Portfolio CHECK-UP

September 16, 2008
Thomas R. Kosky, MBA

Physician's Money Digest, April30 2003, Volume 10, Issue 8

Name: Paul Kerkman, MD

Residence: Alabama

Age: 34

Family: Married, no children

Years in practice: 3

Type of practice: General practice

Annual income: Undisclosed

Savings: N/A

Financial concern: Dr. Kerkman is thinking about becoming a first-timehomebuyer. With the stock market currently in the tank and mortgage interestrates, which are tax-deductible, set at the lowest they have been in 40years, now seems to be the perfect time to purchase a new home. Dr. Kerkmanwants to know how much he should put down toward the home purchase andwhether he should finance the balance for 15 or 30 years.

The Finance Professor's Solution

From a purely economic perspective, it is more advantageous in this currentinterest rate environment for Dr. Kerkman to finance more of the home purchaseusing someone else's money (ie, the bank's) over a longer period of time.This makes sense, since Dr. Kerkman is in a relatively high tax bracket and theinterest on the mortgage becomes a tax-deductible expense.

For instance, on a $200,000 mortgage, the monthly principal and interestpayments would be:

15-year fixed @ 5.0% $1582

30-year fixed @ 5.7% $1161

In other words, if Dr. Kerkman pays off his mortgage in 15 years instead of30, his monthly mortgage payment would be increased by $421. Does thismake the best sense from an economic perspective? Not necessarily.

Suppose Dr. Kerkman is in a 35% tax bracket. Because the mortgage interestis tax-deductible, the after-tax cost of the loan is 3.25% on the 15-yearmortgage and 3.70% on the 30-year mortgage. Therefore, if Dr. Kerkman tookout the 30-year mortgage and made a conscious effort to invest the monthlydifference of $421 in a tax-deferred vehicle that was protected from creditorsand earned a rate of return that exceeded the after-tax cost of his mortgageloan (ie, in this case, greater than 3.71%), then he would be further ahead ofthe game. Consequently, Dr. Kerkman should choose the long-term financingoption rather than putting more of his own money toward a down payment,and finance the difference over a shorter period of time.

For more information, call Mr. Kosky at 800-953-5508or visit www.assetplanning.net.

Thomas R. Kosky and his partner, Harris L. Kerker, are principals of theAsset Planning Group in Miami, Fla, specializing in investment, retirement,and estate planning. Mr. Kosky teaches corporate finance in theSaturday Executive and Health Care Executive MBA Programs at theUniversity of Miami.