortgage may be a better way to get leverage than buying stock on margin would be, because the mortgage is not callable.
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whodidntante
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by whodidntante »

A mortgage is a short position on fixed income. Owning shares of a bond fund is a long position on fixed income. Speaking purely from an expected returns point of view, taking or retaining a mortgage while owning high-quality bonds would subject you to a negative spread. You'll have to decide if that's something you want to do for other reasons, such as those grabiner pointed out.

For me, keeping the bonds wouldn't have a useful benefit. I can borrow an enormous amount from my portfolio at a low cost if I need liquidity or to defer taxes. Try writing a paragraph like that for your situation, and revise it until you believe it.
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by Metsfan91 »

craiggsean wrote: Tue Oct 26, 2021 3:22 pm I'm in Texas and our offer for a house was just accepted.
I can buy with cash by liquidating bond funds in a taxable account (barely any LTCG)
or get a mortgage of 500K for 2.875% at 30-yr fixed (lower for 20 or 15).

Which is the wise choice?
A) Use Bond funds in taxable to pay with cash
B) Just get a 30-yr loan and keep the bond funds

Mortgage would be better. You can liquidate your bond fund anytime and payoff the mortgage. You retain flexibility by keeping your bonds...Your rental income probably will pay for most of your monthly mortgage.

Bond is not earning much right now. But, it is not a fixed rate. There is potential for it to earn more down the road. On the other hand, your mortgage rate is fixed for 30 years.
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gr7070
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by gr7070 »

At your net worth, especially (even?) at that young age, I couldn't care less about the difference in return.

You already have more money than you'll ever need, or at the very least it'll grow to that in not too long.

I'm simply paying cash for the house.

I'm going to keep it simple. I'm going to keep that specific aspect of my net worth stable. I'm going to roll with my preferred AA of my liquid assets.

Meh.
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craiggsean
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by craiggsean »

Thank you gr7070, Metsfan91, whodidntante, grabiner, csmath for your insights.
I'll check with the mortgage rates again today to make an informed decision.
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by MotoTrojan »

25 years away from retirement and you have $5M, is my math right?

Good for you! :sharebeer

With that ability to take risk I think I would take the mortgage, you can view it as an inflation hedge.
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craiggsean
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by craiggsean »

Thank you MotoTrojan. not quite there yet but had to make a proportional calculation to make the figures work out.
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craiggsean
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by craiggsean »

I'm getting confused regarding the potential effect of inflation.
If inflation rises - will bond fund decrease in NAV? - meaning it's better to use the bond fund to pay down the mortgage?
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by craiggsean »

Ok down to the final numbers after searching for best rates using :

30yr 2.49% 2.997% APR
20yr 2.125% 2.670% APR
15yr 1.99% 1.99% APR

This can be done by transferring significant assets (no cap gains taxes triggered) from same funds to same funds.

Now the bond fund (VWIUX) SEC yield is paltry 0.86% (yes, it can get worse)
https://investor.vanguard.com/mutual-fu ... file/VWIUX

With no tax deductions on mortgage interest, if I choose 15-yr rate of 1.99%,
the 500K capital has to yield over 1.13%( = 1.99% - 0.86%) YOY to come out ahead?

Am I thinking this correctly?
skierincolorado
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by skierincolorado »

craiggsean wrote: Tue Oct 26, 2021 7:54 pm Thank you Pizzy and Mike,
Then, another option which has slightly more risk -

C) to rebalance the bonds into TSM and get a mortgage?
This would change the AA to more stocks but more potential growth as well.

One of the questions I had was - why do folks get mortgages when they can simply pay with cash?
Although I'm nowhere close, I feel like I'm missing some benefit? of a mortgage?
Good question. There are two reasons. The first is obvious - liquidity.

The second is more complex. Having some fixed rate debt protects you during inflation. If inflation and interest rates go up, you will earn more on the bonds than you pay on the mortgage.

You are clearly quite wealthy. One of the few things that could significantly impact that wealth would be inflation. Owning stocks including foreign stocks is a good protection. Having fixed rate debt is another protection. On average you will lose, but in some scenarios it may come out ahead. Most households carry a lot of fixed rate debt and would be less affected by inflation than you. It might be advantageous to keep your risk profile more similar to the average household. You’ll have good company if things head south.

I’d take the loan, hopefully at a lower rate than 2.875 if this is a house you intend to stay in for a long time it might make sense to buy down the rate. 2.875 doesn’t sound terribly competitive but I know rates have gone up slightly.
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by skierincolorado »

craiggsean wrote: Wed Oct 27, 2021 1:20 pm I'm getting confused regarding the potential effect of inflation.
If inflation rises - will bond fund decrease in NAV? - meaning it's better to use the bond fund to pay down the mortgage?
You would lose on the bond fund in the short term but over a longer period come out far ahead. This only applies if you intend to own a long time. I suppose if inflation and interest rates went up I would be more inclined to keep a property as a rental with a low fixed morgage.
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craiggsean
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by craiggsean »

Thank you skierincolorado, for the feedback,

Of the 3 options below, which one makes more sense?

30yr 2.49% 2.997% APR
20yr 2.125% 2.670% APR
15yr 1.99% 1.99% APR
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by TurtleBeatsHare »

I’d liquidate bonds, move to equity, and take the mortgage. The expected ROR on on equity is greater than the mortgage, and the mortgage is an inflation hedge.
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by skierincolorado »

craiggsean wrote: Wed Oct 27, 2021 6:22 pm Thank you skierincolorado, for the feedback,

Of the 3 options below, which one makes more sense?

30yr 2.49% 2.997% APR
20yr 2.125% 2.670% APR
15yr 1.99% 1.99% APR
That doesn’t seem like a competitive 30 y apr. If you think you will live here a long time I would want a 30 y but with a better apr.

Of the options listed I would guess the 15 y because that seems like a competitive apr. would need to confirm though. It looks like a lot of points are being paid on the 20 and 30 and none on the 15. Are you sure you got the 15y apr correct?

The apr difference should not be .67 or 1.0 from 15 to 20 or 15 to 30.

If you could get 30y with 2.75 apr that would be best I think - if going to live there a long time. 2.75 fixed 30 y is a nice inflation hedge.
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by skierincolorado »

Yeah just confirmed the spread on 15 vs 30 should be more like .75 or less, not 1.0. Near capital offers 3.08% apr without any negotiation.. I bet other lenders could be 2.75 or less if you are paying points. Only pay points if you are staying and don’t pay too much in points... you might move or refi.

2.49 with 2.99 apr is a ton of points... are you sure that is correct?
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craiggsean
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by craiggsean »

You are right. I had typos in the numbers.
Here are the real numbers. I have to factor in .5% discount after moving the new assets to the lender as custodian.
This is one of the larger banks and processing fee discount - up to $1,150

So are these rates not good?
Since I don't have much time, I may not be able to shop around too long.

30yr A
Interest Rate: 2.990% (2.490% after discount)
Loan Term: 360
LTV: 73.067%
Points: -0.267%
APR: 2.997% (2.497% after discount)

30yr B
Interest Rate: 2.875% (2.375% after discount)
Loan Term: 360
LTV: 73.067%
Points: 0.239%
APR: 2.921% (2.421% after discount)

20yr
Interest Rate: 2.625% (2.125% after discount)
Loan Term: 240
LTV: 73.067%
Points: 0.054%
APR: 2.670% (2.170% after discount)

15yr
Interest Rate: 2.490% (1.99% after discount)
Loan Term: 180
LTV: 73.067%
Points: -0.450%
APR: 2.490% (1.99% after discount)
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craiggsean
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by craiggsean »

He said he could do better if I could get a competitor's formal quote but after looking online with basic numbers the best I got was 30yr 1.875% interest and if I wanted more details, I have to submit too much personal info.

He also quoted 10/6mo, 7/6mo, 5/6mo ARM but that kind of defeats the purpose of locking in low rates for a longer duration...I think

So with the new corrected % numbers, which one makes most sense?

30yr A: 2.497%
30yr B: 2.421% + $2.8K more in closing cost
20yr 2.170%
15yr 1.99%
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gr7070
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by gr7070 »

If you're doing this to maximize your edge on a mortgage why would you choose a 15 over 30?

If the 0.5% rate difference can lower your profit enough that the 15 year is the winner then you're cutting this investment decision way too close.

Either get a 30-year mortgage or 0.
15 doesn't make any sense for your presume intent???
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by skierincolorado »

craiggsean wrote: Wed Oct 27, 2021 7:43 pm He said he could do better if I could get a competitor's formal quote but after looking online with basic numbers the best I got was 30yr 1.875% interest and if I wanted more details, I have to submit too much personal info.

He also quoted 10/6mo, 7/6mo, 5/6mo ARM but that kind of defeats the purpose of locking in low rates for a longer duration...I think

So with the new corrected % numbers, which one makes most sense?

30yr A: 2.497%
30yr B: 2.421% + $2.8K more in closing cost
20yr 2.170%
15yr 1.99%
30 yr looks best to me assuming you plan to live here for a while at least. If this is just a 3-5 yr type place, just pay cash. If longer term I’d go with B.

Am I understanding you are getting a .5% discount on the rate by transferring assets to the bank? I would want to be confident the investment options are good and low cost. If so, this is a good rate.

What are the requirements of the discount? I have not seen such before.
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craiggsean
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by craiggsean »

gr7070, I think you are right. 0 or 30

skierincolorado, these are discounted (0.5%) after moving assets (i.e. Vanguard funds -> Vanguard funds).
It's just a custodian change. You can see many examples on this thread
viewtopic.php?f=2&t=280692&p=6298795#p6298795
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craiggsean
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by craiggsean »

Isn't paying points (30 yr B) not recommended in general?
So in this case, paying addition 2.8K is worth for an extra 0.076% rate?

30yr A: 2.497%
30yr B: 2.421% + $2.8K more in closing cost
skierincolorado
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by skierincolorado »

craiggsean wrote: Thu Oct 28, 2021 8:19 am Isn't paying points (30 yr B) not recommended in general?
So in this case, paying addition 2.8K is worth for an extra 0.076% rate?

30yr A: 2.497%
30yr B: 2.421% + $2.8K more in closing cost
The lower APR tells you that over the life of the loan the points are cheaper. *EDIT* to clarify: (It's not really 2.421 + 2.8k more in closing costs - the 2.421 includes the higher closing costs).

But what we really care about is the breakeven date. The difference in interest rate was 2.490 vs 2.375 = .115. On a 500k mortgage it would take 5 years to breakeven assuming all funds are held in cash. If the money that would have been used to buy the points were invested and earned 6%, the beakeven is 7 or 8 years. If we assume a more conservative low-risk return (which is probably more fair since the return of points is guaranteed), the breakeven is 5-6 years.

Next consider the odds you will move or refinance in the next ~6 years. If the odds are >50%, don't buy the points. If less than 50%, buy a little points (maybe half a point, like option B). It sounded like you planned to stay a while which is why I recommended the one with a little bit of points. Given 2.49% is a very good rate, the odds of refinance would be reasonably low as well. I would never buy a lot of points, because the odds of refinance or sell house are always substantially greater than 0%.

That's the math anyways, but it's pretty much a tossup so don't stress it either way unless you plan on leaving soon then definitely don't get the points and try to get them to give you more points to further reduce your closing costs.
Last edited by skierincolorado on Thu Oct 28, 2021 11:57 am, edited 5 times in total.
Topic Author
craiggsean
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Re: House offer accepted - Mortgage or use Bonds in Taxable?

Post by craiggsean »

skierincolorado thank you so much. That's the information I needed to hear. You sure know your math.
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