This post is part of our Crushing Costs series which aims to summarise shortcuts to Financial Independence so you can work out what actually works well and which of these tools will help you achieve your goals. We also want to cut out some of the myths that people say will make you richer. To set the scene this has probably been the biggest lever I have pulled to reduce my annual expenses.
Housing is my biggest cost
My journey to Financial Independence has been an ongoing battle to try and lower my monthly expenses. The further I can drive these expenses down, the quicker my time to freedom. Frugality is one of the main pillars of Financial Independence. It should be simple, just don’t spend money. I describe my battle above as that’s exactly what it feels like some days. I’m fighting the desire to accumulate nice, shiny things! Luckily for me, I have been doing this a while and I know how to value what is worth spending my hard earned cash on (I’m nowhere near perfect at this yet). By driving your expenses lower this frees up spare cash to invest. The greater the gap between income and expense the quicker your wealth accumulates. When looking at my expenses the biggest item is housing by a long way or at least it was.
My home is my castle and I have always valued home ownership however, when reading articles and insight from the FI community it seems that not everyone agreed with me. Being the self-reflective guy that I am I decided to question everything I thought I knew. Why did I think owning a home was important? Is renting actually cheaper as you don’t have to pay for upkeep, stamp duty, broken boilers etc? What are the reasons others are promoting renting over ownership? All of this made me question what I thought I knew. After all the reading on renting vs ownership, either way, it would still be my most significant expense. I really wanted (and needed) to find a way to lower this single biggest item if I was to achieve my future financial freedom before I was too old to enjoy it.
I have achieved this through a very common method. There’s no wizardry here, except for me, a change of mindset. Historically, my financial goals were focused on paying off my mortgage as quickly as possible, as I wanted to crush my biggest expense. I shopped around to get the best rate, I lowered the term to effectively overpay each month and I made additional payments when possible. This plan worked well and helped me to grow the equity in my property. This made me very happy when I received my annual mortgage statement. On top of this I invested a little in individual stocks but nothing serious.
The problem was, my money was tied up in my house and I had little flexibility to withdraw the money. A significant chunk of my wealth was tied up in an illiquid asset.
Flexibility in your investment portfolio or assets is typically referred to as liquidity. The more “liquid” your asset the easier it is to change or spend. Cash is the ultimate liquid asset with property typically being at the opposite end. Converting property to cash is usually a time-consuming process.
As I fell deeper into the Financial Independence rabbit hole, my eyes were opened to investing in more. I wanted to invest heavier and start filling up my annual ISA & SIPP allowances. I have the additional responsibility of two children who seem to burn through money as quick as I could make it! So, a secondary factor was that I wanted more cash on hand to pay for any unexpected expenses.
How did I lower my housing costs?
I changed my mindset and did something that some in the FI community may consider unconventional, but I will explain my thoughts on the subject. I re-mortgaged to an interest-only mortgage, let me explain more. My old mortgage cost around £1,000 per month, it was on a low-interest rate and I had about 21 years left to pay the balance. I could have re-mortgaged on a repayment mortgage and kept to the same plan, 21 years down the line I would be mortgage free. Happy days. However, by re-mortgaging to an interest-only mortgage, my monthly payment dropped to £300, giving me an extra £700 per month to invest. This added a significant chunk to my savings rate as well as giving me the flexibility to use the cash elsewhere if required. But hang on, that gives me a 70% saving on my housing costs, not a mere 50% stated in the title.
Surely it wasn’t that simple?
Of course, the best-laid plans often go awry! My plan above worked on paper, however, getting an interest-only mortgage is really hard. Getting approved for the mortgage I wanted proved too difficult. I wanted to withdraw a chunk of cash from my illiquid asset so I could invest within the more liquid ISA wrapper. From what I could gather was that I would need to leave about £100k in collateral in my property and on top of that have an income greater than £100k to achieve what I wanted. This proved too difficult so I had to opt for an alternative. Instead of opting for a full interest-only mortgage I managed to qualify for a partial interest-only, partial repayment mortgage. The final amount payable each month ended up being £500. Not quite the original 70% saving I was hoping for but still a huge reduction. I was now spending more money on childcare than I was on housing.
I am now not paying anything significant off my mortgage balance so this is not a plan for everyone. When you take out an interest-only mortgage you are expected to pay the balance in full at the end of the term so you need to be investing or saving the spare cash and not spending it. My house over the next 5 to 10 years will hopefully keep increasing in value, meaning my equity should keep increasing. This is no guarantee, but I am comfortable with this risk. The house could go down in value and reduce my equity, however, I have no plans to sell in the short term and again this is a risk level I am comfortable with. I have a good chunk of equity left in the house that I have built up over many years. Without such a chunk, it would be hard to get a decent interest only rate and my comfort with the drawbacks would not be the same.
Could this work for you?
I have spoken to a few people before I executed my switch, most thought I was wrong to not continue paying off my mortgage in the traditional sense. For me, it took a while to come to the conclusion that this could work for me. There are plenty of American bloggers who recommend to rent and not buy a property at all. They highlight the drawbacks of maintenance and upkeep costs associated with homeownership and instead prefer the rental model where your monthly expense is consistent. The interest only model, for me at least, gave me exposure to free up cash flow, reduce my fixed monthly cost but still stay in the housing market to hopefully gain the benefit of my house appreciation over time. The aspect I like the most with my new setup is flexibility. I can now invest the additional money if I choose or if an unusual expense came up it would usually easily be covered by my monthly free cash flow. For that month I would simply invest less. I have always been keen to reduce my fixed monthly costs as much as possible and this has been a huge win for me.
The impact of such a drastic change to my annual expense has helped to reduce my FI number by around 150k (£500 per month less * 12 months * 25) or by at least 5 years. My strategy may change as interest rates rise and the cost to borrow money exceeds the return on my investments, however, this discussion in for another day.
This article is part of our “Crushing Costs” series. If you enjoyed reading this please like and share using the links below. If you would like to find out other ways we have saved money, please follow us. We generally hang out on Twitter and Instagram. Alternatively, leave your e-mail address to get notified when we release new content. See you next time.
“A big part of financial freedom is having your heart and mind free from worry about the what-ifs of life” Suze Orman (PS I choose this quote before the recent Paula Pant interview – read our take here)
Until the next time,
If you are looking for more articles on reducing your expenses you may like our article on packed lunches.