Introduction
One of the questions many home buyers struggle with is what the right mortgage amount is for them. Intuitively, most people think it is best to take as small a mortgage as possible. It also sounds natural – small mortgage = low payments and/or a short term. We will easily keep up with it and also finish it quickly.
And this is where I want to shatter the myth.
A mortgage is cheap money
A mortgage, even at today's interest rates – is cheap money. What does this sentence actually mean? The average mortgage interest rate is around 5% a year (as of November 2024) and there is a not insignificant chance that it will drop in the coming years.
Why does this matter?
Because if I have relatively high equity (down payment) – I can take a maximum mortgage, not use all my capital and invest the rest. The return on the investment will almost always be higher than the cost of the mortgage.
In other words – every shekel I invest will earn more than it costs when I take it as a mortgage. Since this sounds complicated – there are examples further on.
An important condition!
All of this is of course true provided that we can keep up with the mortgage payments and are not in negative cash flow (expenses greater than income)!
An abundance vs. survival mindset
I rarely write something so decisive, but in this specific case – it simply breaks my heart to see people putting money into the walls and in effect wasting it out of a mistaken system of beliefs and perceptions. You can do such beautiful things with this money...
Taking a small mortgage is a mindset of survival and scarcity.
Keeping the money and letting it work – is a mindset of abundance and growth. That is how people become rich.
The financial logic
Let's start with the financial part and the cost-benefit calculations, and first of all, let's explain the logic. When we have a mortgage, we pay both principal and interest. This means the principal gets smaller every month (in CPI-linked tracks it grows in the first years and only later shrinks), so we pay interest on an amount that keeps going down, and the interest itself keeps going down too. Not the interest percentage, but how much money it comes to each month.
In contrast, when we invest – we get a return on an amount that keeps growing every month because of the compound interest effect. Of course – the world is not a perfect place and our investments do not really grow every month, but when investing in the S&P 500 for the long term – they rise by 9% a year on average. If our mortgage is for 20 or 30 years – that definitely counts as the long term. If we want something less risky – we can invest in a general track whose return is "only" around 5% a year.
A numerical example
We will play with 500,000 ₪, but the principles of course apply to any amount.
Suppose I have a million shekels of equity and I am buying an apartment for two million. If I take a mortgage of one million for 30 years at a fixed unlinked interest rate of 5%, over the full 30 years it will cost me about 932,000 ₪. In other words – I will pay the bank back the million I took plus another 932,000 in interest.
What happens if I take 1.5 million and invest the extra 500?
The 1.5 million will cost me 1.4 million, i.e. an extra half a million on top of the original cost (a little less, but not critical). And the 500 I kept?
If I invest them in the S&P, at 9% a year, they will turn into 6.6 million! After tax – 5.1 million! Minus the 500 I invested, that comes to more than 4.6 million. Net profit after tax. In other words – if I take a small mortgage – I gain 466,000 shekels (the difference between the cost of one million and the cost of one and a half million) and lose 4.6 million!!!!
And what if I want to sleep well at night?
And I'm afraid to invest in the S&P? Then I will invest in a "general" track that gives "only" 4.5% a year (note – a return lower than the mortgage interest rate). In such a case, in 30 years, I will have a little more than 1.5 million after tax. That is – a profit of 1,000,000 ₪ against a cost of 466,000.
Comparison table
| Amount | Interest | Term | Monthly payment | Total cost | Cost of the addition from 1 million to 1.5 |
|---|---|---|---|---|---|
| 1,000,000 | 5% | 30 | 5,368 | 932,558 | - |
| 1,500,000 | 5% | 30 | 8,052 | 1,398,837 | 466,279 |
| Amount | Return | Term | Net amount at end of term | Net profit |
|---|---|---|---|---|
| 500,000 | 9% | 30 | 5,100,379 | 4,600,379 |
| 500,000 | 4.5% | 30 | 1,529,494 | 1,029,494 |
The winning argument - flexibility
And what if we want to sleep really well at night?
Let's think about the following: if I keep money with me, I can always pay off part of the mortgage. Whenever I want. In a week, a year, five years or ten years. If I took little – I cannot take the money out of the walls. It is possible, but difficult and much more expensive than a regular mortgage.
In other words – taking more than I need is a reversible decision. Taking little – is a one-way street. And if we keep the money with us – we have money. If we need it (and not just because we feel like a trip abroad) – we can use it. In case of losing a job, a serious medical problem, heaven forbid, or any similar situation.
Summary
When you take a mortgage – think like rich people! Think about what this money can do for you! When you take a mortgage – think like rich people! Think about what this money can do for you!