- The Washington Times - Friday, June 12, 2009

Q. My wife and I are the proud parents of our first child, and our lives have obviously changed. She is no longer working, so our income has dropped considerably. We own a town home and hold an FHA loan in the amount of $220,000. Our property is probably worth the same. Through savings and a small inheritance, we have about $150,000 in cash. I am considering refinancing the 6.50 percent Federal Housing Administration loan to a conventional loan and reducing the mortgage debt to 80 percent of the appraised value. This would reduce our rate to 5.50 percent, eliminate the mortgage insurance premium and drop our monthly mortgage payment by more than $500. My friend says it would be stupid to put almost $50,000 into a house in this market, but I’m not so sure. A $500 decrease in monthly obligations would really help us. I read your column every week and trust your advice. What do you think?

A. Thanks you for reading my column. In fact, I couldn’t disagree more with your friend because he doesn’t understand. “Putting money into a house in this market” sounds to me like investing in real estate. This is not what you are contemplating. You are not buying real estate. You already own your property.

Your question has to do with reducing your personal debt by moving assets from one place to another. In your case, it involves taking $50,000 from a savings account and creating $50,000 worth of equity in your home. On paper, your net worth remains the same. Your bank account is reduced by $50,000, but your mortgage debt is reduced by the same number.

I get these kinds of questions all the time with people asking, “Why would you pay down a mortgage when property values are dropping?”

My reply is the same: The market doesn’t know and doesn’t care whether you have a mortgage on the property. Market forces will dictate what your property is worth in the future, not the amount of the mortgage. I get the impression that a lot of folks don’t understand this concept.

Let’s get back to your question. For several reasons, I think that, indeed, you may be making a good move to refinance.

First, you are in a position that requires cash-flow relief. A reduction in monthly obligations is important when your inflows drop.

Second, refinancing from 6.50 percent to 5.50 percent will result in a considerable annual interest savings.

Third, taking $50,000 in cash and transferring it to your home’s equity doesn’t put you in a financially imbalanced position. You still have plenty of liquidity.

Fourth, there is evidence that the depressed stock market is not yet in recovery mode. The opportunity cost of taking $50,000 away from stock speculation probably is zero.

Look at it this way: You tell me that your monthly payment will drop by $500 if you pay down your mortgage by $50,000 and reduce the interest rate. That’s equal to $6,000 per year or 12 percent annually. Here’s my question: Where else can you invest $50,000 and make 12 percent on a safe investment?

When you sell your home, you will turn that $50,000 back into cash. You may have to wait until the market turns before you upgrade your home, but it will happen eventually. Meanwhile, there’s nothing wrong with reducing one’s debt during stagnant economic times.

• Henry Savage is president of PMC Mortgage in Alexandria. Reach him by e-mail at [email protected]

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