5 Mortgage Lessons to Learn from the Rich

(February 21st, 2008)

Most of us will not make it to the kind of bank accounts that Donald Trump or Bill Gates have, but many households in America are aiming for the $1 million mark (exclusing their residences). That's right, in 2004, the number of households in America that have $1 million in liquid cash and investments excluding their residences grew by 21% to 7.5 million. In this article, we are going to study the mortgage tactics of these rather affluent people because it's not all about the amount of money they make, it's about how they treat their money.

Many people believe that the rich are most likely to have fully paid off homes than the average and middle class people. That is not true! Infact, here are some interesting facts:

i) More than 1/2 the rich people in America (55.5%) have a mortgage on their primary residences

ii) Only 44.6% of average & middle class people have a mortgage on their primary residences

iii) Rich people have other real estate investments and 15% of them carry 2 or more mortgage loans. This is compared to only 4.7% of average & middle class people.

Although these people could afford to fully pay off their homes in cash, they choose not to. This is because of the priviledge of mortgage interest tax deductions. Simply, the interest charges you pay on your mortgage loan is tax deductible. For example if you earned $75,000 this year and paid $12000 in mortgage interest, your total net income will be reduced by the $12,000 ($75,000 - $12,000 = $63000). You will therefore be taxed on an income of $63,000. We have a full article on the topic of mortgage interest tax deductions.

What's more interesting is that the rich only borrow debt that they see has value. The richest 10% of Americans are half as likely to have credit card debts (only 22% of these people have $2000 credit card debts or less, as opposed to 44.5% of average & middle class people). Rich people are also less likely to have auto loans (25.3% of them do, as opposed to 45.2% of all average & middle class people).

To learn more about the advantages of mortgage interest tax deductions, read this article 15 Year Mortgage or the 30 Year Mortgage? We take a hypothetical person named Coree who has a $285,000, 15 year fixed-term mortgage loan and is paying current market interest rate of 6.2%. We show how Coree can use mortgage interest tax deductions to her advantage and have more cash savings over the longer term. That article is a must read before you concluse this one!

Because mortgage interest is tax deductible, the bottom line interest rate you would pay on your mortgage is actually lower than you think. Consider this example. Ken is in the 28% tax bracket and is paying 6.25% on a fixed 25 year mortgage term. The after-tax interest rate that Ken is paying on his mortgage is:

Instead of paying off their homes on which they are paying 4.5% interest rate, rich people will look to other investment sources where the returns annual returns are higher than 4.5%. And with a current bull market in commodities and exchange traded funds, there are many investment vehicles that can net you 10% - 20% a year if not more. This is how rich people look at their money; they think like banks. They are borrowing at a low 4.5% interest rate and investing and yielding a higher rate of return (10% - 20% a year). This is precisely how banks run and make their money.

The good news behind this is that almost anyone (average or middle class) can follow these principles and emulate the tactics of the rich people. Comments/thoughts? Post below!

Source: The facts in this article have been obtained from MoneyCentral MSN in an article written by Liz Pulliam Weston