Do you have extra money just lying around?
Do you feel like you should be doing something with it but aren’t really sure what?
The interest rates are so low at the moment…you’re probably not really saving much interest on your loan… surely you could get a better return on the market yeah?
Maybe you should invest it in the share market… maybe you should pay down your mortgage…
To be honest I can’t actually tell you which ones better for you because your situation is of course unique. It’s probably not anything vastly different to most… but none the less you could have $100,000 in credit card debt at 20% p.a. or be just about to retire in which case the “best” advice would be very different. More to the point in Australia you’re not allowed to give financial advice without being a certified something something. The main reason I can’t tell you though is the first part, the advice could easily be wrong because everyone’s circumstances are different.
So instead of just ending the piece there I thought I’d dig into the argument around it and then take it one step further. I’m not going to tell you what to do, but hopefully my thoughts can help you decide for yourself.
The Basic Argument
So the main argument goes something like this:
Why pay off your Mortgage debt (at super low interest rates) when you can get a better return with that money elsewhere?
The opposition fights back with the following:
Paying off our mortgage makes us feel safer as no one can take our home.
As you can see, this isn’t a mathematical problem to solve as “feelings” are involved. Whenever feelings come into play no one can ever really get an answer 100% correct and solved as everyone’s views are different.
Now this is the usual, base argument you see people reporting on around the web. They might throw in some extra points like how investing isn’t very easy if you don’t know what you’re doing (very true!) and that it never has a guaranteed return on it like paying off your mortgage does (also true!). There’s also always tax advantages or disadvantages that come into play but that’s not what I’d like to elaborate on here.
When I go and look back over the years that we’ve paid off our loan technically speaking we would have “made” more money investing in the ASX200 as it’s had a better return over the years. Below you can see the roughly 7.5% return it’s made over the last 6.5 years. Even when you take the taxes we would have had to pay into account it’d still have been slightly better than the average interest rate we had on our mortgage.
However paying off our mortgage has given us something else that I consider to be very important in our overall life strategy. Something that most people completely ignore even though it’s quite straight forward and that’s flexibility.
First of all, let’s look at how most people structure and live their lives.
Normally people go to school and learn how to memorise facts as best they can so that they can get the best ENTER score they can. This way they can get into the best University course they can. Once in uni they’ll mess around and party lots all while building up their HELP debt until they burst out into the real world and hopefully get a real job working 9-5 in a cubical located in Sector 7-G. They’ll then go out and buy a car on credit, meet someone and marry them all whilst likely renting for a bit and then finally buying the biggest house the bank will let them buy.
That huge house will need lots of furniture to fill it, so a bit of credit card debt might pile up here and there. From here they’ll be in debt up to their ears from the mortgage, likely have some kids meaning they’ll either have huge day care fees or only one income. A bit after this one of them might be laid off which will cause even more financial pressure, arguments and maybe even a nervous breakdown. This makes the fighting worse (no sleep from having kids doesn’t help much either) and all this can quite often lead to divorce ruining you financially even more, especially if you’re the father.
In short: lots of debt (HELP, Mortgage, Credit Card, Car Loans…), thus lots of obligations and no flexibility or room to take knocks.
This way of living is very dangerous because you can be easily “wiped out” by strange or even quite normal events that happen but for some reason it’s “normal”!
Now if you imagine a world with a species X, there’s going to be lots of things over time that will try and wipe them out. Ice ages, comets, predators, earth quakes, volcano’s, more predators and just general bad luck happening all the time. In order to fight all this death and destruction nature has come up with a brilliant strategy:
A species with a great deal of genetic variability is more likely to survive in a changing environment than a species with limited variability. [source]
Nature doesn’t just have one single type of species X, it has MANY. It’s in this way that whilst some of the species may be wiped out due to predators or a certain environmental condition, the overall species endures and indeed becomes stronger.
Learning from this example you shouldn’t set your life up as above, instead the best way to ensure you survive is to build multiple, diverse paths and remain flexible. Then you run all the paths at the same time. This is how nature runs things with hundreds of different variations of each species. By mirroring this diversity with how you plan your life, it means that if one path gets taken out by a freak disaster there’s two or four other paths you are already on. You can never be “check mated” so to speak (at least so long as the whole world doesn’t blow up!).
How I plan our life goes something like this:
- Decide on the life we want and define it with goals or amounts (eg. be rich, retire at 40, have kids by 30, live in another country etc)
- Figure out what’s needed to achieve those goals
- Create multiple paths that all reach those goals in different ways
- Execute all the paths simultaneously
No one can predict the future, it’s always changing and crashing and booming all over the place. Therefore the best strategy is to plan for multiple outcomes and make sure you survive in ALL those outcomes.
When you plan your life along these lines flexibility becomes one of the most important factors. Think about a man that has 1 job in 1 very specific field. If that field/company is hit with a disaster then it’s game over man. We see this happen all the time, people lock themselves up with mortgage debt, credit card debt, car loans and more all while specialising their work into even more and more niche fields. The result is you have no capital to withstand financial hardship and no ability to change if needed.
We didn’t just pay off our mortgage because it saves us hundreds of thousands of dollars in interest or because it makes us “feel safer”. We are paying it off because it will mean we are completely debt free. We will have nothing confining us, nothing forcing us to bring in a certain level of money each week.
It allows us to be much more flexible if and when disasters strike. If one of us gets fired no worries, we can live off half the others wage indefinitely. If prices for food/water/petrol sky rocket no problem, there’s a lot of income to cushion the blow. If our entire job category suddenly gets outsourced to India we can both look for a job and not have to worry about money for over a year.
A common “path” is the one above, going to a 9-5 job and earning an income. It’s quite easy and has a high success rate if you do what you do well and have no debt. You should have more than just that one path though.
Some other examples of different paths that can be pursued whilst doing your 9-5 job include:
- Investing in shares/bonds/REIT progressively so it generates another income source
- Work on building up a company that generates a side income such as blogging, fixing cars, tutoring a language etc
- Try and invent something new such as an app, a physical invention through Kickstarter or a specific software algorithm
Another very critical way that you can make yourself more flexible is simply by requiring less resources be that money or power/water/stuff. Power prices have gone up heaps over the past few years here but to be honest we don’t really notice much as we barely use 5kWh a day. Our water use is half that of other “similar efficient households” and as for the rest of our expenses, well I’m sure you can understand they’re always kept as low as possible.
No debt, multiple independent income streams and very low resource requirements all contribute to how flexible you are. And the more flexible you are, the better your chances are at not only surviving, but attaining your goals.
Now imagine what you could do with more flexibility… work 2 days a week? Have one of you stay home with the kids all year round? Take 3 months off without pay every year just to travel? Build up your retirement fund extremely fast? Send your kids to a better school or uni? It’s your decision, just like it’s your choice whether you pay off your mortgage or invest that extra money.