Unlocking the Numbers: How AI Legalese Decoder Can Simplify Comparing Investment Returns to Mortgage Rates
- April 8, 2024
- Posted by: legaleseblogger
- Category: Related News
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## Question About Mortgage Rates and Investment Returns
Hey everyone,
I have a question about mortgage rates and investment returns. Specifically, I have always heard about a rule of thumb where if your investment rate is higher than your mortgage rate, it is better to go for a mortgage and invest the cash instead of buying a house outright.
This concept has always seemed a bit simplistic to me. It feels like we are comparing apples to oranges – one is growing your money with compounded interest, while the other is just a flat interest rate on a decreasing principal.
Therefore, my intuition tells me that a 7% return from investments that compound should definitely beat a flat 7% mortgage rate. Mortgages should only start to look appealing when their rates dip below what you can earn from investments. However, when I put together a Desmos calculator, I found out that the tipping point where mortgages start to pay off is actually lower than I expected, at around 6.78%, with a 7% investment return.
## Using AI Legalese Decoder to Understand Mortgages and Investments
The AI Legalese Decoder can help in this situation by breaking down the complex language used in mortgage agreements and investment terms. By using this tool, you can better understand the terms and conditions of your mortgage and investment agreements, making it easier to compare the rates and make informed decisions.
## Exploring Two Scenarios
I played out two scenarios to understand this better:
1. Imagine having the house’s worth in cash and investing it in an investment that gives back 7% annually while using a mortgage to purchase the house.
2. Pay for the house in cash and invest the monthly mortgage payment instead.
I used formulas to calculate the future value of the investments in both scenarios and compared the results after 30 years. The question remains – which scenario leaves you with the highest investment portfolio?
I would appreciate it if someone could clarify this for me or point out any flaws in my reasoning. Why does the break-even point not align with my initial gut feeling on this issue?
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****** just grabbed a
In (1) you’re compounding interest annually and in (2) monthly.
Imagine the scenario with an interest-only mortgage where the principal is never repaid. In that case it’s easy to see 7% interest and 7% investment return are equivalent.
The repayment to principal is like a forced saving which ‘returns’ 7% because it prevent you having to pay interest on the amount you repaid.
IMO because the investment has risk you should expect a premium over the risk-free rate which is paying in cash. I would not take a risky 7% expected investment return before paying off debt at 7%.
Use this sheet to do the simple calculation https://docs.google.com/spreadsheets/d/1dXM_XboaNauv0ag_V3HxSyRXAy2Jjt86p75-0qxFv-M/edit Just so you can check your numbers. However the 7% number is about right However, taxes in your location can complicate things, especially if you have a tax shelter account etc… that true for me, as I can invest directly from my paycheck to a tax free account, deferred until retirement .For me, I love the liquidity from the investment, as if I really need the money, I can take it out of the investment, but not when I overpay the mortgage. P.s someone told me that they can “rent” their home, but you can do that if you have a mortgage or not.
Interesting that you call it the French method, I thought it was more general. In France I think the norm is monthly for loans and twice monthly but paid out yearly for savings.
There are two important factors that people like to ignore when making these comparisons:
First of all:
If you live in a country where you can deduct mortgage interest payments from your taxes, your after-tax interest rate is actually lower.
On the other hand, your investment returns are likely taxed, so your after-tax investment return is also lower.
And most importantly:
Your mortgage interest rate is **certain** (at least until your rate fixing expires). 7% investment return is a **risky** return. Taking this into account further increases your investment hurdle rate.