Pick a Pile
Weighing the fastest ways to pay off my real estate debt
Losing my job at the beginning of 2021 was the best thing to ever happen to me. Mainly because of a severance package, which after months of negotiating amounted to a full-year salary tucked into my bank account.
I’m not gonna lie, I was tempted to take a year off. Live on my severance, write, read, cook, do yoga.
Instead I decided to put this money to work.
I paid off my line of credit, contributed to my retirement savings and tucked away some money for an upcoming bathroom reno.
Most importantly, I finally topped up my emergency savings account.
Which means 12 years after getting my first mortgage, I’m finally in a position to aggressively tackle this debt.
I have two properties in downtown Toronto: one I live in, the other I rent out.
On paper I’m a millionaire. But this is misleading. Two-thirds of this “wealth” is actually mortgage debt.
Snowball versus Avalanche
For years I used the avalanche method of paying off my consumer debt.
With the avalanche method you pay the minimum on all debt and make bulk payments on the debt with the highest interest. Typically your credit card.
Once I got my credit card balance to zero I changed my spending habits to make sure I never carried a balance. This freed me up to make bulk payments on my line of credit.
With historically low interest rates, many personal finance experts caution against focusing on mortgage debt at the expense of other priorities. Financially you will always be better off if you have an emergency fund and low consumer debt.
With both of those taken care of, thanks to my severance windfall, I’m finally in a position to address this mountain of debt. But when managing two mortgages on two properties, which one takes priority?
Mortgage Debt is Different
There are some things to consider. For one, your credit card or line of credit don’t have penalties if you pay off faster. Your mortgage does.
There are also fees in refinancing your mortgage, which is how you can keep mortgage payments low as you chip away at your principle.
If I were to apply the avalanche approach to my mortgages, the one for my primary residence would win. It’s a five-year fixed rate, and 1% interest point higher than my variable rate on the rental. It also has a higher principle.
Paying down the primary residence would give some breathing room to my personal budget.
In theory.
In reality, I would end up costing me to pay down the principle, in the form of fees and penalties. Monthly payments would be lower, but at what cost?
In the case of my two mortgages, the ROI is beyond simply saving on already low interest in the long run.
Cashflow is Queen
I’ve been renting out my income property for almost three years. The rent covers the carrying costs of that property plus a modest cashflow.
For years this cash flow helped build my emergency savings. Now it can go to where it really counts — paying down mortgage debt.
So for now, I’m choosing a variation of the snowball approach. The principle on the rental is lower, so it won’t take as much time to aggressively pay it down. Plus, it opens up more cashflow, which can go back into paying down the mortgage.
Cashflow and passive income is the end game for this real estate investment. Yes, both properties are growing in value. But you can’t pay for groceries with real estate comps.
