Friday, April 27, 2007

How to choose a mortgage offer

When my wife and I decided on a house, we needed to choose a mortgage. It was easy to get offers, but it was very difficult to compare them. Someone has said the house isn't your most expensive purchase -- the mortgage is -- because the mortgage can end up costing more than the house over its lifetime. This is a simple system I decided on to rank mortgages.


  1. Collect all the fees, charges, points, down payment, etc. that have to be paid at closing. If the Lender pays some of the closing costs, add these in, too. (Of course, those should be negative numbers, since the sum we're making here is a cost.)Call the sum of these numbers NRC (for non-recurring charges).
  2. Determine a comparison time duration; for me, that was five years (60 months); this value is months. This number should reasonably be the minimum amount of time you might spend in the house.
  3. Determine the monthly payments for principle, interest, and any other fees required; this is MRC (for monthly recurring charges).
  4. For each mortgage offer, calculate a total cost of cost = NRC + months × MRC.
  5. Choose the mortgage with the best marketing graphics.


Points is a term for interest that's paid at closing. Why on earth would you do that? Because the lenders will give you a discount on the annual mortgage interest rate in exchange for getting some of their cash up front. They've got cash-flow issues too. There's usually a break-even point; if you pay points and keep the mortgage only a few months, you'll come out behind; but if you pay a bit in points up front and keep the mortgage several years, you'll likely end up paying less.

But Mark, you might be saying, The down-payment is a variable, and the points you pay is a variable -- you can choose both of them. They're really bounded only by how much money you have in the bank. So how do you perform the procedure above with these two almost-free-variables? It turns out the down payment and points is not a free-variable at all -- they actually make you pay that money. It can be very expensive. To figure this part, I determined the minimum amount of money I wanted to have leftover for an "emergency fund", and to cover expenses of the move. The remainder of my cash was what I put into the points and down payment. Then for each of the offers, I got a few quotes from the bank. They usually came in the form of "Pay XX% in points, then the interest rate will by YY%, making a monthly payment of $MMM". I think I got four different such combinations from each of the leading lenders, including one that was 0% points.

This system isn't perfect; for example, the marketing graphics may be poor for a good lender. Not only that, it doesn't account for the tax deduction you can get in money paid in points. To do that, you'd actually have to work hard, estimating your tax rate, and subtracting from the amount you pay in points the discount in taxes you'll get for paying those points. I'm fairly sure that'd require algebra, and this was intended to be a simple guide.

Ultimately, it turned out that Bank of America was the cheapest. That was actually shocking; it was impossible for me to see that through all of the different fees and charges. But when I figured out the five-year cost of the mortgage, BoA was the cheapest by several hundred dollars. It was also shocking how close many of the offers were to each other, even though their rates and points and fees all varies so much going in.

Monday, April 16, 2007

Car Buying Notes

We just picked out a Honda Civic. Here are some things I noticed about the process:

  • We dealt with three different sales shmucks. Only the last sales shmuck was helpful. At the Honda dealership in Valdosta, I had bad experiences with the sales folks being unhelpful. Of course, I've found unhelpful Toyota sales folks too.

  • I talked to two dealerships; one of them wanted me to drive to his dealership before they'd take my offer. We had already visited the other. Even when you don't need dealer financing, it's hard to get taken very seriously over the phone.

  • The dealers wanted me to make an offer...they didn't want to make me a quote. I thought this was odd.

  • Consumer Reports shows that Honda dealerships get 3% holdback on the invoice price of the car; i.e., after they sell the car, Honda credits the dealer 3% of the sales price. That's how they can sell it at or near their invoice price. But the Honda dealership here said that Honda had recently changed the holdback to 2%. I wasn't sure whether to believe him.

  • I accidentally looked at the wrong price on Consumer Reports' site -- I offered based on the price of a manual transmission. Yes, that was somewhat too low to be reasonable. When they told me it was too low, I looked at my data again and found my error, then made another offer -- this one stuck. Perhaps the first one sounded so crazy that they were more ready to bite on a reasonable one? (Could this be related to the the "Dominated Alternative" phenomenon that Behavioral Psychologist Dan Arieli of MIT has spoken about? i.e., given options A, B, and Z, where A and B are similar prices, B is clearly the worst, and A and Z are similar value, people will often choose A, even if A is somewhat costlier than Z).
  • Saturday, April 14, 2007

    It's hard to buy on debt, wisely

    It's hard to buy on debt wisely, for me. Here's the problem: if I have the money in the bank, and by spending it, it'll just go away, then I can reason about its value.

    But suppose I have to buy a car, and I can almost pay cash, but I'll need to borrow a little -- $1500. For only $1500 more, I can get the superdeluxe version. It's hard for me to say no to the superdeluxe version, because that $1500 difference just doesn't feel like real money. And especially so if I'll be paying for it over a long period of time, like years.

    I can get the use of that money now, for years, and feel the cost smeared out over the next four. It's hard to refuse.

    Of course, it's real money. My only technique so far for handling it is to make a list of other things I can buy for $1500. But the problem here is that, unlike the superdeluxe features of the car, I won't be able to buy them until the end of the several years.