Should I use my $80,000 to directly pay off my mother's mortgage, or invest the money and wait for it grow before paying off the mortgage?
I need to help pay off the $117,000 left on my mother's mortgage, which reaches maturity in 2032. I have $80,000 in cash that I'm comfortable with putting toward the mortgage to lower the principal of the mortgage loan down to $37,000. We pay $1,020 monthly, so I'd have about three years of payment left if I put in the $80,000 right now. This home will not be the one I will be living in, I just need to set my mom up so that she will be okay to retire in the near future and not worry about paying her mortgage. I will eventually have to worry about my own future home mortgage as well, and I live in California, where the average home cost is above $500,000.
I can either use the $80,000 to make sure we pay off the house within the next 3-4 years, or I can use the $80,000 to invest, wait for the money to grow and pay off more of the home later on in the future (though within 5 years) because regardless of what happens, the mortgage payment will still be $1,020 a month. Refinancing to lower the monthly payment is not an option for us.
If investing is the better choice, a couple of questions there as well. Where should I invest? How do I invest? What are the tax implications of a short-term investment?
It’s a tough call. Without revealing your age or knowing your personal finance, such as your debt, investment, retirement funding ,etc., it’s really difficult to give you the right guidance.
However, the general principal still stands:
1) Help yourself first before aiding others. Let’s say you have some personal credit card debts with an interest of 18%, I would say to pay those off first. If you’re debt-free and the retirement funds (401k and IRA) are well-funded in addition to have $80k idling somewhere, please do help your mom.
2) Investing is never suitable for the short-term. Hoping to get a better return on an investment in five years is a gamble. You could come out ahead, or you could lose big. A safer way for a 5-year investment could be a short-term bond fund or a CD, at leas you don’t lose principal. If the asset is invested in a taxable account, you would be paying an annual tax on the investment gain (unless it’s a muni bond fund), whether it’s a simple interest, income, or price appreciation.
To be sure you make the right decision, a face time with a CFP® is highly recommended. Best!
First question would be what is the interest rate on the mortgage? Although you can't refinance, the interest rate is helpful in determining how much of the 80k you should use to pay down the mortgage now. If it's a relatively high interest rate you should consider putting more towards the mortage and vice versa. However, 5 years isn't a great deal of time to invest the funds. You would need to develop an allocation you're comfortable with and understand the risk you're taking when you invest the funds. As the date neared where you'll need to use the funds to pay off more of the mortgage, ideally you'd take risk off the table by adjusting your allocation.
If you're a first time investor, speaking with an advisor or educating yourself first on investing is probably your best bet. As I mentioned, your time horizon with those funds is not very long, you don't want to take on too much risk and potentially have less than you started with. With any investment, you pay taxes on capital gains and dividends or interest. Capital gains are taxed at either your income tax bracket or long-term capital gains rate (investments held for more than 1 year) of 0,15, or 20%.
Hope that helps.
Good for you for taking care of mom! It doesn’t sound like you should invest this money. It is going to be difficult to earn a significantly higher, but reasonably safe market return versus what you are probably paying on a mortgage over a relatively short time horizon.
Compare the mortgage rate to what you might earn in the market. For example, if the mortgage rate is 4% but investments might average 4 to 8% in some sort of portfolio. That is not appealing, because the portfolio can lose value and on your short time horizon you do not have time for the assets to recover. And you are only essentially earning the rate above your loan rate.
Paying off your loan especially if you have a high rate is a good thing to be considering. Paying off any debt is like earning the loan rate as return with very little risk. (The home value could collapse, but the rate is essentially guaranteed.)
There are a lot of other considerations that you did not mention. If the $80,000 is yours for example and you pay down your mother’s loan. Will you inherit the house? Are there other heirs? If your mother intends for you to inherit her home, is there a will or has proper estate planning been done? These are important considerations as you work towards your own retirement. Without proper planning you could pay for a large portion of the home only to have to legally fight with other potential heirs.
You might find it valuable to work with someone to coordinate and optimize your retirement needs and goals with your mother. For example, there are tools such as reverse mortgages (which I am not fond of) that are viable is certain circumstances. If you were to go that route, I recommend working with a planner directly to help find a reverse mortgage broker, so they will explore other opportunities first to ensure it’s the best tool. A good planner will cover a lot of topics that may cause you to adapt your plan or find a better one. They will ask a lot of questions to build the best plan possible for you and your mother.
David Nash, CFA, CFP®