Dear Dr. Don,
I just refinanced a $65,000 10-year mortgage at 6% with a refi at 2.6% over 10 years with $14,000 cash out. Closing costs were $2,660.I am interested in putting $10,000 in my 401(k) tax-deferred account at a guaranteed 4.2% yield for at least the next 5 years. What do you think?Thanks,
— Bert Buoyant
If you were a student in 1 of my classes, I’d give you an “A” for the day! This is good news. You have reduced your interest expense on the outstanding loan balance by more than half. Double bonus: Using the cash to invest in a tax-deferred retirement account is providing you with a yield that’s higher than the mortgage rate.
Find the best refinance rates at Bankrate.com
Let’s see the evidenceThe table below shows how the cash-out refinancing has lower total interest expense, even after accounting for the higher loan amount and closing costs. This presumes you have 10 years and $65,000 remaining on your existing 6% fixed-rate mortgage.
Advantages of a cash-out refi
Cash-out first mortgage
Existing mortgage: $65,000
Cash-out first mortgage: $79,000
Existing mortgage: 6%
Cash-out first mortgage: 2.6%
Loan term (months)
Existing mortgage: 120
Cash-out first mortgage: 120
Existing mortgage: $721.63
Cash-out first mortgage: $748.33
Total interest expense (pretax)
Existing mortgage: $21,595.99
Cash-out first mortgage: $10,799.61
Estimated closing costs
Cash-out first mortgage: $ 2,500
Total financing costs (pretax)
Existing mortgage: $21,595.99
Cash-out first mortgage: $13,299.61
Gauging the pay out laterHomeowners typically aren’t comfortable borrowing against the equity in their home to invest in the market. But you’re planning to lock in a yield on your investments that’s higher than the effective interest rate on your mortgage. It’s hard to say what the after-tax yield will be on the investment because you’re putting the money into a tax-deferred retirement account, and the money won’t be taxed until you take distributions.Generally speaking, you can’t just throw money into a 401(k) because those contributions are deferred-wage income. But you can ramp up your 401(k) contributions and use the $10,000 from the cash-out to cover your living expenses. If your employer matches all or part of this additional contribution, you’re that much further ahead.Get more news, money-saving tips and expert advice by signing up for a free Bankrate newsletter.
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