There was a bit of to/fro on a recent post that I wrote about applying the 20% Rule; one of my readers pointed to a contra-view on an excellent blog by 2million who advocated paying down his home mortgage, whereas I advocate not to (as long as you always ‘fit’ into the 20% Rule), so I wrote to $2mill and asked him to clarify his position.

$2million wrote back and said:

I previously posted an analysis that I did that showed i would earn an after tax return of 6.7% on the mortgage prepayment your commenter is referring to (due to being able to cancel PMI).  I am only chasing returns — not paying off my mortgage — I felt this was the best no-risk investment for our cash savings.

Now, I have written recently about this very subject – why the small gain in reducing interest rates is offset by the huge benefit of leverage, particularly when applied to an appreciating asset such as your own home – but, so many people still choose to pay down their mortgage instead.

Why?

I think that $2million speaks for most people who recommend or follow this approach when he says:

Feels good to paydown mortgage emotionally, but have always recognized its not the best return for the investment.

“Feels good emotionaly” a.k.a. ‘peace of mind’ – perhaps one of the most motivating statements in the business world …

… how many $20,000,000 mainframes have IBM sold because ‘buying IBM’ would give the CIO ‘peace of mind’?

It is also truism in the personal finance world that people make decisions emotionally, then look for rational reasons to support their decision … it’s why it’s very difficult to change the way that people think … first, they have to WANT to change.

It’s why it is said that you have to “win their hearts THEN their minds will follow” …

Jason Dragon [great name!] was the commenter on both $2million and my posts; he wrote me an interesting e-mail the other day:

In the investing club I belong to we have a saying.   “People will usually trade equity for peace of mind” and it is so true.  This is the reason you can get a house for 60 cents on the dollar because someone is 1 payment late and scared.  It is also the reason that people don’t invest like they should. It just boils down to the fact that most people are too risk adverse. 

This is one of the best times in history to see emotion-driving-rationality at work: look at the emotions that pushed the markets and real-estate so high all the way through towards the close of 2007 … to be followed by an equally emotional ‘crash’.

Sure, there were economic reasons for both … but, the emotional swings were much, much larger than the rational/economic swings on their own could justify.

Where the heart goes … the mind will follow; it’s why I say on my About page:

If your target is just an amount like $1 Million in 15 years, then you do NOT need to read this blog – you will get far more benefit for your time invested in reading here, here, and here, or probably ANY of the places listed here.

… there’s no reason to waste anybody’s time … if they don’t need $5 mill. – $10 mill. in 5 – 15 years, then why bother reading a blog about the rationality of ignoring much of the Common Wisdom surrounding Personal Finance?

But, for those who have the burning need to break through and be truly financially free – Jason has some more words of wisdom:

One nugget of info can change your life. It is much easier to live below your means if you increase you means. You do need to control costs, but spend more time increasing income than controlling costs and you will be ahead in the long run.

Jason, it’s true: one nugget of info can change your life (little did I know it at the time, but it did for me) …

… but, first your heart has to be receptive to that change!

AJC

PS  2million did later explain that he put money into his mortgage as a temporary savings strategy – as it offered a better rate of return than other savings or debt repayment options available to him. 2million is a blogger after my own heart, who intends to pull that money out to buy his 3rd investment property soon.