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Borrowing to Invest

Discussion in 'Other Off Topic Forum' started by Dom, Feb 10, 2004.

  1. Dom

    Dom F1 Veteran
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    Nov 5, 2002
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    Dom V.
    Scenario: $600/month to invest in nonretirment account (already maxed out 401k and IRA). LONG TERM INVESTMENT (i.e. 5-10 years or more)

    Fund: Vanguard Primecap or similar (i.e. stable mutual fund- 10 year rate of return ~14%).

    Option 1: Simply keep putting in $600/month (or more as yearly income increases)

    Option 2: Borrow $150k from HELOC at 4.9%. Payment would be ~600/month. Place money into fund. If successful, in 10 years when principal is due you can pay it back and then some (or refinance again, etc.)

    Option 3: Screw it all, get HELOC money, and buy a slighlty used 360 (OK, just kidding on option 3).

    Basically, since about 1994, I've been putting a monthly amount into this fund (I think back then it was only $100/month). Have gotten pretty good results, took out a good chunk couple of years ago for downpayment on a house, etc.). I know that option 2 is risky, but if I'm willing to take that risk:

    Is the better strategy to put money in a little at a time, or to put in a big chunk of money initially, and pay back a loan?

    Dom
     
  2. PeterS

    PeterS Three Time F1 World Champ
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    Why toss option 3? It sounds that you have been very good with your money for a long time. Whats wrong with a little reward? I am serious!
     
  3. Slim

    Slim Formula 3

    Oct 11, 2001
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    richard
    I'm in a similar situation. Buy a house with huge cash down (thanks to my stupidity in the dot com years that's probably the only way for me right now) and stop paying rent, or keep the cash and invest it and consider the continued rent just the price I pay for borrowing from myself.
     
  4. Dom

    Dom F1 Veteran
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    Peter

    Actually, my reward was my 308 GT4. Personally, I don't feel like I make enough, or have enough assets to buy a 360. At this point in my life, I'd rather invest my money so that in 10 years, perhaps I will feel comfortable buying something like a 360.

    Dom
     
  5. JaguarXJ6

    JaguarXJ6 F1 Veteran

    Feb 12, 2003
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    I'd get a rental property. Unless we have a 9/11 incident in the area of your property, its safe to say in 10 years you will get at least your money back and then some. Let someone else pay the 700/mo while you keep the property and collect on the equity.

    Sunny
     
  6. Dom

    Dom F1 Veteran
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    Not really interested in rental properties. Housing in California at this time is outrageous, and I just don't want to get into it. Remember, we are talking about $150k here. You can't buy much here for that kind of money. Also, I don't want to be a landlord, since I have a full time job that I enjoy, and the rest of my time I'd like to spend with my family.

    Also, remember, this money would be put into an investment that pays a pretty good return. I suppose I could sell of some of the fund each month to pay off the loan, but I don't want to at this point.

    Dom
     
  7. Dom

    Dom F1 Veteran
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    Doing some number crunching:

    The rule of 72 says that at 10% return, you would double your money in 7.2 years. Therefore, $150,000 would become $300,000 in about 7 years.

    If you put $600/month x 12 months= $7200/year x 7 years= $50,400. What I don't know, however, is how much interest would be earned, since the amount compounded would vary each month as I add a new deposit. I've searched for some calculators on the internet, and so far, the only calculator I found suggested that $600/month for 7 years at 10% would equal about $72,000.

    This suggests going with option 2 if you can handle the risks. Comments? Am I missing something? Taxes?

    Dom
     
  8. MikeZ_NJ

    MikeZ_NJ Formula 3

    Dec 10, 2002
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    Try the "How much will my savings be worth?" on Fool.com's calculators site:
    http://www.fool.com/calcs/calculators.htm

    Main issues are:
    - Fund return rates are not guaranteed.
    - Is the HELOC fixed or variable? (I'm assuming fixed...)
    - What if something happens and you can't make the payments?

    Why not split it - take out a HELOC for $75K, and feed $300/month in? Best of both worlds. :)
     
  9. Mako99

    Mako99 Formula Junior
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    Dec 29, 2003
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    HELOC ADVANTAGES:

    1. The Fed isn't expected to raise the prime lending rate for another year at least. When they do, it will be in the same small .25% increments that it has been for the majority of the past five years.

    2. Speed. A Heloc is a simple loan, it rarely requires an interior appraisal or full tax returns for income verification. You could be on your way with a check in hand in three weeks from today.

    3. Tax deduction. This varies for everyone based on whether you're a W2 employee or you own your own business, but for 90% of the people in the US, ANYTHING THEY BUY using the Heloc becomes fully tax deductable.

    HELOC DISADVANTAGES:

    1. These are variable loans, and under times of economic expansion (as in the late 90s with the .com "irrational exuberance") they can move up to 3% a year. Most states cap them around 12%, so be aware of this. You don't want a massive HELOC sitting on the house gaining 1.5% a year, because refinancing the whole amount will NOT save you. Rates are expected to rise this year, and while 1st mortgages are under 6% currently, they won't be forever. Expect 7.5% by year's end, if Q3 and Q4 show growth. What this means is that you'll have to refi out of the HELOC and into a new singular loan that's at a higher interest rate than your previous 1st mortgage was prior to the HELOC. NOT a good thing.

    2. Even though these loans are under 5% currently, the interest hits the principal far more frequently then it does on a standard fixed home mortgage, so they are not comparable. They're better than a similar compound interest level from say a credit card however. For basic purposes, I tell clients that a 5% HELOC is roughly comparable to a 7% fixed mtg, and that's fairly accurate.

    That's about it really, HELOCs are great loans, fast, easy, etc, but I always recommend that the person taking one out have a disciplined exit strategy that eliminates it by the end of year five. Anything past that is very risky.

    Mako "The308/456/550hatingTroll" 99
     
  10. Dom

    Dom F1 Veteran
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    Yep, that's the calculator I looked at (For the purposes of the calculation, I assumed taxes and inflation at 0%). Came out to just over $72,000.

    Main issues:
    1) Return rates not guaranteed: Yes, that's true, however, it is a risk I am willing to take, based on my prior history with the fund. I understand I will have bad years (and I did during the dot com bubble), but believe if I "stay the course" I will come out ahead in the end.
    2) HELOC- Currently variable, but will refinance to get a fixed (albeit slightly higher) rate
    3) Something happens- Probably the riskiest part of the whole equation.

    4) Option to split it: Maybe the best option. I already have done this with $50k in a different fund, and its been successfull so far. My problem now is I want more. You saw the calculations. I feel like I save and save, and never really get all that much ahead. $72,000 is 7 years isn't going to buy me a new 360 (or whatever the new model is in 7 years).

    I grew up with the notion that you need to save money. Then, when I was in grad school learned that saving was not enough, need to invest money. Now, I'm finding that investing is not enough either. I need some way to seriously leverage my money.

    As I explained above, I have a job I enjoy for the most part. I don't have time for a part time business or to be a landlord. What other options are there to get ahead?

    Dom
     
  11. Dom

    Dom F1 Veteran
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    Thanks Mako99 for your opinion. See, even trolls can be helpful :)

    Dom (lowly 308 GT4 owner)
     
  12. MikeZ_NJ

    MikeZ_NJ Formula 3

    Dec 10, 2002
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    I hear you, and I look forward to the route that this thread will take... I'm fresh out of school and also trying to "get ahead" so to speak. Everywhere I look, though, the money seems to be in Real Estate - ever thought of owning and hiring a property manager to do the legwork?

    I'm very interested in other's opinions on this topic. I recently did something similar... I'm finishing up grad school right now, so I took my student loan refund and put it in a Roth IRA - I didn't have the cash to invest (for a bunch of reasons), but I wanted to put something away that would grow and be tax free when I take it out. Since I'm only 23, the yield should be a LOT greater than the ~4% interest on the loan.
     
  13. Dom

    Dom F1 Veteran
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    The problem I have with real estate is the cost here in california. Maybe if I could find a place for $100k, but there really isn't too much out there. I've thought about possibly trying to buy something in Las Vegas, then hiring a property manager, but it seems really risky to me, since I'm not in the area.

    Also, it scares me a little to see that everyone is saying the money is in real estate. By the time you get to the point where "everybody is doing it", it's probably too late. I'd like to be ahead of the curve if I can.

    Dom
     
  14. MikeZ_NJ

    MikeZ_NJ Formula 3

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    You might want to check out:
    http://www.fatwallet.com/forums/categories.php?catid=52

    LOTS of great info and people there. Somewhere, buried in the threads, is a gigantic thread on real estate rentals/investments - the guy who started it and owns a bunch of properties owns them in California.

    It's an extremely valuable resource, and the people are very creative with ways of making money (not just through RE).
     
  15. benedict

    benedict Formula Junior

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    Mike, also check out www.creonline.com. A tremendous resource for creative real estate investing. (no affiliation by the way)

    Ben
     
  16. Dom

    Dom F1 Veteran
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    Thanks for the links. Maybe I'll post the same question there to see their responses.

    I am about 95% certain I will go with option 2. I already have 50k taken out and put into 2 funds, both are doing well. So, I'll just up the money, and then use my $600/month to pay back the HELOC.

    Dom
     
  17. PaulC

    PaulC Formula 3

    Feb 11, 2003
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    Be sure to find out the terms on the HELOC. I just just left a bank for what I thought were "unfriendly client practices". The HELOC had a per month payment of 1% of the outstanding debt, then the interest rate was in addition to the monthly minimum payment. I was not on the bank side, but this is how it was explained to me. In fact the bankers I worked with would not offer the product to clients because it was so costly.
     

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