No. of Recommendations: 2
Some schemes for paying off a mortgage early, such as biweeklies and bimonthlies, are offered by lenders while others are entirely within the control of the borrower. This article is about two schemes of the second type that keep popping up in my mailbox. Scheme 1 is all smoke and mirrors, and I doubt that any borrowers who understand exactly how it works will adopt it. Scheme 2 has much more substance, but borrowers who understand exactly how it works will probably also find a way to modify it to better match their unique needs and capacities.

Scheme 1: Making a Large Payment Right After Closing

In scheme 1, you take out a larger loan than you actually need, and make a large payment to principal immediately after the loan closes. This will shorten the term and reduce your interest payments.

For example, assuming you need a 4% 30-year loan of $280,000 to purchase your house, you borrow $300,000 and immediately after the closing you repay $20,000, reducing the balance to $280,000. Your loan will pay off in 317 months instead of 360, and you will pay $27,214 less interest than if you had borrowed $280,000 initially.

How is that possible? The trick is that borrowing $300,000 instead of $280,000 increases your required monthly payment from $1337 to $1432, and the larger payment results in an early payoff. If you borrow $280,000 and make a payment of $1432 instead of the required $1337, you will pay off on the same schedule, and have the same reduction in interest payments, as borrowing $300,000 and immediately repaying $20,000. The difference is that when you borrow $300,000 the larger payment is obligatory and when you borrow $280,000 the extra payment is discretionary.

Most borrowers prefer having the discretion, though there may be some who prefer being locked into the higher payment. But the second group should also recognize that their settlement costs will be larger. Costs that depend on the loan amount, including points and origination fees, title insurance and per diem interest will be calculated on $300,000 rather than $280,000. In addition, because of the way that loan servicing systems work, it is very likely that the borrower will pay a full month’s interest on $300,000, even if $20,000 is repaid the day after closing.

In sum, this scheme is for borrowers who are willing to pay larger settlement costs for the privilege of being locked into a higher monthly payment that will pay off the balance before term.

Scheme 2: Matching Principal Payments With Extra Payments

In scheme 2, which is much more ambitious than scheme 1, the borrower makes an extra payment each month equal to that month’s principal payment. If this rule is followed religiously, the life of the mortgage is cut in half.

There is an important proviso, however. The extra payments required are larger than the principal payments that are customarily displayed as part of an amortization table, because such tables assume that there are no extra payments. For scheme 2 to work, the extra payment in each month must match the actual principal payment in that month, which amount has been affected by prior extra payments. This means that the required extra payment has to be recalculated every month, which can be a challenge -- unless you access the extra payment spreadsheet on my web site, which makes it a breeze.

The attractive features of scheme 2 are the halving of mortgage life and the discipline it imposes on the borrower. A weakness is its rigidity, in the sense that every borrower is shoehorned into one repayment scheme. For many borrowers, funding the required extra payment will become increasingly difficult as time goes on. The required additional payment rises every month, without regard to the borrower’s financial capacity. For example, in using this technique to pay off a 30-year 4% mortgage of $280,000 in 15 years, the required extra payment would rise from $403 in month 1 to $597 in month 60, to $889 in month 120, to $1325 in month 180.

Some borrowers would manage better with a fixed extra payment. For example, an extra monthly payment of $734.36 would also pay off the 30-year 4% mortgage of $280,000 in 15 years. Further, if the borrower can’t manage the payment needed to pay off in15 years, a payoff in 20 years requires an extra payment of only $359.98.

In sum, scheme 2 will work only for the relatively small number of borrowers who want to cut their mortgage life in half, and confidently expect the rising income that is required. Other borrowers should set their own goals, which might be less ambitious than shortening the mortgage term by half, and their scheme should be geared to their own capacities for making payments. Calculators 2a and 2c on my web site were developed in order to allow each borrower to develop her own hand-tailored extra payment plan.

http://www.mtgprofessor.com/A%20-%20Early%20Payoff/two_unort...
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Did Jack personally come up with these?
I hate to be disparaging... but these are beyond stupid.
Both simply equate to "pay more payment each month" (duh!!!)

You don't have to borrow a higher amount and pay it down after closing merely to have a mandatory higher payment... just make the higher payment whenever you can (and if you cannot, then dont' put yourself at risk of a default from your own complexity!)

THE *BEST* WAY TO PAY OFF YOUR MORTGAGE EARLY;
1. DO NOT send a SINGLE DIME MORE THAN MINIMUM to the mortgage lender,
2. Send *EVERY EXTRA DIME* to your safe 'Mortgage Freedom Account' (MFA) established to grow over the long-term at a higher net growth rate than the net interest rate on the mortgage,
3. When the MFA equals your remaining mortgage balance, YOU ARE NET DEBT FREE!

Then you are in the position to CHOOSE to kill the remaining mortgage by the stroke of a check (effectively killing the MFA along the way.)

Of course, if the MFA continues to outgrow the costs of the mortgage, common sense would leave the growth strategy in place, working toward an earlier complete financial independence day.

Dave Donhoff
Leverage Planner
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I hate to be disparaging... but these are beyond stupid.

Absolutely.

The first is so stupid that it *has* to be some kind of sick joke. Borrow extra money so that you can immediately put some of it toward the mortgage?


Of course, if the MFA continues to outgrow the costs of the mortgage, common sense would leave the growth strategy in place, working toward an earlier complete financial independence day.

Which is just what we did in 1999. Left the mortgage in place and let the investment MFA account continue to grow. As you say, beyond stupid. I even asked Madge her opinion about it, when the acocunt grew to be more than the remaining mortgage balance. Her take, "Are you nuts?"

Now we're retired, and the annual growth of the MFA account averages more than that 1999 mortgage balance.
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Did Jack personally come up with these?
I'd say no.
"This article is about two schemes of the second type that keep popping up in my mailbox. "


I hate to be disparaging.
hate? I don't believe you. :)

The article writer is somewhat disparaging to them as well:

"Scheme 1 is all smoke and mirrors, and I doubt that any borrowers who understand exactly how it works will adopt it. Scheme 2 has much more substance, but borrowers who understand exactly how it works will probably also find a way to modify it to better match their unique needs and capacities. "
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What investment vehicle do you suggest that is fairly safe and pays more than 4% annually? I will need to diversify soon!

(FYI ended up paying cash for the lot, didn't want to deal with balloon payments, high interest rates).
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What investment vehicle do you suggest that is fairly safe and pays more than 4% annually?

Usually when people ask this, they are challenging someone to name a vehicle with the safety and low volatility of 30 day T-bills and the returns of the stock market. Of course, no such vehicle exists. This failure to be able to name said vehicle is supposed to leave the challengee with egg on their face.

The stock market average return is about 10.5% per year, ON AVERAGE. In fact, the median 10-year total return of the S&P500 (1950 to 2013) was 10.4%. The 16'th percentile (which means 84% were above) of all rolling 10 year returns was 4.1%.
The 25'th percentile (75% were above) of all rolling 10 year returns was 6.3%.
The 90'th percentile (10% were above) was 16.5%.

So there is a high likelihood that over a 10 year period your MFA account would earn 10+% while your mortgage only costs you ~4%.

You just have to be able to accept the volatility. Which you have to accept if you want to earn more than 0.10% -- the current 1-yr Tbill rate.

==========
Just because I like to play with figures:
$200K 30 yr mortgage, P&I = $955/mo.
If you pay an additional $200/mo, it pays off in 21 1/2 years.

If you invest $200/mo and earn 10%, the MFA balance meets the mortgage balance in 17 1/2 years. Four years sooner.

If you get lucky and earn 16%, it's 15 years.

http://www.dinkytown.net/java/MortgagePayoff.html
http://www.dinkytown.net/java/SavingsVariables.html
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I didn't ask as a challenge nor to leave someone with "egg on their face", I asked so I could learn.
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I didn't ask as a challenge nor to leave someone with "egg on their face", I asked so I could learn.

The problem is, as Ray said, there isn't any such vehicle at this time. And even when there is - such as when Treasuries pay 4%, 5%, 6% (or more), you are still very likely to be losing to inflation by investing in them. Not to mention, getting a new mortgage when Treasuries are paying those rates is generally a whole lot more expensive than 4%.

However, if you read between the lines of what Ray said, you can discern what his suggestion was.

The stock market average return is about 10.5% per year, ON AVERAGE. In fact, the median 10-year total return of the S&P500 (1950 to 2013) was 10.4%. The 16'th percentile (which means 84% were above) of all rolling 10 year returns was 4.1%.
The 25'th percentile (75% were above) of all rolling 10 year returns was 6.3%.
The 90'th percentile (10% were above) was 16.5%.

So there is a high likelihood that over a 10 year period your MFA account would earn 10+% while your mortgage only costs you ~4%.

You just have to be able to accept the volatility. Which you have to accept if you want to earn more than 0.10% -- the current 1-yr Tbill rate.


He was suggesting that you invest in 'the market' but that you will need to deal with your desire that the investment must be 'safe' (i.e. non-volatile). Invest in an index fund/ETF that tracks the S&P 500, or whatever other market index you feel comfortable investing in. If you want to invest in multiple types of investments, tracking different market indices - you could potentially lower your volatility, but you will get different returns than he suggests. Look up "lazy portfolios" or some of Scott Burns' old columns for examples of different combinations and their returns over similar time periods.

Have a rebalancing plan and stick to it. Don't panic and sell things that dropped when they do (and they will). Rebalance so you get back to your desired allocation. That means you will buy low and sell high, because you will be buying what just dropped, and selling what stayed high(er).

Other things you could look into are REITs, preferred shares and/or dividend paying stocks. Try the Dividend Growth Investing or the Real Estate Inv. Trusts: REITs boards here on TMF.

But if by saying you want a 'safe' investment - you mean 'I will never lose money' - you are out of luck. All investments have risk. You just need to determine how much risk and what types of risk you are willing to live with, rather than looking for 'safe' investments.

AJ
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No. of Recommendations: 3
Then you are in the position to CHOOSE to kill the remaining mortgage by the stroke of a check

The original assumption of the article would have kept me from reading it. I really don't care to pay a mortgage off early. Some people get tied up in knots over having a mortgage, particularly in retirement. I don't understand it. Oh dear, a monthly payment ? Get rid of it in exchange for handing over working capital ?

For the safe investment crew - consider stops of some kind if you have limited risk tolerance. It can also cut off gains, though.
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Thanks AJ. I have made good money investing in a company where my dad was on the board of directors. I scooped up the stock when it was private issue at 50 cents to 1 a share. I watched it go up to 6, then back down to 75 cents. I know how it works. At this time my investment is worth over 7 figures (this is after holding on for 18 years) and I want to think about diversifying. By safe investment, I mean a vehicle that isn't at risk of becoming worthless with no chance of recovery (or a Ponzi scheme - I watch "American Greed"). I will be talking to a financial advisor, but I like to learn what options out there and if there was something specific that was working for others (realizing that past performance doesn't guarantee anything).
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Hi LLRinCO,

What investment vehicle do you suggest that is fairly safe and pays more than 4% annually?

An MFA is the accumulation of the equity you would otherwise be counting on accumulating in the residence you call 'home'... and most folks can't stomach the typical rollercoaster downside volatility in the equities markets when they look at balance statements & equate losses to the values of their home.

Because of the sensitive nature of home equity, I like building MFAs by using Indexed Universal Life. When properly designed (absolute minimum actual death benefit, blended for the lowest internal cost burdens... built on a dynamic volatility-rebalancing equity/bond blend) it averages around 8%-9% tax-free, with zero downside volatility (it can go up, but locks annually and never drops value.)

How valuable the 'tax-free' feature is depends, of course, on your effective tax rates over time. In many cases, though, an 8% tax-free rate trumps a 10%-11% taxed rate... completely setting aside the emotional turmoil of the market rides, and liquidity risks of potentially getting forced to liquidate or tap the MFA at the worst market down cycles.

Cheers,
Dave Donhoff
Leverage Planner

DISCLAIMER 1: I own IULs, securities, and income real estate, and unabashedly "talk my book."
DISCLAIMER 2: I only recommend & sell IULs when they are the best tool for the task.. they're not a one-size-fits-all product.
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No. of Recommendations: 1
At this time my investment is worth over 7 figures (this is after holding on for 18 years) and I want to think about diversifying.

Yeah, if that stock is a significant part/most of your investment portfolio, I would want to start diversifying sooner, rather than later. Despite the fact that your father was (is?) on the board of directors, that doesn't mean something really bad can't happen to the stock that would not have been foreseen.

By safe investment, I mean a vehicle that isn't at risk of becoming worthless with no chance of recovery (or a Ponzi scheme - I watch "American Greed").

Yeah, I watch American Greed, too. My lesson from that is, if you use a financial advisor, don't invest with one who will send you account statements directly from his/her office - make sure that the account statements will come from a centralized 'home office' - preferably in another city. And don't invest with an FA who wants to put you in non-publicly traded securities.

Other than that, even if you stick with publicly traded stocks - any individual stock still has the possibility of going to zero with little/no chance of recovery. You can guard against some of that. But, I once watched an employer's stock (where I had options and restricted stock) soar to about $60, being touted by analysts, and then crash to almost $0. Luckily, I managed to exercise my vested options and sell a lot of those shares and the vested restricted shares near the top - partly because I was concerned that it had become a pretty large part of my portfolio, and presuming I still was employed there, the options and restricted stock would have still made up a large part of my portfolio. While I stayed employed there for another vesting cycle, the newly vested options and stock were pretty much worthless by then. By the time I left, I didn't have to worry about what a large percentage of my portfolio it was.

Because ETFs and mutual funds are diversified, they have less of a chance of going to $0 without chance of recovery, but probably also won't soar as much as an individual stock could.

Personally, I have an MFA portfolio (although I call it my FU fund) of dividend payers (mostly preferreds, a couple of REITs and a couple of closed end funds) that provide enough income to pay my mortgage each month. Because they pay about 6% - 7%, and my mortgage is at 3.25%, even with the principal payment that is included in the mortgage payment, the balance isn't enough yet to pay the balance of the mortgage. But, as long as I can keep using the income to make the payments, I'm fine with that. And I have enough different issuers in the portfolio that if one issue were to go belly-up, it's not going to be a huge issue.

AJ
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Dave openly admitted to talking his book, and that's a credit to him.

However....IULs are a terrible investment vehicle. I'm not going to rehash the looong threads we had discussing IULs a couple of years ago, you can go back and read them if you want. Summary: IULs are terrible.
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I would agree with Ray on the IULs.

I put IULs in the same book as non-publicly traded securities. Because that's basically what they are - you are trusting that the insurance company has invested your money so that they will meet the promises they have made to you, and the counterparties that they have purchased derivatives from to insure that you "won't lose money" will live up to the promises they have made. (That was a huge issue in the financial crisis, with respect to many derivatives.) And you can't get totally out of the contract that you've signed without waiting for a substantial time to pass, paying surrender charges, or finding a vulture investor who will pay you something for the contract you signed. Now, Dave will talk about the liquidity with which you can borrow your own money back, but that's not actually 'getting out' (i.e. selling) of the contract - which goes back to the point that it's not publicly traded.

And there were some very long threads, both on this board and the Retirement Investing board where Dave kept saying he was going to come up with numbers to disprove Ray, but never did. Here's a link to one: http://boards.fool.com/q-about-closing-date-owner-moving-out...

AJ
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Let me say, however, that I do completely agree with Dave on the advisability of having what he cleverly calls a "Mortgage Freedom Account" as being preferable to paying extra principal on the mortgage.

We just disagree on the means.

But ..... "If it's not worth doing, it's not worth doing well."

When I retired in 2006, one of my good buddies at work and I had been discussing ivestments & investing for several years. At the urging of his wife, they had been devoting all their money to paying off their mortgage with very little going toward investments.

Here it is 8 years later, I am still retired and still have a 30 year mortgage ---- and he has a paid-off house, but is still working.
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<Sigh>...
If anyone cares to actually go to the beginnings of any of those prior threads, they'll find that I said IULs outperform everything of similar safety.

This stands unchallenged, and has never been shown untrue. Instead, massive threads have developed to try to convince you that you really don't need safety, if you lose your money you can just sit tight until you win it all back again.

The facts are irrefutable... which really pisses of some folks.

If in doubt, we can try again. If it's so easy to outperform a well structured IUL, it will be easy to do so here in just a single post (no follow on thread necessary...it's all been hashed out before);
1. the vehicle or strategy within the MFA must lose zero in principal, annually, AND,
2. Have 90% liquidity from day 2 of its inception, AND,
3. Have a greater than 6% net/net/net average return in the worst of 30 year historical periods.

We can ignore tax differentials, guarantee reserves, etc. etc. for now... that's all gilding the lily.

Stip #1 pretty much guarantees that 'diversifying' won't work... it might reduce your worst losses from 50% down to just 30%... but zero is zero.

Watch... virtually every argument will boil down to trying to convince you that you just have to suck it up & deal with losses as an inevitable fact.

Maybe for funds you sincerely don't mind losing that can apply.

For most folks their home isn't "risk principal."
Dave Donhoff
Leverage Planner
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1. the vehicle or strategy within the MFA must lose zero in principal, annually,

Then the IUL doesn't qualify. In years where there are zero gains in the index, principal is taken from the balance of the IUL account to pay for the annual fees.

AJ
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No. of Recommendations: 6
a well structured IUL

You are sweeping a lot under the rug with this simple statement. The contracts are extremely complex and are written by sophisticated lawyers. The web is filled with stories of people being being harmed by buying what, in retrospect, is a poorly structured product. Saying to only buy a good IUL is like saying only buy stocks in good companies.

I have followed the long threads on IULs and am still not clear on the bells and whistles and bells upon bells and bells upon bells upon bells that these products contain. The idea of purchasing a complex product that I will be obliged to keep for the long term is very unappealing. If I realize I have made a mistake in my other investments I can sell them. Not so for an IUL.

I firmly believe I should not invest in things I don't understand. IUL's are, for me, a prime example.
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Barbara Roper, director of investor protection at the Consumer Federation of America, says this about the complexity of annuities. I think the same applies to IULs.
http://www.thinkadvisor.com/2013/02/25/top-5-retirement-issu...

“The complexity, the less-than-transparent disclosures about key features, the very high costs that are often associated with these products make them highly suspect in our minds,” Roper continued. “Add to that, that they’re disproportionately sold by salespeople who don’t have to act in your best interests—[it makes us] skeptical.”

“Market forces are not operating here. If people who have expertise can’t compare the products and determine what’s best for a particular investor, it means the products don’t have to compete based on being best for the investor. They compete based on paying the salesperson. That to me is a market I want to avoid.”
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No. of Recommendations: 9
If it's so easy to outperform a well structured IUL, it will be easy to do so here in just a single post (no follow on thread necessary...it's all been hashed out before);
1. the vehicle or strategy within the MFA must lose zero in principal, annually, AND,
2. Have 90% liquidity from day 2 of its inception, AND,
3. Have a greater than 6% net/net/net average return in the worst of 30 year historical periods.


Really, Dave?

How about some others:
4. No or very low initial deposit. Can start with as little as $100.
4a. No *maximum* initial deposit. Can start with as large as $100,000 or more.
4b. No linkage between amounts of initial deposit and periodic deposits. Either can be as large or as small as you desire.
5. No required periodic deposits, not monthly, not annually. Can add as little as $10 per month. Or $0. Or $10,000.
6. Complete flexibility in timing and amount of periodic deposit.
7. 100% liquidity from day 1 of inception.
8. No IRS penalties for failing to jump through the right hoops or exceeding certain ratios.
9. No fee for opening the account.
10. No fee for closing the account. (No surrender charge.)
11. No fees charged for making a deposit (no load).
12. No annual fee.
13. No fees for un-neccessary tied-in services (no life insurance.)
14. No contract.
15. No hundred pages of legalese documents.
and
16. Has a greater than 8.3%average return in the worst of 30 year historical periods. (S&P500)

Foliofn is a broker that I have no need for, but they'd be an excellent place to open a MFA investment account. $0 minimum initial deposit, $0 minimum subsequent deposit. $4 commission per trade, minimum $15 per quarter. Obviously, you wouldn't want to be making $50 trades once a month. But adding $200 a month and buying every other month brings the commission down to 1%. Which is, um, less than the 5% "premium charge" of the Allianz IUL.

Or if you can start with an initial $3000 and can do $100 minimum subsequent deposits, just go to Vanguard and open a S&P500 Index Fund (VFINX) account. No commission, no fees.


For most folks their home isn't "risk principal."
You realize this MFA account isn't risking the house, right? This account is for accumulating a lump sum to pay off the house early, in 15-20 years instead of the full 30. Mortgage Freedom Account.

Stip #1 pretty much guarantees that 'diversifying' won't work... it might reduce your worst losses from 50% down to just 30%...
Now this is just amusing. I called CC on it but she never responded. It's all in the spreadsheet I posted.

Using figures from the Allianz IUL illustration that I have: $16,800 initial deposit, $150 monthly deposit, starting Jan 1985. At the 15 year mark the market took a near 50% tumble - the dot-com bust. The S&P500 account dropped from $368,000 to $206,000, Sept 2000 to Oct 2002.
The IUL account rose from $121,000 to $124,000 in that same period.

The discerning reader will have noticed that even after the 45% loss, the S&P500 account value was almost twice as as much as the IUL account value. $206K vs. $124K

Indeed, the IUL didn't lose anything, whereas the S&P account lost 45%. But even so, the S&P account *still* had twice as much money. And the whole raison d'etre of this MFA account is to get a large lump sum of money to pay the mortgage off.

So ... all in a simple post. Okay?
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OK, so dear readers... RIGHT OFF THE BAT...notice my statement remains true;
IULs outperform everything of similar safety.

1. Nobody has brought a single post, nor a link to any thread, showing any alternative outperforming an IUL on a net/net/net rate of return with zero market loss risk.
2. All responses so far have been along the argument that you CAN AND SHOULD just swallow the risks of loss & wait it out... because hey, the market always comes back eventually, right? (Yep... it certainly does... as long as you don't need to access the dough while you are waiting.)

Dave Donhoff
Leverage Planner
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Hi Spinning,

I firmly believe I should not invest in things I don't understand.
That pretty much leaves one with directly running their own business as an 'investment' (which I actually think is a fine position to take, if that is what you are saying.)

Anyone who tries to convince themselves that they "understand" how & why publically traded securities prices move is in serious delusion, and when that same person is taking market loss risks with borrowed home equity dollars they're literally putting their shelter on the line. (And again... if someone is fully aware of the degree of risks they are taking on a blind gamble, and they consciously make that choice, that's fine... but far more actually believe they "understand" Microsoft or Boeing or Intel or Apple or a broad index (for jiminy's sake!) & on & on... when they're literally clueless about how clueless they actually are.)

If you're not directly running your own enterprise, then accurately navigating the markets becomes literally exponentially more difficult. Less than 6% of the best money managers on the planet beat the broad indicies each year (and that 6% 'class' rotates... there are no perpetual heroes.)

As Dirty Harry said;
"A Man's Got to Know his Limitations "

I'd suggest nobody is wise trying to beat the markets with any money that would otherwise have eliminated all of their debt. After a person is 'debt free' on the balance sheet, additional funds can be safely gambled at risk to the markets.

Just my 2 cents... NOT how I got myself debt free... I gambled & got lucky along the way (while doing a lot of other things right.) I lost a lot to the markets, and made some too... in hindsight, it's very reasonable that had I accepted 60-80% of the market average, passively, with zero loss years, I may have hit my break-free balance earlier... but even if it were only the same time frame, I could have put a lot more energy other than trying to beat the markets.

I have seen far too many who gambled & lost... and that just ain't pretty.

Cheers,
Dave Donhoff
Leverage Planner
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Hi Ray,

Really, Dave?
Yeppers.

How about some others:
Why? If you can't do better than an IUL on simply those 3 easy hurdles, adding more ain't gonna help.
IULs outperform everything of similar safety.


You realize this MFA account isn't risking the house, right? This account is for accumulating a lump sum to pay off the house early, in 15-20 years instead of the full 30. Mortgage Freedom Account.
Sure, but it's all really perspective, isn't it? Every dollar you risk losing that *COULD* have gone toward eliminating your debt is a perpetuation of a debt which is in itself a risk of the loss of your home and/or other aspects of life.

Stip #1 pretty much guarantees that 'diversifying' won't work... it might reduce your worst losses from 50% down to just 30%...
Now this is just amusing. I called CC on it but she never responded. It's all in the spreadsheet I posted.


So your passive trading system lost nothing each or any year if someone started in 2000, by dumping whatever down payment they may have had, and all their additional discretionary cashflows thereafter?

I missed that one... please repost that.

Dave Donhoff
Leverage Planner
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IULs outperform everything of similar safety.

Umm.....I would say that it depends on your definition of 'safety.' You gave a definition that not even the IUL can meet - not having the principal (account balance) decrease, EVER. And you still haven't answered that. (And I'm guessing you won't, because it's a slippery slope, once one accepts, as you have said before, that there is no strategy that is COMPLETELY safe. Not to mention, there is still the factor of losing money because of your single company strategy.

So is your definition of 'safe' really "not having a loss of more than 1.5%, 2.0%, or whatever the annual fees are, for a balance that doesn't exceed your state's insurance fund account limit"? And if that's the case, you are still accepting losses for your 'safe' investment.

1. Nobody has brought a single post, nor a link to any thread, showing any alternative outperforming an IUL on a net/net/net rate of return with zero market loss risk.

But net of fees, the IUL has a loss in every year there is no market gain. And with very few exceptions, if one is willing to accept that there will be 'some' losses, there are very few times when the S&P strategy didn't come out ahead.

2. All responses so far have been along the argument that you CAN AND SHOULD just swallow the risks of loss & wait it out... because hey, the market always comes back eventually, right? (Yep... it certainly does... as long as you don't need to access the dough while you are waiting.)

Again - there are STILL losses with the IUL strategy - you would just rather call them 'fees.' Well, if it looks like a loss.....

So, again, how much 'loss' are you willing to accept? Because you can't say the IUL is a 'NO loss' strategy. And if you are willing to accept 'some' losses, then, overall, the S&P strategy still comes out ahead.

AJ
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Hi AJ,

Umm.....I would say that it depends on your definition of 'safety.' You gave a definition that not even the IUL can meet - not having the principal (account balance) decrease, EVER. And you still haven't answered that. (And I'm guessing you won't, because it's a slippery slope, once one accepts, as you have said before, that there is no strategy that is COMPLETELY safe. Not to mention, there is still the factor of losing money because of your single company strategy.

No, maybe you missed it... I said;
1. the vehicle or strategy within the MFA must lose zero in principal, annually, AND,
2. Have 90% liquidity from day 2 of its inception, AND,
3. Have a greater than 6% net/net/net average return in the worst of 30 year historical periods.


NOW, I will grant you that #1 *assumes* that the term "loss" means... well... LOSS. Not fees, costs, slippage, etc. whatever.

However #3 cleans that up for you in the 'net/net/net' common English.

So is your definition of 'safe' really "not having a loss of more than 1.5%, 2.0%, or whatever the annual fees are,
Fair enough... you have zero market loss risks from day one, through perpetuity... but in terms of the net cash value you could indeed be down as deeply as 5-7% for up to the 1st or even 2nd year (or even 3rd, if the market dropped 3 times in a row... which is as rare as hen's teeth. The markets have never dropped 4 in a row.)

for a balance that doesn't exceed your state's insurance fund account limit"?
That's easily solved by building multiple buckets... same as with any other insured account strategy (CDs, checking, savings, etc.)

And if that's the case, you are still accepting losses for your 'safe' investment.
No losses to the markets. Zero, zilch, nada, none.

But net of fees, the IUL has a loss in every year there is no market gain.
*ONLY* if that occurs prior to up years that have provided locked-in gains re-characterized and re-insured as principal... but yes, being underwater some single-digit percent is a risk for the initial 2-4 years.

And with very few exceptions, if one is willing to accept that there will be 'some' losses, there are very few times when the S&P strategy didn't come out ahead.
Show me any passive S&P strategy where you are at risk of single-digit drawdowns for only the initial 2-4 years (hell... let me give you 10 years,) and I'm willing to say there's competition.

Again - there are STILL losses with the IUL strategy - you would just rather call them 'fees.'
Yeah... I'm kinda silly about language like that... but OK, let's call them zebras, or watermelons, or even losses....

Bring me your alternative with no greater risk than single digit drawdowns for a full decade from any point in the market.

...And by 'similar safety' I am giving you a *LOT* of open leeway... IULs *almost* never have a fee-caused loss (when there is any drawdown at all) beyond 3 years, and never EVER have a market-casued loss. If you can show us a passive alternative that can outperform on a net/net/net basis, (I'm giving you up to a 10% drawdown in any/all years for a full decade from any point in the markets,) make it count!

Otherwise... why not just let the truth stand in the open.
IULs outperform everything of similar safety.

Dave Donhoff
Leverage Planner

P.S. it's OK to simply say "I prefer to take the risks" if that's true... nothing sinister about that for those who can stomach it. I did it that way, & I survived... but as a pro who sees lots of other folks' results, it's truly financial roulette... and it can be devastating. Further... I'm now married, and most of my clients are, and *ALMOST ALWAYS* one of the pair can't sleep easily knowing their nest egg and/or home value is at risk to the vapid markets.

I always show folks how to do it safely, and make no judgment of those who prefer to roll the dice. HOW COULD I JUDGE... I did it. I survived... but now that I am on the other side of the debt hurdle and know better, I show folks all their options.
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1. the vehicle or strategy within the MFA must lose zero in principal, annually, AND,

Dave, I believe you once said the initial fees of a IUL can be in the "teens or higher." So right off the bat you lost principle and the IUL fails your first stipulation. Oh, "fees" are different than losses you say? Your bank account can't tell the different. If your bank account doesn't care, why do you?

Next, there is (at least for the Allianz IUL I looked at [I believe it was Allianz, anyway]) a 5% load for each premium as it is added. So it is completely possible you could run a negative balance in an IUL verses the mattress for years. And there are fees on top of that as well. Don't forget surrender fees if you take money out too early.

Bottom line is that it doesn't matter if you lost money due to market loss or high fees. Gone is gone. You lost substantial principal on day one with the IUL. Fail.

To me, you are making it way too hard with all your stipulations. As you put it so well in your initial post, the idea beyond the MFA is that instead of trying to pay off the mortgage early, you simply invest that extra money somewhere else. The advantage and hope is that all things being equal, you wind up with enough money "somewhere else" that you could pay off the mortgage sooner than if you made extra mortgage payments. That's a pretty simple test.

For comparison's sake, a reasonable investment horizon is something like 15-20 years because that's when most people would be paying off the mortgage early if they made extra payments. Again, fairly simple. Ray showed that simply investing in an index fund crushes the IUL over that time frame. You have to delay "mortgage freedom" for a number of years if you go the IUL route.

While many of your side stipulations are all well good, in order to get them you must accept hugely undesirable conditions, like enormous fees, poor returns, and delaying for years the primary goal of the ability to pay off the mortgage. Is the concept of the MFA to have mortgage freedom, or is it to meet all of your bullet points? An IUL is great at the latter, sucks goats at the former.
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Hi Syke,

Dave, I believe you once said the initial fees of a IUL can be in the "teens or higher."
No, that isn't accurate, and not something that would have come from me.

Next, there is (at least for the Allianz IUL I looked at [I believe it was Allianz, anyway]) a 5% load for each premium as it is added. So it is completely possible you could run a negative balance in an IUL verses the mattress for years. And there are fees on top of that as well.
Total one-time 1st dollar fees on that product, properly designed, are around 7%, and well under 1% thereafter, net/net/net. So a 5-7% worst-case 1st year drawdown is possible. It never gets that bad again going forward, ever.

Don't forget surrender fees if you take money out too early.
A none issue if you use the policy loan feature. Surrenders are virtually nonexistent in IUL executions for financial performance.

Bottom line is that it doesn't matter if you lost money due to market loss or high fees. Gone is gone. You lost substantial principal on day one with the IUL. Fail.
Except not... as you can see as you learn the facts.

Build an MFA in a naked buy & hold index strategy, and you can incur Up to/over 50% surrender penalties any year you hold it, including the day before you intended to stroke the check to become debt free.

To me, you are making it way too hard with all your stipulations. As you put it so well in your initial post, the idea beyond the MFA is that instead of trying to pay off the mortgage early, you simply invest that extra money somewhere else. The advantage and hope is that all things being equal, you wind up with enough money "somewhere else" that you could pay off the mortgage sooner than if you made extra mortgage payments. That's a pretty simple test.
Your "all things being equal" is the devil in the details, and exponentially more complicated than my 3 simple stipulations.

For comparison's sake, a reasonable investment horizon is something like 15-20 years because that's when most people would be paying off the mortgage early if they made extra payments. Again, fairly simple. Ray showed that simply investing in an index fund crushes the IUL over that time frame. You have to delay "mortgage freedom" for a number of years if you go the IUL route.
Ray's strategy fails if you need liquidity during a loss year.

While many of your side stipulations are all well good, in order to get them you must accept hugely undesirable conditions, like enormous fees, poor returns, and delaying for years the primary goal of the ability to pay off the mortgage.
The ONE SINGLE stipulation that matters is this;
The strategy *MUST* give *EVERY* user the ability to live to fight another day... even if they need to access their funds when the markets crash.

Saying that *SOME* may win, and *SOME* may lose... but those who win get twice as much... is a gamble. There's no other way to slice it.

It's easy to understand... don't make it more difficult.

Is the concept of the MFA to have mortgage freedom, or is it to meet all of your bullet points?
The MFA is a strategy to more safely and rapidly become debt-free on balance.

A yield-funded bull call debit spread option strategy is a way to fund an MFA with zero risk of losing principal.

An Indexed Universal Life strategy is a way to passively do the above option strategy with much more juice in the returns than you can possibly get on your own with new money in small lots. (EVEN AFTER all those pesky fees.)

My bullets are extremely simple;
1. the vehicle or strategy within the MFA must lose zero in principal, annually, AND,
2. Have 90% liquidity from day 2 of its inception, AND,
3. Have a greater than 6% net/net/net average return in the worst of 30 year historical periods.


Seriously... everything that matters is right there in 3 simple points.
A guarantee that the account is never at risks of market losses during natural and inevitable market drops,
Zero liquidity risks during natural and inevitable market drops,
A decent return substantially greater than the costs of the mortgage it is retiring.

Simple.
Dave Donhoff
Leverage Planner
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NOW, I will grant you that #1 *assumes* that the term "loss" means... well... LOSS. Not fees, costs, slippage, etc. whatever.

However #3 cleans that up for you in the 'net/net/net' common English.


Fees are a loss to me. Sorry, but it's money out of the account. The balance goes down. When I calculate my personal rate of return it's a loss.

You are really good at talking your book. I'm just not buying it. You can sell all you want, but it won't be to me.

AJ
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Dave, you're hurting your brand. Give up, admit you are wrong, and if you choose to keep selling these awful products just keep it as your dirty secret.
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Dave, I believe you once said the initial fees of a IUL can be in the "teens or higher."

No, that isn't accurate, and not something that would have come from me.

It might not be accurate, but I'm pretty sure it did come from you (emphasis original):

OH... ITS MORE THAN THAT! The initial year, due to the accounting of all the initial one-time charges, could be up into the teens or higher even. They key however is the fact that they are ONE TIME charges... and even if you calculated the opportunity costs on those funds "lost" due to the up front charges, after avoiding risks of ruin you are still better off hedging.

http://boards.fool.com/hi-all-ive-been-swamped-with-client-w...

Higher than teens is 20%+, right? You keep flogging these things as a no loss strategy, when in fact you take a non-trivial, guaranteed loss on day one.

In the past, you've waved away these losses by saying "in the long term they don't matter." But if someone says the same thing about market losses (that is, in the long term they don't matter) you reject that thinking because the Day of Reckoning could come at anytime.

It is almost like there are two different standards here.
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...and all their additional discretionary cashflows thereafter?
I don't know what "discretionary cashflows" means. About the only time I see this phrasing is from a proponent of some scheme like Money Merge Accounts, and it's usually designed to muddy the water and confuse the issue so the mark doesn't see the hook.


So your passive trading system lost nothing each or any year if someone started in 2000, by dumping whatever down payment they may have had, ...

Um, we were talking about a MFA account to pay off the mortgage early, not a scheme to accumulate a down payment.

I'd like to be a fly on the wall when some Planner proposed an IUL to someone who is trying to save money for a down payment. "We'll just use your $16,800 to open this IUL account, lock you in to a $150/mo deposit, and in 7 years you can borrow 90% of $31,850 ($28,665) and use that for your down payment."
Yeah, borrow your down payment---I'm sure *that* will go over well from your typical risk-averse client.

Never mind that if they had $16,800 in the first place, why wouldn't they use _that_ for a down payment?

Never mind that $16,800 + 7*12*$150 = $29,400. Which is not significantly different from either $28,665 or $31,850. Especially considering that they'd not be locked into a $150/mo deposit. That's at no interest on their savings account. They'd have more if they put their money into CD's instead of the mattress.

But....fair enough, let's consider your scenario. I'm kinda curious myself. Let's ignore the fact that one should NOT invest money that they need in a few years. Let's also ignore the fact that the IUL industry consisently states that IULs are for long-term investing and NOT suitable for short-term needs.

Same figures, but start 7 years before the 2008 crash. Y'know what? Screw it -- if anybody cares, they can look at the spreadsheet and plug in whatever numbers and dates they want. https://www.dropbox.com/s/cbzvg74iyeyfwt6/SPX-monthly-1950-2...
This is absurd. Neither IULs nor the stock market are suitable for someone trying to accumulate money that they need in a few years. You are trying to argue conterfactuals that are absurd. Nobody is going to do either of these for short-term money. To argue which is best in the short-term worst case is stupid. It's like arguing which is better, kicking a land mine or kicking a Hell's Angel in the nuts. Nobody would give informed consent for either alternative.

============================
Ray's strategy fails if you need liquidity during a loss year.
Well, it's not my strategy, it's just looking at historical facts.

How is it a failure to have only $206,000 instead of $124,000?
Please explain.
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