We have discussed if it is smart to pay off your home early before.

Unless paying off your home still leaves you with a sizable amount of cashable assets, the answer usually is not what you think. For people without substantial assets remaining after paying off the mortgage, owning your house free and clear does nothing but trap a lot of money where you can’t get it, inside your house. Financial professionals call the equity in your home that you are not going to sell “dead equity.”

Here is what to do with your assets before you pay off your mortgage, and also, a quick look at understanding the pros and cons of a reverse mortgage.

Reverse Mortgage Mythology

The first thing out of many people’s mouth when they come to see me with a ton of equity and no retirement savings is “reverse mortgage.” Sometime in the next decade you’ll see a major government campaign to clear up the misconceptions around reverse mortgages as more and more baby boomers find themselves unable to support themselves because they were counting on a reverse mortgage.

For a sobering reality check visit the AARP Reverse Mortgage Calculator (Stay off of other reverse mortgage web sites. This subject is an area full of scams and con-artists. Searching for “reverse mortgage” is a recipe for disaster.)

The guys in our example above can get between $150,000 and $200,000 in a reverse mortgage if the owners are 75. Want one at 65? As low as $65,000. Keep in mind that once you take a reverse mortgage, you are no longer the owner of the home for borrowing purposes, so you CANNOT get a home equity loan of any kind after you get a reverse mortgage. How long do you think $65,000 will last in retirement?

What To Do?

Obviously since this is an article on the psychology of money, I am well aware that you might want to pay off your mortgage anyway. If so, here is the smart way to go about it.

1. Cash Reserve – If you don’t have 6 months worth of expenses in a non-retirement account (not a 401(k) or IRA) then save money into a money market account first. Only after you have six months worth of savings should you consider paying off your mortgage.
2. Worse Loans – If you have ANY OTHER kind of loan you are better off paying it off first. Most important is to pay off all credit card debt. That’s right, all. Every cent. If you have any credit card debt you are an idiot for sending extra money to your mortgage. I can’t be any plainer than that. Be sure to maximize the credit cards you do have by taking advantage of credit card reward programs like the Capital One rewards and Citibank rewards. Also, pay off student loans and car loans first. Don’t bother paying off a car lease. With most leases you pay all the interest whether you pay it off early or not, so don’t bother.
3. Retirement – If you are not saving at least 10% of your salary into your 401(k), then do not send extra money to your mortgage. Instead, increase your contribution to your 401(k). You will need an account built up of many years worth of 10% savings in order to retire comfortably and PAY FOR YOUR HOUSE’s non-mortgage expenses. If you get a lump sum of money, then put it in a money market account, increase your 401(k) contribution and use withdrawals from the money market account to make up the shortfall in your paycheck. By the way, if you are over 50 and your 401(k) balance isn’t north of $300,000 then go 15% ASAP and don’t bother with the mortgage.
4. Major Expenses – Don’t be near sighted. Scan the horizon for major up-coming expenses. Want to know where to look? Try a glance at your kids first. How many years until college? Are you where you want to be for helping them out? If Annie is 16 years old and you have an extra $20,000 do you think the smart move is to pay $20,000 on your mortgage today and then get a $20,000 home equity loan in 2 years? (The answer is no.)
5. Does Another Option Sound Safe Too? – Many people who pay off their mortgage do so because it sounds “safe”. Ask yourself if anything else would make you feel just as safe. For example, if you had a $200,000 mortgage and $100,000 in U.S. Savings Bonds would that make you feel safe? (Savings Bonds are garbage by the way, it was just an example.)
6. Feel O.K. About Paying in Chunks? – Most people pay off their mortgage early by sending extra money in with their payments. I myself round up to the next $100 just because it makes me feel good and it doesn’t have any overall impact. But, if you are sending an extra $500 or $1,000 a month consider the “Big Extra Payment” strategy. Instead of sending an extra $1,000 to the mortgage company, put it in a money market account. Wait 15 or 20 months. Now, if you still want to pay early on your mortgage you can send in $15,000 or $20,000 all at once. The interest you pay in the meantime will be equalized by the amount you earned on the savings. This way, if something happens, say in month 13, you’ll have $13,000 that you can replace the roof with (or whatever) instead of scrambling to come up with the dough.

Discipline Anyone?

Tons of people proudly tell me how they claim less withholdings on their W-4 than they have to because then they get a big refund when they do their taxes. You’ve heard all about how this is a dumb strategy because it’s the same thing as giving the government and interest free loan. They do it anyway. Why?

For most people an extra $200 in their paycheck is something they just spend without ever noticing. But, $2,400 all at once is something that they would do something smart with. For these people, the “forced savings” plan of low-balling your W-4 withholdings is the only way they’ll ever save money. I suppose it is better than nothing.

A similar kind of person likes the idea of paying off their mortgage early for the same reason. The theory is that if they saved $500 a month, then eventually they would notice $5,000 in the bank and they would blow it on a vacation or a car. Instead, if they send $500 a month to the mortgage company then they won’t have that extra money so they won’t spend it.

You know yourself better than anyone else and if this describes you then by all means, do what works for you. I’m the first one to say that financial planning is about more than the math. It’s about what will actually work. So, send the extra money to your mortgage company, but do yourself a favor and see if you can’t work on building the financial savvy and discipline that would help you in the long run. Maybe send $400 to the mortgage company and save $100. Put the $100 someplace it’s harder to get to like at a bank a four-hour drive away. Don’t setup online access and cut up the ATM card the second you get it. Then, that $100 will build up and you won’t be able to spend it on a whim. With the extra time to think about it, you might just find that you have the discipline after all.

Good Luck

If you do manage to pay off your house, congratulations. It is a noble goal and I am not speaking against it. In fact, the best retirement planning I do is for people with their house paid off. But, it has to be that they have their house paid off AND they have significant savings. Planning for someone with no mortgage and $700,000 is a joy. Trying to squeeze a budget out of $250,000 even with no mortgage is an exercise in bargain shopping and cutting down to the bare necessities.

Just understand that there are many factors to be taken into consideration. Once you have looked at all the factors, then pay the darn thing off. I’ll be the first to shake your hand.

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Should I Pay Off My Mortgage Instead of Investing originally published at Finance Gourmet

This is part 2 of the series, the first part is: Not Time to Refinance Your Home

Future Interest Rates With Adjustable Rate Mortgages or ARM

Right about now, when you are starting to feel better, someone will throw in your face the fact that even if your rate is good, IT COULD GO UP AT ANYTIME.  That, is the second thing that is different. 

Mortgage companies and customers found that changing the interest rate every month was a hassle for everyone and only created more opportunity for errors and losses both for lenders and borrowers.  Almost every ARM adjusts on set periods.  The most common is a mortgage loan that adjusts once per year.

In other words, if our ARM started adjusting today, we would lock in a low rock-bottom 3.25% interest rate for a full year. 

What if interest rates do rise?

They will, you can count on that.  When, and how fast, is another question.  However, consider that everyone still considers the economic recovery that we seem to be having (or may not be having, no one is really sure) is very fragile.  The last thing the Fed wants to do is raise interest rates too far, too fast, and kill off the economy again.  You can expect them to be erring on the side of NOT raising rates for once.

When they do start raising rates it will be done slowly.  The first rate increase will almost certainly be 0.25%.  When that happens, mortgage rates will rise too.  If you like, you can go refinance that day.  It should be much easier to get a mortgage since that interest rate increase will come because the economy, and the banks, are doing better, so there will be less fear in lending.  Assuming the 30-year fixed rate jumps a full 0.75% on the news, compare that to what your current non-adjusted rate is.

On the 5-year note, we have, it is 5.125%, that is roughly what interest rates might be AFTER the Fed starts raising them.  So, there is really no downside even if rates do go up, and no one is expecting them to go up much soon.

Of course, you might not want to refinance even if the Fed does start raising rates.  Why?

Because most adjustable mortgages include clauses defining the maximum amount the interest rate can go up during any one adjustment period (in our case, one-year).  In our case, the rate can never change by more than 2% from the previous year.  That means that if we did get locked in at 3.25%, the highest our interest rate could possibly rise to next year would be 5.25%.  Again, compare that to what you could refinance to today with no fees and no closing costs.

In other words, we would be set from now until June 2011 without the possibility of our interest rate increasing any amount that would justify refinancing.  In fact, through June 2012, we are guaranteed to not pay anything higher than 7.25%.  That isn’t rock-bottom, but hardly sky-high either.

Refinancing will cost you a couple thousand dollars in fees most likely which means it could take years to break even once the rate you have locked in for 30 years is actually lower than would you could have by not refinancing.  Again, by way of example, if we could get something like a 5.0% 30-year fixed mortgage for just $2,000 worth of TOTAL costs including any administrative fees or charges, it would be June 2012 before we started saving any real money on our monthly payments.  It could be 2014 before we started coming out ahead.

So, while not refinancing guarantees us a low-cost mortgage through June 2011, and an average mortgage through June 2012, actually refinancing can’t even POTENTIALLY offer us any advantage until at least 2014!

Can you guarantee that your job, desired home location, family size, and lifestyle will stay the same through 2014?  Me, neither.  We won’t be refinancing.

(Just for full disclosure, the Note I’m referencing actually adjusts at the end of 2009 making this a slightly bigger gamble, but still a pretty safe bet.  No one expects rates to rise much between now an the end of 2009.)

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ARM Interest Rates Adjusting Soon May Be Good News For Homeowners originally published at Finance Gourmet

So when media outlets start reporting about “Black Wednesday” when mortgage interest rates shot up, and then follow up it up with “news” asking if homeowners who didn’t refinance already have missed the boat and wondering if there will ever be lower interest rates again, the average person starts to worry.

Many homeowners are doing the wrong thing right now, or are up nights worrying about something they don’t need to worry about just yet, because now might just be the perfect time to NOT refinance your mortgage.

With the economic recession and collapse of the banking industry, as well as the drying up of the credit markets, the Federal Reserve Board (FED) has cut it target short-term interest rates to near zero—officially 0% to 0.25%.  Doom and gloom headlines about socializing banks, Chrysler and then GM bankruptcies and of course, plenty of stories about how bad the lending business is may have put the silver lining about your adjustable rate mortgage in your blind spot.

If you have an adjustable rate mortgage that will start adjusting it’s interest rate in the near future, you may have been waiting with dread for that date to arrive. This likely applies to you if you picked up a 5-year ARM toward the end of the real estate bubble, or a 7-year ARM or 10-year ARM earlier on.

The conventional wisdom has always been to refinance out of your ARM before the interest rate begins adjusting.  The idea is that you don’t want your mortgage interest rate behaving like a credit card interest rate and changing your mortgage payment every month.  But, two things have changed so much that the conventional wisdom might actually steer you down the wrong path.

ARMs Adjusting Interest Rate Lowest Ever

While the Fed has struggled to keep long-term interest rates on new mortgages as low as it would like, it does not have that problem in one area.  Most existing ARMs are tied to interest rate index.  Usually, the adjustable rate mortgage interest rate is equal to that index plus a specified amount.  The index your interest rate is tied to and the interest rate spread added to that rate are spelled out in your mortgage documents, or more specifically, in your “Note.”

  For example, a 5-year adjustable rate mortgage we have on a property is set based on the weekly yield on the United States Treasury securities adjusted to a constant maturity of one year.  That sounds like a nightmare, and it probably is if you actually have to calculate it buy you don’t since the Federal Reserve Board publishes that number daily.

The United States Treasury Securities Adjusted to Constant Maturity of One Year index is 0.50%.  Actually, it fluctuates daily and for the end of May was 0.49%.  It’s been lower the first few days of June, not higher.

In other words, on this particular mortgage, if our interest rate were to adjust today, our new adjustable interest rate would be 3.25%.  I dare you to find a mortgage you can refinance into with that interest rates with no closing costs or loan fees of any kind, because when it comes to a mortgage you already have, you pay zero fees, with no fine print!

What if mortgage rates go up after you decide not to refinance

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Time To NOT Refinance Your Mortgage originally published at Finance Gourmet

However, the same publicity also made it easier for scammers and dishonest marketers to take advantage of people’s hopes by pretending to have something to do with the government programs when, in fact, they are either outright scams to steal your money or steal your identity, or they are mortgage brokers or mortgage companies that have nothing to do with the government mortgage aid programs trying to insinuate that they are part of those programs.  Unfortunately, many people are falling victim to these con artists and their tricks.

How To Protect Yourself From Scams, Thieves, and Con Artists Using Government Mortgage Aid Lies

First, understand the facts about how people take advantage of these government mortgage aid programs. There ARE NO EMAILS of any kind being sent to homeowners by any government agency or banking institution associated with the programs.  None, zero, zip, nadda.  Any email that you get of any kind, from anyone, no matter how official sounding or looking is a scam.  Delete it immediately.

Second, there are no checks being issued to homeowners.  Some mailings include checks that ask you to call a toll-free number for some official sounding reason.  When you do, they will ask you to deposit the check, but wire some money to another account for some reason.  This is a scam.  The check will bounce and your wire transfer money will disappear.  NO CHECKS ARE BEING SENT TO HOMEOWNERS by the government or banks.  Any and all help you might be eligible for will come in the form of a refinanced loan or a load modification.  Either way, there is no check involved.

Third, is junk mail designed to look like it has something to do with the government’s mortgage aid programs, but carefully worded to actually just mislead you into thinking this without actually saying it.  These come from banks and mortgage brokers and mortgage companies.  They are nothing more than junk mail hoping to get you to refinance with them, most likely at a higher interest rate and with higher closing costs than you could get elsewhere.  There is no proactive attempt of any kind going on to contact homeowners in this way.  Anything that is sent via 3rd class mail, or bulk mail of any kind is clearly not from the government or banks.  It is junk mail, throw it away (actually, shred it).  Even mail sent first class is most likely fake junk mail.

Use these guidelines to see if the offer you have received MIGHT be legitimate.  You will still have to follow up with your mortgage company, but if any of these apply, don’t even bother, what you have gotten is phony.

• Only Mortgages backed by Fannie Mae and Freddie Mac are eligible.  If yours isn’t, there is no aid program for you.
• The official title of the Government Refinancing program is “The Home Affordable Refinance” program.  Scammers will carefully avoid using those exact words to avoid fraud liability.The overall program name (both loan modification and refinance) is “Making Home Affordable”, again, scammer will avoid the exact wording.   If those exact words are not used, then you are holding onto a scam.
• There is no charge, no fee, and no up front payment of any kind.  Anything asking you to send money is a scam.
• There is no need for you to send your personal information to anyone.  The government and the banks already have your name, address, and social security number.  There is no need to “verify” this information for any reason.  Anyone calling on the phone, or any mailing asking you to reveal your social security number for any reason including verifying your identity is a scam.

The best way to avoid scams is to look-up your lender’s phone number independently (do not use the number provided which obviously rings where the scammers want it to ring) and call them to ask if you qualify.

Remember, there are no government mailings, government phone calls, or government emails of any kind.  Anyone saying differently is a con artist, fraud, and liar.  Hang up, shred, or delete immediately and save your money and your identity.

Here is the latest OCC Tips for Avoiding Mortgage Modification Scams and Foreclosure Rescue Scams

Copyright 2009 – Exclusively Published at FinanceGourmet.com – ArcticLlama, LLC

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Government Mortgage Help Programs Scams and Deceptive Marketing and Mailings originally published at Finance Gourmet

One of the best tools around for information on current interest rates is a website called Bankrate.  Bankrate.com publishes a survey of national mortgage interest rates every Tuesday morning.  Even more useful, is a weekly expert analysis of mortgage rates.  This analysis can include everything from whether or not they think rates will be going up or down in the near future, to commentary on what happened last week and what affect it had on mortgage rates for the current week.

This information can be a simple way to get a handle on financial news that you may have missed or not fully understood from the week before.  For example, whether or not a scary unemployment number you heard about the last week affects mortgage rates or not is the kind of thing that you’ll find explained in the analysis.

Using Bankrate

No tool covers every single thing you need to know, and Bankrate is no exception.  However, when used properly, Bankrate can be the best starting place for your mortgage research.

1. Check the Weekly Mortgage Rate – There is a big blue box prominently displayed on the Mortgage page.  That is the “National Overnight Averages”.  While useful, that survey is subject to more fluctuation.  Find the Mortgage Rate Trend Index.  It will be a regular link in the “news” area.  It comes out on Thursdays, so if you are on the site on Tuesday or Wednesday it might not be on the front page anymore.
2. Read the Analysis – Don’t just look at the numbers, read the analysis.  This will give you an idea of what to expect.  Remember, this is last week’s data, so the numbers you hear this week will be different.
3. Jot Down the Rates for Your Mortgage – There will be a lot of numbers.  You don’t need them all.  If you are looking for a 30-year fixed mortgage, the rate on the 15-year mortgage is irrelevant.

The Next Step

The next step is to start shopping around.  We’ll discuss that in an upcoming post.  Subscribe to the Finance Gourmet Feed to make sure you don’t miss anything.

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Finding the Lowest Mortgage Interest Rates originally published at Finance Gourmet

Required Information Before Researching Interest Rates and Refinancing

• Current Balance of Home’s First Mortgage – Not a ballpark, an exact number according to your last statement.
• Current Balance of Home’s Second Mortgage or HELOC – Again, the number from the last statement.
• Current Interest Rate – What are you paying on your mortgage right now?
• ARM or Adjustable Interest Rate Features – When does your rate go up? (The actual date, not just the year.)  How much can it go up in the first year?  The second year?  Each year after that?  Is there a floor (minimum)?  Is there a ceiling (maximum)?
• When Did Your Mortgage Start? – What day did you close on?
• Current Home Value? – Check Zillow and Trulia to get a ballpark.  Print those pages out so you have them for reference.  Keep in mind that these values are based on public information at your county’s records office, so they won’t include any improvements you have made to the house.  Don’t worry about it too much unless it was something major.  This is just for your calculations not for the application yet.
• Credit Score? – If you don’t know, call your banks first and see if one of them will tell you what it is.  Make sure they tell you the date it is from too.  Many banks and credit unions will get your credit score on a regular basis both to keep your records up to date and to be able to offer you services you might qualify for.  So, a teller or loan officer might just be able to pull it up for you as a courtesy.  If not, put looking into a better bank on your to-do list.

Ok, now you are ready to get started with some research.  Having this information up front will not only make your research easier but also more accurate.  It is a huge let down to do a bunch of research based on “remembering” that you mortgage balance is $315,000 when it is actually $350,000, only to find out you will have to start over with the real numbers, or worse, just go with the wrong research because you don’t want to start over.

One important thing to remember is the limit for Jumbo mortgages.  Right now, this number is $415,000 in many places, but that number is adjusted based on where you live and the cost of homes there.  For example, this number will be much higher in San Francisco. It is important to know this number for your area because the rules change if you are getting a jumbo mortgage versus a regular mortgage.

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1. Refinancing the Mortgage to Take Advantage of Lower Interest Rates
2. Fed Cuts Interest Rates to Zero – How Does This Affect Your Mortgage, Home Equity Line, and Credit Cards

How To – Refinancing a Home Mortgage Steps and Tips originally published at Finance Gourmet

To make sure you don’t miss out, I recommend grabbing the RSS feed.  If you aren’t familiar with RSS or “feeds”, they are basically a way to get the article pulled from here by a RSS reader which is just software that goes and gets articles from the websites you ask it to watch.  That way, you don’t have to remember to open your bookmarks to get back here.  It is kind of like the old idea of subscribing to emails that updated you on website content, but this way, all of your articles are kept separate and your inbox does get filled up with article postings from a bunch of web sites.

If you have never used RSS feeds before and you have a Google account, you can just use Google’s feed reader.  That way, you don’t have to install any software, and if you decide to junk the whole thing, you can just delete your feed reader subscriptions and you’re done.

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1. Finding the Lowest Mortgage Interest Rates
2. How To – Refinancing a Home Mortgage Steps and Tips

Refinancing the Mortgage to Take Advantage of Lower Interest Rates originally published at Finance Gourmet

• Interest Rates – Overall, short-term interest rates should fall in response to the Fed’s move.  Pay special attention to that important detail.  The monetary policy set by the Federal Reserve directly affects only short-term interest rates.  Long-term interest rates are set by the markets and the markets don’t always care what the Fed does, because the markets are not interested in what the interest rates are today, they care about what they will be in the future.
• Mortgages – Mortgages are long-term loans and as such, their rates follow long-term interest rates, in particular, the 10-year treasury. If you read the Interest Rates section above closely enough, you know why this is a big deal.  Just because the Fed cut rates, does not mean that mortgage rates are going down.  (See the next point).
• ARM or Adjustable Rate Mortgages – The entire purpose of adjustable rate mortgages or ARMs is to eliminate the long-term nature of a mortgage’s interest rate.  By adjusting the interest rate at regular intervals, the lender has no risk of locking in dollars at a rate lower than current rates.  The flip side of this equation can be the lowering of the mortgage rate as well, but many mortgages have language limiting the amount this can drop.
• Home Equity Line of Credit – Also known as HELOCs and not to be confused with home equity loans (which are usually fixed interest rate) these are the loans that are most likely to be affected by the Fed’s move.  Many of these loans have an adjustable interest rate set at PRIME + some percentage.  Borrowers with this type of loan may see some relief, however some of these loans have minimum rates as well.
• Credit Cards – This one is pretty much wishful thinking.  Most credit card interest rates are “fixed” because the credit card company can actually change the interest rate any time it wants to.  This is one of the most unfair practices in the credit card industry, but until the politicians in Washington make them change how they do business, don’t expect any changes.  If you happen to have a credit card with a PRIME + something rate, there may be a change, but virtually all credit card accounts have a minimum, or floor, interest rate, which has probably already been hit, so your rate isn’t going down.

What To Do Now That Interest Rates Have Been Cut

After reading the above, you should be aware that there are no quick and easy, or automatic solutions coming based on this rate cut.  Frankly, that isn’t really what it is supposed to do.  But, that doesn’t mean there is nothing you can do.

First, don’t count on the rate cut to change the interest rates on any of your current accounts.  Instead, check now, and keep checking to see if you can get a new account with a better rate.  If so, then applying for that new account may make sense.  Feel free to call your current lender and see if they will lower your rate, but don’t hold your breath.  Things have changed from a couple of years ago when saying “boo” to your lender got them to change the rate.

Second, if you do have an adjustable rate mortgage or HELOC, now is the time to pull out the documents you got at your closing and find out what your minimum rate is, and the day on which the rate is set, and the date on which the rate is changed (they most likely will not be the same.)  This way, you will know what to expect.  Most interest rates are reset based upon the Wall Street Journal published Prime interest rate on a certain day.  So, your mortgage may set the rate on the 1st Monday of the quarter, or the first Monday of the year, or whatever.  Since the cut came in December, it is possible that your rate will change if it is measured in January.  However, if you rate was measured before December 15, for an adjustment to occur on January 1, you just go screwed.  Make sure to keep looking around for better rates.

Third, if you have a fixed home equity loan (or a HELCO with a high floor interest rate), now is the time to check around on HELOCs.  Assuming you can get a much better rate and no (or very low) closing costs, it might make sense for you to roll over your home equity loan.  You can always go back to a fixed rate product when interest rates start rising again.  They didn’t come all the way down to zero all at once, and they won’t go all the way back up to 5% all at once either.  In the meantime, it might save you a good chunk of change.

Lastly, do not cancel credit cards (unless they have an annual fee, and then cancel them now) until you have replacements in hand.  With the current environment, banks and lenders are not necessarily making intelligent decisions and you may find it difficult to get new cards even with pristine credit and good ratios.  So, get new ones first, then cancel the old ones.

Most importantly, don’t get sucked up in the media hype.  The sky is not falling.  Things will come around again, they always do.  Do not listen to comparisons to the Great Depression.  The Great Depression not only had a stock market crash, but bread lines, and scores of bank failures.  The entire number of bank failures in 2008 still does not compare to the number of bank failures during the Great Depression, and unlike then, not a single account holder has lost a single cent.  This is not the same as then. That doesn’t mean there won’t be something new and bad that happens, but you can bank on the fact that it won’t be the same.

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Interest Rates, Mortgages, HELOCs, Credit Cards, and the Fed originally published at Finance Gourmet