Equity Management Dead? Think Again!!!

by Florida's #1 Mortgage Planner on April 30, 2009

As promised, here is a post on the lunacy of those that just don’t get it.  Of course, this particular individual is an advocate for that complete waste of money program called the Money Merge Account.  I have proved time and again that there are much better ways to manage your debt and equity to increase safety, rate of return, and especially liquidity.  The latter is more important now than ever for two reasons. 

Liquidity, aka cash readily accessible, is what is keeping some homes from facing foreclosure and allowing others to invest and reap great returns even in the current market.  The individual who wrote me thinks that since the stock market is down, that those whom were paying off their mortgage, especially through the MMA program, were better off.  That is actually a ridiculous statement as I will prove yet again, with facts of course.

Besides the cash in hand reality, contrary to popular belief, those whom had their money in mutual funds under good management still lost less money than most homeowners did in the value of their properties.  Using myself as an example, as I often do, my home decreased in value nearly 50% over the last few years.  At the same time, my 401(k)s values dropped roughly 42%, that being since I did not move to an all cash position like I could have and minimized the loss, period.  So, in essence, comparing the two yields a nearly 8% better performance under my 401(k)s than my home’s equity.  That is leaving out the fact that home equity itself can never have a “positive” rate of return.

Now, let’s look at the reality of home equity.  Let’s assume you put 20% down on a $325,000 home, you now have equity of $65,000.  Now, we will assume that your home appreciated for a while after you bought it, let’s say to $670,000.  Did your equity actually have a rate of return?  You might think so, but reality is that the home appreciated not due to how much money you put into it, rather due to market forces.  However, you did yield a $280,000 profit (431%) on your money if you sold at that top.

Now, let’s say you bought your property, again 20% down, only this time at the top of the market, aka at $670,000.  You now had $134,000 in equity at the beginning.  The market collapses and now your home is only worth $355,000.  Did your equity have a negative rate of return?  Once again, your equity had no rate of return itself, again market forces drive the price, not how much money you have in the property.  However, in this case, the you would have lost $315,000 (-235%) on your money, right? 

Not necessarily is the correct answer to that question.  In “equity”, that answer is correct, however if you had an interest only loan, that loss is only $134,000 still, all the money you had “deposited” into the home.  If the you had been paying off your mortgage, especially as fast as possible, that loss grows.  Let’s say you paid off an additional $50,000, your loss is now maxed out at $184,000, increasing your loss.  What about if you were able to knock off $100,000 from your mortgage?  Great, you just added to your losses, bringing them to $234,000, and you still walk away from a sale with nothing.

Ok, now you are forced to sell the home, and let’s assume you manage to get a short sale down at the amount you owed.  Which situation would you rather be in?  Losing $134,000, $184,000, 234,000?  I am guessing the $134,000, at least I hope that is how you are thinking.  I know there are other factors that go into this, but this example is to prove a point.

Ok, let’s get back to the advantages of keeping your money in investments or simply in cash.  One big advantage of having cash on hand is that you can pay your mortgage and living expenses for quite some time even during a job loss.  That to me is a huge stress reliever, especially in the current economic environment.  Beyond that, having cash on hand provides the ability to take advantage of opportunities, which many people are doing today, yielding great rates of return, far exceeding the costs of their mortgage(s).  Again, using myself as an example, I had a stock portfolio that increased over 60% in less than two months.  I currently own stocks that yield over 18% in dividends, which are only taxed at 15%.  If you think you cannot make more money than your mortgage costs you, think again.

Now, is equity management, equity harvesting, or any other mortgage strategy besides paying off your mortgage as quickly as possible right for you?  That depends on your specific situation and you need to be working with an appropriately qualified mortgage professional, even a team of financial professionals, to ensure the best strategy for you, along with making sure it is implemented and monitored.  I do my own strategies personally, but I have been trained in finances and investing having had securities licenses before, along with my mortgage planning background.  Yet, even I discuss strategies with financial planners, CPAs, and others I work with and I never stop learning.

So, to those who think that just because the stock market is down is enough reason to push their agenda, selling a product that costs more than it saves, and does nothing more than promote financial incompetence, may I recommend you take some training and study how money truly works and provide genuine comparisons of ALL strategies to your clients.  Granted, you may not make that much money, but at least you can truly say you have your clients best interest in mind.  And for homeowners reading this, make sure you seek a mortgage professional whom can show you side by side comparisons of ALL strategies and explain all of the risks and rewards associated with each one, so you can make a truly informed decision as to which strategy is best for you.

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