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Early House Payment or Invest the Sum?

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comparisonwhatif For most people, there is the urge to pay off the housing loan as fast as possible to get the debt off your neck.

I have used the Google Doc spreadsheet to come up with a “Housing or Investment Loan What if Analysis” which you can click to download it or copy it to your own Google document to pay around with it. I didn’t use the excel sheet because my copy didn’t support the function =CUMIPMT and need the original disc. I forgot where I had placed it, so it was time to tinker with Google Doc.

What you need to do is to enter the variables in blue in the grey boxes. They are those pointed by the red arrows. You enter the years of investment and the housing loan details. Then for those people who think they want to decrease the housing loan years, you enter the third set of variables to see how much you need to pay and you can see the projected savings on the bottom right black arrow.

I have put a one to one comparison of the savings or loss you will make if you had use the same amount of money to invest instead of paying more to pay off your housing loan.

Basically, the result is that if the investment returns is around 5% onwards, the “invest the extra income” scenario wins.

If the investment returns is below that amount and depending also on the principal sum that is being paid, paying off the housing loan scenario wins. You can play around with the variables to fit your situation to see what you should do.

Investment returns of 20% is definitely not very likely for 30 years :) Not unless your name is Warren Buffett. 5% to 7% should be doable if you keep your head and diversify and invest in the whole market.

Hope this can make you see the relative merits and pitfall of paying off the housing loan early in a low interest rate for housing loan versus a mid to high investment return.

There is also the benefit of having the investment funds readily available should you need it in an emergency instead of being sunk into your property which you cannot liquidate as easily to get the funds.

I have more than half of my housing loan amount outstanding invested in various investments. I would much rather keep them in the different investments than to plough them to pay off the housing loan.

What about you?

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2 comments:
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Musicwhiz said...
October 16, 2009 at 6:48 AM  

HI Lemizeraq,

For me, I use CPF fully to pay off the housing loan which carries an interest rate of 2.6% per annum. This is because CPF OA funds are more inflexible and have limited usage to buy shares or Unit Trusts as compared to cash. Thus, I avoid using cash to pay down my loan as I can invest for returns better than 2.6% per annum.

That said, I still feel debt is not a good thing to have, despite many books proclaiming "good debt" and "bad debt". Hence, I am working towards clearing my debt as soon as I can without touching my cash pile. There are reasons for this - it will enhance my quality of life significantly and is something intangible.

Cheers,
Musicwhiz

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Lemizeraq said...
October 27, 2009 at 12:32 AM  

Hi Musicwhiz,

Don't know why this comment slipped through, only saw it when I checked the blogger site. i usually publish using MS Live Writer.

I pay off using cash for 1/3 of the installment and the rest is through CPF OA. Through investment in UT I have managed to get $20,000 in CPF which I leave it alone and use the rest of the accumulated CPF OA money for investment, dollar cost averaging each month the surplus.

This 20k acts as my buffer in case of unemployment or unforeseen circumstances. So I can last a few years- touch wood.

I used to subscribe to the notion that to pay off the housing loan ASAP is the way to go. But I rather have the equivalent in investments, money market funds, CPF OA etc.

As my old colleague who advised me on this path said, it is better to have money in the pocket than a full paid up house with less money.

To each their own level of risk tolerance :) I share your perspective on value investment, but on paying off the housing loan, I travel a different path.

Cheers!

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