February 2021 – Home Equity and Savings Rates

February is the first month where we had a mortgage payment. Big month! Now comes the big question. Should the home equity part of the payment be factored into my savings rate?

It’s an interesting question and one that doesn’t really have an obvious answer. After all, at the end of the day, the mortgage much like rent is an expense I have to make today.

However, there is a bit of a difference in the sense that my mortgage payments directly grow my wealth.

In the case of rent, it’s really just an expense because none of the payments I make go towards building any net worth for me. That doesn’t mean paying rent is bad. After all, rent could be a better value if you invest the down payment especially if rent vs. home price calculations in you area favor rent.

However, when it comes to the mortgage, there are a few parts to each payment that make each payment slightly different than rent. There’s the escrow payments which include property taxes and home insurance. These are clearly an expense as they do not increase my wealth nor do they cease to exist when the mortgage stops.

After that comes the interest part of the mortgage which again is clearly an expense as it is the cost I pay to borrow money for the home. In my case, it’s a 2.75% rate that allows me to spread out the cost of buying a home across thirty years.

After that comes the interesting part of the equation which is the home equity area of the mortgage payment. This starts off as a small portion of the overall payment but grows larger as the years progress. However, unlike all those other payments, this does impact your bottom line because it has a direct impact on your net worth each time you make a payment.

Let’s consider a person who pays $1,700 in rent and another who has a $2,300 mortgage which includes $600 in equity within the payment. If both people spend $2,000 in addition to their home payments, which person has a higher savings rate assuming their income is the same?

You could say that the person paying rent has a better savings rate because their expenses are lower but are you also ignoring the fact that the person with a mortgage is building their wealth?

If the person who pays rent puts the $600 difference into a savings account or even into stocks, is that person saving more or are they simply choosing a different savings vehicle? Is home equity less valuable than stocks or cash? One is certainly easier to access than the other but beyond that, they’re both vehicles to increase net worth. Does that mean that both people have the same savings rate in this example?

To me, I think that makes more sense. After all, the mortgage holder is getting $600 in net worth growth and how is that different than the rent person putting $600 into a savings account yielding next to nothing. Sure one could claim that that money could go into stocks and have a much higher return but one could claim the same thing about the home as future returns of both are a question mark. However, historically stocks have had a much better growth patter than homes on average(assuming you didn’t pick the outliers in either scenario).

What about when the cost of rent and the mortgage are the same? Does that make it easier because one person has $600 in equity via their mortgage payment while another has no extra cash to invest after paying their $2,300 in rent?

In the same sense, let’s think about two people who have the same $2,300 mortgage with the same rate. Let’s assume that expenses are the same for both and so is income. However, one of the people puts an additional $300 a month towards paying down the principal(additional home equity) whereas the other saves it in other accounts.

Is that extra $300 an expense or savings? If it’s an expense then why is it so given that it’s a guaranteed 2.75% return and a direct increase in net worth. Why is putting the money into stocks, bonds or interest bearing accounts savings whereas the other one isn’t?

Of course, there are other interesting elements to this question. If I bought a home tomorrow with cash, would I call that savings or an expense? In this case it seems like the latter although homes are one of those unique asset classes that seem to hold their value and have the ability to tap into their value via home equity lines so maybe it’s neither. After all, you’re essentially trading one asset(cash) for another(home).

However, when it comes to home equity payments, that’s not really the case because you’re trading an expense(rent) for an asset(home equity). After all, if I pay rent for 30 years, I will have no impact on my net worth and will continue to have a rent payment after. On the opposite end, if I pay a mortgage for 30 years, those expenses(the home equity part) are being traded for an asset and will cease to exist after 30 years. If I throw in extra principal payments during that time, the mortgage payments will end even sooner leaving me with the escrow parts to pay forever(thus being an expense).

It’s an interesting question and one that probably doesn’t have a clear answer.  To me, it seems like loan principal payments(or home equity) are savings because they have a direct influence on personal net worth. At the very least, extra principal payments are definitely savings because they have a direct 2.75% return and counting them an expense and counting saving that money in a 0.4% interest bearing account as savings doesn’t make any sense.

Either way, does it matter much? Not really although from a wealth building perspective, savings are obviously better than expenses. If I spend money on rent, I’m not building wealth UNLESS rent is a better deal than a comparable home in my area which allows me to save extra money in other avenues via renting.

If I spend money on a mortgage, I am building wealth with each payment and get a direct return on each additional principal payment beyond the norm.

That’s not to say that owning is better than renting just because I can call part of the expenses I make on my mortgage savings. It all depends on how those costs compare to rent in your area plus you have to account for the additional expenses that come with owning a home.

Three months in and I’m already fully sure that owning a home just costs more especially if you’re buying something that has more space. After all, double the space means quite a bit more costs when it comes to utilities and furnishing and other crap. On top of that, even if the space is similar you have to buy crap like gardening equipment, a snow blower and all sorts of other nonsense.

For me, I think I’ll track it all three ways, one saving rate without any home equity involvement, one with just extra principal payments and another with all equity. It’ll be interesting to see the difference across the years and I like the idea of knowing how much extra I’m throwing at the thing each month. After all, extra payments were one of my goals this year so I certainly want to have an easy way to track it!

Now that we’re past all that mumbo jumbo, let’s take about a simpler thing, dividends!

On the dividend side, February is one of those smaller but it has been growing due to my additional investments in my M1 Finance portfolios. These hold individual stocks which pay on a different schedule than my index/ETF holdings which still make up the majority of my investments. Those only pay on a set schedule(quarter ending months) and make those months much bigger for me.

Even in these small months, I’m hoping I can start hitting $300 every month by the end of this year. That’s not one of my goals but would be cool to see and certainly achievable if I can keep investing in my M1 accounts.

Last February, I hit $293.67 so let’s see where I sit this February.

February Dividends

February comes in at $297.72, just shy of $300 and a 1.4% bump over the year before.

It’s not a huge bump but one has to remember that February 2020 was still a month where bonds and money market holdings paid an actual yield before March changed our life forever and sent those yields down to near 0%. That means any growth y/y is good since bond yields have sunk since then and my money market holdings now basically pay nothing.

That’s one of the reasons I’ve invested a bunch of cash since then. I did send some money into non-dividend paying SPACs but a good chunk of money post March went into growth names and some dividend payers like my dividend aristocrats portfolio.

That has more than offset those losses in yields and will become more clear as the year progresses and bond yield differences become less impactful year over year. As an example, my M1 accounts threw off $23 in dividends last year and that number more than doubled to $55 this year.

I think based on that growth and assuming we don’t have another dividend cutting market crash, I think I should see decent growth in these off-months for the rest of the year. I’m hopeful I’ll just be able to grow every month over last year in 2021 since that’d be a change against 2020 and a good sign for future growth.

After all, more dividends means more money re-invested into the stock market and that will just help growth in the future. The power of compound growth is real and this month’s dividends will be re-invested and generate an additional $8.63 in annual income. It’s not huge but every little bit helps.

Steve, my dividend employee enjoys these slower months as he rest as he gets ready for a bigger workload in March. In February, his hourly wage was a paltry $1.79/hr which brings the annual wage to $1.67/hr.

These hourly wages are small but Steve really depends on the four big months to get his pay for the year.

March is one of those months and as you can see below drives quite a big difference in dividends when compared to these smaller months.

I’ve had some tough spending months leading to negative savings rates in December and January which meant no new money flowing into the market so that might stymie growth for a bit but I’m hopeful I can see a bump in March after the small decrease I had last year.

Overall, growth in dividends is solid and continues to be a forward driver when it comes to my portfolio. I’m not an investor who targets dividends but enjoy getting them and being able to re-invest them to drive future growth.

I have been investing a bit more into dividend payers recently as some of the growth names seem a bit highly valued right now so hopefully that means I’ll start seeing $300+ results in these months soon!

February Total : $297.72
2021 Total : $556.14
Portfolio monthly hourly wage : $1.79/hr
Portfolio annual hourly wage : $1.67/hr

February Savings Rate – Home Equity

February was the first month of having a mortgage and the first month of not having rent(because we were lucky enough that they found someone to take our lease 7 months early). We might still have some costs on that side since I just got a bill for the amount that exceeded my security deposit(to be fair it was a very small deposit and less than half 1 months rent) so I have to see what that’s about.

The last couple of months were driven down by a combination of a home purchase, the costs associated with that and the medical costs I’ve had to try to figure out some health issues I’ve been dealing with. Those costs continued in February and likely will keep going into the year until I hit my deductible as I get sent between varying specialists to see what’s up.

On top of that, I had to get an apicoectomy done on two teeth after a failed root canal. Luckily, that was mostly covered by my dental insurance but the two crowns I’ll need soon will not be covered.

Overall, this has been a costly year and I’m sure that will continue going forward. However, I’m hopeful that this month will finally show a positive savings rate and allow me to actually put away some money going forward.

Last February, my savings rate was 76.1% since my bonus was paid out in February last year. This wasn’t the case this year as the bonus moved to March. I won’t hit such a high number but let’s see where my money went this month and what my savings rate was.

I saved 33.1% of my money in February. That’s not quite what I hit last year but it’s positive. If I include employer contributions that number shoots up to 39.5%.

On a gross income basis, I saved 26.9% of my money with a 32.1% rate with employer contributions.

I’ve split out my mortgage payments to include the cost side of things and the equity side of things and added extra equity(additional principal payments) as a new category as well.

With those extra equity payments, my savings rate was 38.4% and it was 42.9% with the entire equity component(both extra principal payments and the equity part of the mortgage).

Since my rate is 2.75%, the question is whether or not it makes sense to actually make extra home equity payments.

I think if you’re trying to maximize wealth, the answer is no. I could easily take that extra money and invest it in the stock market and probably get a better return than 2.75%.

However, on the same front, a guaranteed 2.75% return isn’t too bad in this very low yield environment for someone that has exposure to bonds. In a way, extra home equity payments are somewhat related to your bond position. A mortgage is essentially a negative bond and paying it down faster is similar to investing money in bonds as you’re offsetting a cost(2.75%) in lieu of increasing your bond position that might have a lower yield these days.

I do overall think that for most people investing in stocks is a far better deal when your mortgage rate is so low.

However, there’s another part of this equation that can’t be understated. Reducing debt can just be a great feeling for some. I’m the type of person who dislikes debt even if it’s low cost and a mortgage is a long term debt obligation that would otherwise take 30 years to pay off. That’s a long ass time.

Right now I’m 36 so this mortgage would normally be with me until I hit the ripe old age of 66.

The idea of going into early retirement(let’s say it happens at 45) without a mortgage payment is so enticing. On top of that, extra payments could allow you to recast your mortgage if needed and can improve your cash flow if that’s ever a problem.

I think because of that freeing aspect that comes in paying off debt faster and the valuations I see in the stock and bond markets today, I’ll probably toss additional money into the mortgage more often than not. It is one of my goals this year too and I plan to pay this sucker off way before I hit the age of 66.

I still plan to invest in the stock market every month but an extra few hundred dollarydoos each month will likely flow into extra home equity payments. It’ll feel nice watching that mortgage debt float down as it does to see those stock market prices float up.

Beyond the home expenses which I beat to death above, health was a big expense again. This doesn’t even account for one of my other biggest costs, health insurance. These costs are mainly for a few doctor visits in January, my apicoectomy and some medications and recommended supplements.

Groceries were next followed by utilities which I already mentioned are much higher at home than they were in the old apartment. We’ve already gotten 3 oil deliveries during winter and while we do like it warmer than the average bear, it’s still an unexpected amount of spending to heat our home. Our water is oil heating too and we do enjoy a good hot bath or an extended shower as well. Luckily, it’s getting warmer and while a/c costs will likely tick up our electricity bills in the summer, I’m hopeful the post winter months see a small drop in utility costs.

After that come pets which was an order of my old pupper’s prescription food and two medications she takes. Teddy’s getting a bit old but she’s starting to enjoy the extra space at home and had some fun in the yard now that it’s actually thawed out and can be seen.

On the entertainment side, I dove into the NFT game with some NBA Top Shot packs. If you’re not familiar with these, they’re essentially basketball cards but DIGITAL. I think it’s a cool product and I already sold one card for $75 from a pack I bought at $14 so I think it should be a self sustaining hobby if that keeps up. I’m not a huge collector when it comes to stuff like that but just like with other things, if I can make money on it, I get into it and this seems like something I can make some money on to start.

Overall, this was a pretty decent month. It’s nice to start working on the mortgage and it’ll be interesting to see how much I can throw at that sucker. Our housing costs(rent vs. mortgage) outside of bills actually haven’t gone up much despite getting 2x the space in a better neighborhood.

I think in areas like ours where the discrepancy between housing costs and rent aren’t so huge, it makes sense to own especially with rates as low as they were recently and the prospect of inflation on the horizon. Initially, when we bought this home, I had some worries around whether or not it was the right idea. After all, it’s the biggest purchase of our lives.

However, now that we’ve been here for three months and have started seeing the costs associated with owning a home as well as the benefits that come with it, I’m pretty certain that it was the right decision for us.

I’m sure these first year costs will be higher leading to a lower savings rate but I can already tell I’ll enjoy being a home owner and all that comes with it. Now, it’s time to research lawn mowers and order one before lawn mowing season starts. There’s another expense to eat soon!

Thanks for reading and hope your February went well.