An interesting conversation
My mortgage statement arrived the other day.
I still owe about six million yen, to be paid back over the next twenty years and four months. The interest rate is still a floating 0.5%, the same as it was when I took the loan out. The monthly payment is just under 30,000 yen, with about 3,000 yen of that being interest and the rest going towards the principal.
My wife saw the envelope and asked me why I don’t just pay it off entirely now.
After all, we didn’t qualify for the mortgage tax refund (building was slightly too old and I didn’t secure the necessary paperwork), we have the cash to easily pay it, and I do always say that I hate being in debt and don’t intend to borrow money ever again.
Why wouldn’t I pay it off?
Opportunity cost
One of my favourite concepts in economics, opportunity cost basically means asking the question: “what else could I do with the money/time/resource?”
The answer in this case is that we could invest the six million yen instead of using it to pay off the loan. Actually, in our case we could leave the money invested instead of using it to pay off the loan.
Over the twenty years of the loan, assuming the money was invested in a low-cost, diversified index fund like the popular eMaxis Slim All-Country fund (annual fee 0.05%, invests in the MSCI all-country world index) I would expect it to roughly quadruple.
The historical average annual return of the MSCI ACWI since 1987 has been just over 8%.
By using the rule of 72 we can estimate that an investment that grows at 7% will roughly double every ten years.
Over twenty years it would double twice, so we might expect to end up with something like 24 million yen in 2044, the year that the mortgage is due to end.
On the other hand by paying off the mortgage we would be saving on the interest due on the loan, which is currently around 3,000 yen a month. This will fall over time though, as the outstanding amount of the loan goes down. Let’s assume it remains at 3,000 yen though, so we would save 244 months’ worth of interest, or 732,000 yen.
We could also invest the saved interest. Let’s call it 3,000 yen a month to keep things simple (in reality it would go down slightly each month so would be less). Investing 3,000 yen a month for 244 months at 7% would give us just over 1.5m yen. Adding this to the interest saved gives us about 2.3 million yen.
24 million yen is much more than 2.3 million yen, which is why I am keeping the mortgage and investing the money instead of paying off the mortgage.
Other benefits
There are other benefits to keeping the mortgage. One is that having an outstanding loan that you are paying back regularly will show up on your credit report and may make it easier for you to do financial things in the future.
Another is that my mortgage comes with life (and cancer) insurance. If I die or if I get certain types of cancer, the outstanding loan will be paid off by the insurance. My wife (or my family) would get to keep the manshon and the investments.
If we had paid off the mortgage there would be no benefit to me dying 😉
The bigger lesson
I hope this boring little story explains why I am so passionate about trying to get people to start investing. Doing so early so that you can leave the money to grow as long as possible could make a huge difference to your life, and if you do so in a NISA account you don’t have to pay any taxes and get to keep all your profits.
This is huge and could well be the only thing most people need to do in Japan to secure their financial future.
If you want to learn more about NISA, you might want to check out our bestselling Guide to NISA 2024 here.
Even investing ¥30,000 a month for 20 years would grow to ¥15m in 20 years at 7%. But I have a simpler lesson: my father-in-law had insurance like you but decided to pay off their mortgage anyway as soon as he retired. He then promptly died. Mother-in-law had many years to regret that.
Ouch. Sorry to hear of your loss.
Good point about investing, but I think you should only calculate the interest payment as potential investment, as that is the cost of having the mortgage. You eliminate the principal by paying the mortgage.
But thanks for the tip! Will be rewriting the post to include that 🙂
Thanks for this post. I have 13 or 14 million outstanding. I pay just under 1%. We are 8 years into a 35 year loan (24 million originally). What’s my best option? BTW, I just bought the latest NISA guide but I haven’t finished it yet. At the moment we are paying into a type of insurance policy that makes whatever we pay tax deductible. There are some viable reasons for us to effectively be poor by “reducing” our income by investing in this insurance policy.
Alan, can you say more about the insurance you mention? Sounds interesting.
Let me check and get back to you on this.
This is one： https://www.smrj.go.jp/kyosai/skyosai/
That is the government’s small medium business savings scheme (retirement bonus scheme). It is only available to self-employed people and business owners.
Really good tax reduction scheme, my wife uses it.
We use it , too. There is another similar one.
Just another comment about the mortgage interest. It’s not just saving interest by paying it off. That 3,000 yen that you would be normally be spending every month can be invested every month as well. I’m not sure if it would add up to anything significant, though.
That is a great point. I’m going to work that into the post.
Cool. I didn’t get notified of updates to this thread so I’m commenting again.
The case for not paying off a mortgage is completely rational in your situation. But I can think of a good argument for paying it off too. Say that you are retired, have more than enough income to cover all of your regular expenses as well as luxuries such as regular foreign travel, concerts and fine dining, then why keep the mortgage? You don’t need any more income and the peace of mind of being debt-free is invaluable. Also, I am old enough to remember repaying a bank loan at 17-18% just over 40 years back. Those days may return!
I always say personal finance is personal, and if someone runs the numbers and still wants to pay the mortgage off to feel better, great.
But be aware of the numbers before making the decision.
I’m not sure your scenario makes logical sense, because if you have the money to pay the mortgage off you could pay it off at any point (if interest rates went up massively, for example) and you also have access to the funds. I agree that peace of mind trumps logic, but I don’t find having a small mortgage stressful in any way.
I totally agree that my stance is illogical. But I’m the type who is bothered by debt, deadlines and the like. Now in my later years after decades of stressful life, I will happily pay for any peace of mind I can afford.
Agree with you Ben!
Paying off would set you at least one step back.
In case you pass away the loan will be paid in full due to the insurance (same here).
I assume you’re around 50 (young man you are) looking at those roughly 20 years to have your house paid off.
As for us, it’s another 2.5 years (10 year loan, 10 million Yen, monthly payments roughly Yen 80.000), so soon it will be over (those payments, of course).
So, for the time being putting a small monthly amount in my S&P500 ETF, which will help some time later.
Sorry if you have answered this question in previous blogs, but why did you decide to buy a house in Japan in the first place?
Everything I read about real estate in Japan tells me that homes depreciate and are not an investment like they are in other countries. So, I’m with your wife this time. If you already decided to spend many millions of yen to buy a home that will depreciate instead of putting the money into the market to earn more, why mind the opportunity cost of the last six million remaining in your mortgage?
Not trying to be judgmental, your ideas about finance have been very useful for me, and I just want to understand the logic behind this one.
We bought our home because we got a great deal for it. Homes in Japan are very reasonable to buy, and often the total cost of ownership is lower to own than to rent. For us, the cost of the mortgage plus taxes, fees, etc. is much less than the market rent for this building. This is partly because home prices don’t appreciate the way they do in some countries. Good for people who want to buy a home, not as good for people who own them already.
As long as you are going to live there for at least a decade or two, buying a home here can be a great decision.
It is not an investment, but homes rarely are. After all, you have to live somewhere, it might as well be somewhere you like and have control over.
It can be difficult to rent in Japan if you are foreign or if you are older. I would not want to be looking for a place to rent if I were old and foreign, for example.
Ben, thank you for your response, and I apologize for the late reply. I’m not sure why, but I didn’t receive a notification about your reply.
Appreciate the explanation. If you got a great deal and you’re not considering your home an investment, it makes total sense.
I grew up in a country where buying a home is one of the safest ways to invest in real estate and increase your net worth over time. Perhaps that’s why I have a hard time accepting that something with the price tag of a home in the place where I live now (outer Tokyo) will depreciate over time.
The cheapest new apartments I see around start from 58 million yen, so I cringe to imagine that after paying all that money, it will become less and less valuable.
You need to take the entire picture into account: total cost of renting vs total cost of buying, quality of life, eventual resale value (unlikely to be zero), dealing with landlords, etc.
Once you have all the data you can make an informed decision.
For many people, including the mortgage tax refund, it is cheaper to buy rather than rent as long as they stay there for the long term, and then the extra money can be invested. But not for everyone.