Mortgage vs. using cash to buy a house

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BSA44
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Mortgage vs. using cash to buy a house

Post by BSA44 »

How high would mortgage rates have to go to make it worthwhile to buy a house using cash (assuming the cash is available)? This would additionally assume that there is no penalty for using cash (e.g., it's not being withdrawn from a retirement account).

I intentionally left this question vague, as I am curious on the different contingencies. If a specific scenario is needed, assume that a couple wanted to buy a $400k house. They have sufficient retirement funds in 401k/Roth accounts, and additionally have $500k in taxable stock/bonds (85% stocks/15% bonds).
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Re: Mortgage vs. using cash to buy a house

Post by docneil88 »

Andrew0504 wrote:How high would mortgage rates have to go to make it worthwhile to buy a house using cash (assuming the cash is available)? This would additionally assume that there is no penalty for using cash (e.g., it's not being withdrawn from a retirement account).

I intentionally left this question vague, as I am curious on the different contingencies. If a specific scenario is needed, assume that a couple wanted to buy a $400k house. They have sufficient retirement funds in 401k/Roth accounts, and additionally have $500k in taxable stock/bonds (85% stocks/15% bonds).
Having the cash currently available is one thing. Not needing it for the next 10 years or so is another. I think you need to assume both before considering buying the home in cash.

When I bought my home, I had the liquid assets to pay all cash, but did not do so because I thought it likely I'd need most of the cash over the next ten years or so. So, instead I used a 30% down payment, since I didn't think I'd need that cash over the next 10 years or so. That size of downpayment helped me get a loan, and a loan at a low rate.
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JoMoney
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Re: Mortgage vs. using cash to buy a house

Post by JoMoney »

I like the answer above... it depends on what you thought your short term needs for liquid cash would be.

I would want to make sure I had a liquid cash "emergency fund" big enough to cover a major house expense like a plumbing disaster, or to get me through a few months of no income while I found a new job or sold the house etc... If paying off the mortgage wouldn't leave me with that security, I wouldn't do it.

It might also depend on your outlook for whatever alternative you thought you would be putting your money in.
The radio personality "Dave Ramsey" says: "Would you mortgage your house to buy stocks? Keeping stocks instead of paying off your mortgage is the same thing."
Another financial radio host "Ric Edellman" is a strong advocate for people to mortgage their house to buy stocks.
How high would bond yields need to be for someone to sell all of their stocks and buy bonds?
Different people are going to have different views on what their risks and potential opportunities are.
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Re: Mortgage vs. using cash to buy a house

Post by Harold »

The act of buying a house itself increases your risk (your asset could burn down, someone could get hurt on your property, etc.) If you take on a mortgage, you increase your risk further because you might lose your home asset along with any mortgage costs/payments. If you invest in higher risk investments rather than paying off your mortgage, you increase your risk further (particularly since you aren't getting full payment for your risk because of mortgage costs).

All that may well be fine, acceptable, and appropriate for your situation. But it points out that your question is at its core a risk decision.

As a risk decision, there is no fixed numerical answer to your question. The numerical answer depends on how your mortgage rate (adjusted for any tax deduction) compares with current market pricing for equivalent risk, which varies. Assuming the market is appropriately pricing risk, and assuming that one is not intending to ratchet up risk -- cash is generally the better choice.
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Re: Mortgage vs. using cash to buy a house

Post by ayitey »

Harold wrote:The numerical answer depends on how your mortgage rate (adjusted for any tax deduction) compares with current market pricing for equivalent risk, which varies. Assuming the market is appropriately pricing risk, and assuming that one is not intending to ratchet up risk -- cash is generally the better choice.
This is an interesting approach. Could you offer a concrete example of comparing a mortgage rate with "current market pricing for equivalent risk", and illustrate how it follows that cash is a better choice in that concrete example? I'm interested in how to model this, as I'm considering the same question as the OP.
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Re: Mortgage vs. using cash to buy a house

Post by reggiesimpson »

One of the largest expenses you will ever have is that house mortgage. Given the option of being debt free from such a heavy burden has daily dividends which are often denoted by smiling for no "apparent" reason.
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Re: Mortgage vs. using cash to buy a house

Post by momar »

Depending on your true marginal rate and how much of the interest you really get to deduct, I say somewhere from 4-5%. When my mortgage was in that range, I aggressively paid it down. Now that it is at 3.375%, I am investing.
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Re: Mortgage vs. using cash to buy a house

Post by Doc »

Here is a different approach to consider.

Forget about the investment alternatives.

You have to live somewhere and it will cost you something. What is the difference between rental and mortgage payments considering all costs like mortgage interest, insurance, RE taxes etc. Now take whatever the difference is and capitalize it using a discount rate that you feel comfortable with giving your personal risk profile.

This concept which is fairly vague I admit assumes that there is no investment gain from the ownership of your home which is probably a good assumption especially given recent home value history.

Since the preceding is an impossible calculation just put enough down to secure a good interest rate and re-evaluate in five years. :idea:
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BrandonBogle
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Re: Mortgage vs. using cash to buy a house

Post by BrandonBogle »

It all depends on the rate of return I can get with that cash instead.

For instance, I could pay off most of my 2.75% mortgage tomorrow if I wanted to. I definitely could pay it all within the next two years. But given the rate I can earn on the cash and the rate of inflation (low as it may currently be), I do not see any reason to. So for me, it's all about the spread and I've locked in a good (IMO) return on that spread regardless of which way rates go tomorrow.
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Re: Mortgage vs. using cash to buy a house

Post by grabiner »

Andrew0504 wrote:How high would mortgage rates have to go to make it worthwhile to buy a house using cash (assuming the cash is available)? This would additionally assume that there is no penalty for using cash (e.g., it's not being withdrawn from a retirement account).
The alternative to consider is what you could do with the cash at the same risk. If you take out a mortgage which is 3% after tax, and invest an equal amount of money in a bond portfolio with the same duration and a 3% yield, this is break-even; you have essentially no risk because you can withdraw from the bond portfolio to make the mortgage payments. (In this situation, it would be slightly better to take out the mortgage, because you maintain liquidity and have the option of refinancing the mortgage; on the other hand, your bond portfolio may have some credit risk.)

Note the "same duration". If you take out a 15-year mortgage, the duration is about seven years, because that is the present-value-weighted average time for your payments. Thus, if you buy a municipal-bond fund with a seven-year duration, you have no net interest-rate risk; if rates rise, the value of your bond fund falls, but the value of your mortgage to the bank falls by an equal amount.

You may also have to look at secondary costs. If buying the house with cash saves you on the closing costs for getting the mortgage, that extra savings should be figured into the mortgage rate.
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Re: Mortgage vs. using cash to buy a house

Post by YDNAL »

Andrew0504 wrote:How high would mortgage rates have to go to make it worthwhile to buy a house using cash (assuming the cash is available)? This would additionally assume that there is no penalty for using cash (e.g., it's not being withdrawn from a retirement account).

I intentionally left this question vague, as I am curious on the different contingencies. If a specific scenario is needed, assume that a couple wanted to buy a $400k house. They have sufficient retirement funds in 401k/Roth accounts, and additionally have $500k in taxable stock/bonds (85% stocks/15% bonds).
There is no need to make this more complicated than it is.
  • Ask yourself: What IF this same couple has $100K in Taxable and inherits the $400K house without leverage, would they go out and take out a mortgage to invest the proceeds of this mortgage ?
The answer to the question should tell you what "contingency" makes sense to YOU.
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Re: Mortgage vs. using cash to buy a house

Post by Meg77 »

I think age matters a lot here. If you're 60+ or if you are in or near retirement, then I think you should be buying real estate in cash with few exceptions, particularly if we are assuming the cash is available. But if you're younger than 40 it seems smart to me to lever up on a house (especially at today's low interest rates) and invest the excess cash instead. This is because the effects of compound interest are so much stronger over time.

I am 29 and have a 3.25% mortgage on my home. Theoretically I have enough to pay it off if I sell all my liquid investments, but that seems like a foolish decision. I am all but certain I can earn more than that on my investments over the next few decades. And the interest is tax deductible to boot! Now if rates spike back up above 7% or so that may not be nearly as good of a bet. But currently, as you can get a 3-5% rate fixed for 15-30 years, I would take that deal and invest the proceeds all day long.
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Re: Mortgage vs. using cash to buy a house

Post by Ketawa »

Meg77 wrote:I think age matters a lot here. If you're 60+ or if you are in or near retirement, then I think you should be buying real estate in cash with few exceptions, particularly if we are assuming the cash is available. But if you're younger than 40 it seems smart to me to lever up on a house (especially at today's low interest rates) and invest the excess cash instead. This is because the effects of compound interest are so much stronger over time.

I am 29 and have a 3.25% mortgage on my home. Theoretically I have enough to pay it off if I sell all my liquid investments, but that seems like a foolish decision. I am all but certain I can earn more than that on my investments over the next few decades. And the interest is tax deductible to boot! Now if rates spike back up above 7% or so that may not be nearly as good of a bet. But currently, as you can get a 3-5% rate fixed for 15-30 years, I would take that deal and invest the proceeds all day long.
Do you hold bonds in your portfolio? If so, their yield is likely lower than the tax-adjusted rate on the mortgage. Why not sell those bonds and pay off some of the mortgage?

This is of course an oversimplification, since I don't know things like your tax bracket, amount in taxable vs tax-advantaged, etc. Personally, I generally believe in maxing retirement accounts (use it or lose it), then prepaying a mortgage (unless you can somehow make more in an investment of comparable risk). I do have a few 4% CDs with low limits, a Mango savings account, and a Union Plus savings account in taxable that I use to arbitrage my mortgage's rate.
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Re: Mortgage vs. using cash to buy a house

Post by PaddyMac »

This was not a theoretical exercise to us in 2008. We sold a house for $700K profit, and then bought another house in another state. We put 20% down and took out a mortgage for roughly 400K. We invested 400K from the profit from the first house, and are using the investment income to pay both the mortgage and the property tax. We started with a mortgage at 4.65% 30-yr, and refinanced two years ago or so for 3.875% 20 yr.

The "pot" of money grew so much by 2010 we withdrew 50K to put into our retirement fund. The pot now kicks off $2650 each month. Any time we think of just paying off the mortgage, we can't think of a good reason to. Then it would be "dead money" in bricks and mortar. At this rate, in 18 yrs our mortgage will be gone and we'll still have the pot.
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Re: Mortgage vs. using cash to buy a house

Post by YDNAL »

PaddyMac wrote:This was not a theoretical exercise to us in 2008. We sold a house for $700K profit, and then bought another house in another state. We put 20% down and took out a mortgage for roughly 400K. We invested 400K from the profit from the first house, and are using the investment income to pay both the mortgage and the property tax. We started with a mortgage at 4.65% 30-yr, and refinanced two years ago or so for 3.875% 20 yr.

The "pot" of money grew so much by 2010 we withdrew 50K to put into our retirement fund. The pot now kicks off $2650 each month. Any time we think of just paying off the mortgage, we can't think of a good reason to. Then it would be "dead money" in bricks and mortar. At this rate, in 18 yrs our mortgage will be gone and we'll still have the pot.
Lucky you, selling in 2008 and investing during a nasty correction while "the "pot" of money grew so much by 2010..."
  1. What if you sold/invested in August 2000 or August 2007 ?
  2. The $400K would be cut near in 1/2 thereafter, and who knows what you would have done*.
Sometimes, it may not matter how smart we are, just how lucky we are !

* an answer is not needed.
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Re: Mortgage vs. using cash to buy a house

Post by docneil88 »

Ketawa wrote: Personally, I generally believe in maxing retirement accounts (use it or lose it), then prepaying a mortgage (unless you can somehow make more in an investment of comparable risk). I do have a few 4% CDs with low limits, a Mango savings account, and a Union Plus savings account in taxable that I use to arbitrage my mortgage's rate.
How does one measure the risk of a mortgage loan one holds? Many speak of a mortgage loan as the equivalent of a negative position in a broad Ginnie Mae fund; so, one could say that a mortgage loan has about as much risk as such a fund, although these two risks are mirror images of each other. So, holding a mortgage loan and a Ginnie Mae fund would bring risks that roughly cancel each other out. So, one should compare the current mortgage interest rate one would get vs. the yield on a low-cost, broad GNMA fund.

Currently, the average 30-year fixed non-jumbo mortgage loan is 4.32% and the average 15-year is 3.38% (source: http://www.bloomberg.com/markets/rates- ... est-rates/ ). The current yield on the Vanguard GNMA fund (VFIIX) is merely 2.32% with an average maturity of 6.6 years and an average duration of 4.4 (sources: http://finance.yahoo.com/q?s=VFIIX and http://finance.yahoo.com/q/hl?s=VFIIX+Holdings ). The average mortgage is held for around 7 years.

Why is there this large and unfavorable spread between mortgage loan rates and VFIIX's yield? Partly the cost of the US government guarantee on GNMAs and partly the expenses of the fund. But it seems to me that's not the whole story. Are there other explanations of the spread anyone could share with us?

Instead of losing money from this spread by holding a GNMA fund alone to offset the risk of a mortgage loan, one could hold a balanced, diversified portfolio (that's what I've done, and I've used VFIIX for most of my bond portion). Due mostly to stock exposure, the balanced portfolio approach often will have returns significantly higher than one's mortgage rate, but the price of that is the extra risk one is taking. No free lunch. EDIT: On the other hand, if I need cash, I can sell some of my balanced portfolio. If I'd bought the home in cash and I later need cash, who knows if I'll qualify for a home equity loan at that time, and who knows what rate I'll have to pay.
Last edited by docneil88 on Fri Aug 09, 2013 5:31 pm, edited 1 time in total.
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Re: Mortgage vs. using cash to buy a house

Post by Meg77 »

Ketawa wrote:
Meg77 wrote:I think age matters a lot here. If you're 60+ or if you are in or near retirement, then I think you should be buying real estate in cash with few exceptions, particularly if we are assuming the cash is available. But if you're younger than 40 it seems smart to me to lever up on a house (especially at today's low interest rates) and invest the excess cash instead. This is because the effects of compound interest are so much stronger over time.

I am 29 and have a 3.25% mortgage on my home. Theoretically I have enough to pay it off if I sell all my liquid investments, but that seems like a foolish decision. I am all but certain I can earn more than that on my investments over the next few decades. And the interest is tax deductible to boot! Now if rates spike back up above 7% or so that may not be nearly as good of a bet. But currently, as you can get a 3-5% rate fixed for 15-30 years, I would take that deal and invest the proceeds all day long.
Do you hold bonds in your portfolio? If so, their yield is likely lower than the tax-adjusted rate on the mortgage. Why not sell those bonds and pay off some of the mortgage?

This is of course an oversimplification, since I don't know things like your tax bracket, amount in taxable vs tax-advantaged, etc. Personally, I generally believe in maxing retirement accounts (use it or lose it), then prepaying a mortgage (unless you can somehow make more in an investment of comparable risk). I do have a few 4% CDs with low limits, a Mango savings account, and a Union Plus savings account in taxable that I use to arbitrage my mortgage's rate.
Very interesting point. As it happens, I only have about 6% of my retirement portfolio in bonds, and they are inaccessible as they are currently held inside my Roth IRA. I haven't added to my bond holdings in several years, so that percentage will decline further as I max 401k and IRAs with stock index funds. I agree with you that prepaying my mortgages will be a much preferable use of funds compared to buying bonds over the next decade or so. It's a zero risk use of funds (if such a thing even exists) of comparable likely return to bonds over time. Although interest rates may rise to the point where that is not the case in fairly short order. I remember when I was getting 4.5% on my savings accounts not to long ago, and if/when that time returns then prepaying my mortgages will probably never look like a good idea again.
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Re: Mortgage vs. using cash to buy a house

Post by grabiner »

docneil88 wrote:Why is there this large and unfavorable spread between mortgage loan rates and VFIIX's yield? Partly the cost of the US government guarantee on GNMAs and partly the expenses of the fund. But it seems to me that's not the whole story. Are there other explanations of the spread anyone could share with us?
The spread is based on the relative risk. A bank can lend money wherever it wants; a ten-year loan to a homeowner has more risk than a loan of similar duration to the Treasury (1.28% yield on Intermediate-Term Treasury), loans guaranteed by the Government (1.94% yield on GNMA), or even loans to large businesses with good credit (2.71% yield on Intermediate-Term Investment-Grade), so the bank demands a higher interest rate.

However, you can take advantage of the tax difference as an investor. If you take out a mortgage on which you can deduct the interest, and buy GNMAs (or other bonds) in your tax-deferred account, you may come out ahead. Depending on your tax bracket, you may even come out ahead with a taxable investment, taking out a mortgage and then lending money to your state.
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Re: Mortgage vs. using cash to buy a house

Post by Professor Emeritus »

Harold wrote:The act of buying a house itself increases your risk (your asset could burn down, someone could get hurt on your property, etc.) If you take on a mortgage, you increase your risk further because you might lose your home asset along with any mortgage costs/payments. If you invest in higher risk investments rather than paying off your mortgage, you increase your risk further (particularly since you aren't getting full payment for your risk because of mortgage costs).

All that may well be fine, acceptable, and appropriate for your situation. But it points out that your question is at its core a risk decision.

As a risk decision, there is no fixed numerical answer to your question. The numerical answer depends on how your mortgage rate (adjusted for any tax deduction) compares with current market pricing for equivalent risk, which varies. Assuming the market is appropriately pricing risk, and assuming that one is not intending to ratchet up risk -- cash is generally the better choice.
You are both double counting and including risk unrelated to home ownership. Even as a renter you can have liability risk for a person on your rented property. You do not "increase" your risk by borrowing on an asset, since you have the cash as an asset. if you buy a house on credit you can't lose the asset since you never owned it. (you can remain obliged on the payments but that does not change if the house burns down.

You also seem to be using the term risk in at least two separate ways. 1) probability of an event and 2) probability of an event x negative outcome
E.g. if the probability of the house burning down is 1% and the house is worth 100 K then the risk is either 1) 1% or 2) 1000 for fire the insurance cost is an excellent proxy for teh actual risk.

The financial risk (type 2) in homeownership is change in the value of the house.

They real personal disaster is to overpay for the house because you can get credit. That tends to blind buyers to the valuation risk
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Re: Mortgage vs. using cash to buy a house

Post by Professor Emeritus »

PaddyMac wrote:This was not a theoretical exercise to us in 2008. We sold a house for $700K profit, and then bought another house in another state. We put 20% down and took out a mortgage for roughly 400K. We invested 400K from the profit from the first house, and are using the investment income to pay both the mortgage and the property tax. We started with a mortgage at 4.65% 30-yr, and refinanced two years ago or so for 3.875% 20 yr.

The "pot" of money grew so much by 2010 we withdrew 50K to put into our retirement fund. The pot now kicks off $2650 each month. Any time we think of just paying off the mortgage, we can't think of a good reason to. Then it would be "dead money" in bricks and mortar. At this rate, in 18 yrs our mortgage will be gone and we'll still have the pot.
Without all the window dressing you are borrowing money at 3.875 percent to invest in the current financial market. I also have made a ton since 2008 in the market, But it is by no means guaranteed, whereas your debt is 100% obliged. The current risk free yield on 20 year treasury notes is about 3.37 %

So you are gambling that you can somehow make money despite a negative spread on the risk free return on investment.
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Re: Mortgage vs. using cash to buy a house

Post by Harold »

Professor Emeritus wrote:You are both double counting and including risk unrelated to home ownership. Even as a renter you can have liability risk for a person on your rented property. You do not "increase" your risk by borrowing on an asset, since you have the cash as an asset. if you buy a house on credit you can't lose the asset since you never owned it. (you can remain obliged on the payments but that does not change if the house burns down.
What I wrote is both correct and logically consistent throughout.

When one buys a home, they own the home – regardless of whether they’ve borrowed money to buy it. They’ve procured a new asset by some combination of reducing other assets or taking on the liability of a loan.

By owning the home, the new owner faces associated risks. Rather than attempting to lead into a comprehensive list, I could have just stuck with the risk of actual asset loss by fire, flood, hurricane, tornado, landslide, sinkhole, insect infestation, on and on. Those risks are real. (The owner then needs to make decisions about what risks must be retained or addressed and what can be transferred to insurers, at what cost, etc.)

By borrowing and using the home as collateral, the owner faces the obvious risk of losing his collateral (and any money already put towards that asset).

It’s clear from what you’ve written that you don’t view a homeowner with a mortgage as owning his home. Taking that view doesn’t reduce the risks that a homeowner with a mortgage is exposed to.
ayitey wrote:This is an interesting approach. Could you offer a concrete example of comparing a mortgage rate with "current market pricing for equivalent risk", and illustrate how it follows that cash is a better choice in that concrete example? I'm interested in how to model this, as I'm considering the same question as the OP.
Sorry, I hadn't seen this. Fortunately, grabiner answers this question better than anyone I've ever seen anywhere -- and he has kindly since addressed this.
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Re: Mortgage vs. using cash to buy a house

Post by mojorisin »

I am in this same situation. I have enough taxable (liquid) savings to pay cash for my home, plus still have a decent deal of money left over. Plus retirement savings.

So how do you decide to do a mortgage vs. pay cash?

For me this is all about my pool of money for retirement. My goal is to have $xxx in 20 years for retirement, and I have $xxx today. Thus I need to add $xxx per year to reach my goal. I then factor my house decision into this equation. A home is an expense, so how much of an expense can I "afford" while still hitting my goals?

A few factors - mtg rates are extremely low right now, I am taking out a larger mtg as I'm paying ~2% interest after tax deductions. I'm getting 4% annual on my muni bond account right now, plus rates will likely only go higher on bonds. Then add in inflation over the years will go up, while I'm locked into a low rate on my home. I know that people like the feeling of having their home paid off, I actually like the feeling of having big savings invested and growing, plus the flexibility to use the money towards a business investment if I choose (vs. locked into my home).

Again, for me, its all about the end goal of the money for retirement. If I put so much into a home today, why does it really matter? Its just one big pie of money and you need to make the best decisions to hit the long term goals.
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Re: Mortgage vs. using cash to buy a house

Post by telemark »

It depends on things that can't be known in advance. If inflation takes off (I don't expect it to, but I could be wrong) then a large fixed-rate mortgage would be a great thing to have. If we see deflation instead it would be painful. A lot can happen in thirty years.
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Re: Mortgage vs. using cash to buy a house

Post by ourbrooks »

There are some other considerations besides interest rates and rates of returns.

Especially in booming markets, cash deals are preferred. With a mortage, there's some risk that the mortgage won't be approved or won't be approved for the selling price. Also, cash deals close sooner so that the buyer has the money sooner and can re-invest it sooner.

Of course, the idea thing would be to buy for cash and then take out the mortage afterwards. In some states, though, this is not allowed.
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Re: Mortgage vs. using cash to buy a house

Post by livesoft »

Even if one got a mortgage, one has the option to pay it off. That option is worth quite a bit of money and does not show up in calculators.

For example, you get mortgage and invest. If the market goes way up, you pay off the mortgage. If the market drops, you just wait until the market goes way up and pay off the mortgage. In other words, you always come out ahead by getting a mortgage and investing. Your option practically guarantees that result. Nice!
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Re: Mortgage vs. using cash to buy a house

Post by Professor Emeritus »

Harold wrote:
Professor Emeritus wrote:You are both double counting and including risk unrelated to home ownership. Even as a renter you can have liability risk for a person on your rented property. You do not "increase" your risk by borrowing on an asset, since you have the cash as an asset. if you buy a house on credit you can't lose the asset since you never owned it. (you can remain obliged on the payments but that does not change if the house burns down.
What I wrote is both correct and logically consistent throughout.

When one buys a home, they own the home – regardless of whether they’ve borrowed money to buy it. They’ve procured a new asset by some combination of reducing other assets or taking on the liability of a loan.

By owning the home, the new owner faces associated risks. Rather than attempting to lead into a comprehensive list, I could have just stuck with the risk of actual asset loss by fire, flood, hurricane, tornado, landslide, sinkhole, insect infestation, on and on. Those risks are real. (The owner then needs to make decisions about what risks must be retained or addressed and what can be transferred to insurers, at what cost, etc.)

By borrowing and using the home as collateral, the owner faces the obvious risk of losing his collateral (and any money already put towards that asset).

It’s clear from what you’ve written that you don’t view a homeowner with a mortgage as owning his home. Taking that view doesn’t reduce the risks that a homeowner with a mortgage is exposed to.
ayitey wrote:s.
You are confusing legal and equitable ownership. There is only one "asset". The value of the asset represents the risk. When you buy a home you have "equity" i.e. equitable ownership of the the net value of the asset after the mortgage. If a house is worth 100k and has a 90K mortgage you have 10 K in "equity" that 10 K is all of the house that you own. Your risk is exactly the same whether you have the loan or own the house outright.

I own my house outright. But If I borrow money on the house and put the money in the bank my risk does not change.
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Re: Mortgage vs. using cash to buy a house

Post by stan1 »

Liquidity was my major factor for having two mortgages on two different houses from the time I was 21 until I paid off my mortgage at 45. I could have paid off my first 30 year mortgage in 8 years, but instead only paid the standard payment so I could pay cash for my car, invest in IRA, 401K, and maintain an emergency fund. I could have paid off my second mortgage quicker as well, but chose to continue to max out my 401K accounts. Much of this time I made less than $100K/year so choices had to be made. Being house poor, even if you have a HELOC, is not a good idea. If you can pay off your house and still have a million dollars in 401Ks or other investment accounts there's no reason to hold a mortgage or engage in interest rate arbitrage unless you find that to be stimulating.
Warning: I am about 80% satisficer (accepting of good enough) and 20% maximizer
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docneil88
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Re: Mortgage vs. using cash to buy a house

Post by docneil88 »

ourbrooks wrote:Of course, the idea thing would be to buy for cash and then take out the mortage afterwards. In some states, though, this is not allowed.
From http://www.propertyradar.com/forum/topi ... -purchase/ :
IRS publication 936 "Home Mortgage Interest Deduction" is pretty explicit with specific examples on this issue. In order for a loan to be considered purchase money [and thus tax deductible to the owner occupant of the home] it must close within 90 days of property acquisition. Calling around, I've found that all the lenders I've talked to will not finance a property you paid cash for until you've had it for 6-12 months (due to title seasoning requirements) according to the lenders this is FNMA underwriting guidelines. Also, when you finance after paying cash, it will be considered a cash out refi and you'll have a slightly higher rate than purchase money.
One alternative is to take out a margin loan on one's portfolio before closing and use it as part or all of the cash paid for the home. Then hold that loan until you hit the 6 month mark, then refi. Margin loan interest rates are usually fairly reasonable, and they generally require no "points" or loan processing fees. The margin loan in this case is a home purchase loan. So is the refi, because it is a refi of a home purchase loan.

From http://www.lender411.com/mortgage-advic ... nths/2231/ :
As a side note, cash-out transactions are usually limited to 85% loan-to-value.
Cash-out refi's within 90 days after purchase were once available, but I hear that fraudulent practices put an end to that. What I didn't hear was what those fraudulent practices were; does anyone know?
IlliniDave
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Re: Mortgage vs. using cash to buy a house

Post by IlliniDave »

Andrew0504 wrote:How high would mortgage rates have to go to make it worthwhile to buy a house using cash (assuming the cash is available)? This would additionally assume that there is no penalty for using cash (e.g., it's not being withdrawn from a retirement account).

I intentionally left this question vague, as I am curious on the different contingencies. If a specific scenario is needed, assume that a couple wanted to buy a $400k house. They have sufficient retirement funds in 401k/Roth accounts, and additionally have $500k in taxable stock/bonds (85% stocks/15% bonds).
I read through the first 6-8 responses only. It appears I tend to go against the grain on this one. If it were me and the following were true I would pay cash and buy it outright.

1. I would have a reasonably-sized emergency fund after the purchase
2. I didn't have any personal debts
3. I had a plan in place for my long-term/retirement savings with reasonable expectation of meeting my goals (and the money in question was separate from the funds used to purchase the house). In other words, if I was 45 and had just started retirement savings in the last year I would probably hesitate, as opposed to being 35 with $250K accumulated in tax deferred accounts
4. I could easily afford the appropriate insurance and taxes

Actually, all of those would have to be true before I'd be comfortable with a mortgage as well. It's probably not the route that leads to the highest lifetime net worth. But I came uncomfortably close a few years back to losing employment at a time when quick reemployment prospects, real estate values, and financial markets, all took a nose dive in unison. It caused me to evaluate risk in a different way. At the end of it all I kept my job and life went on, but I learned that having a home without a lien optimized my peace of mind and I made it so. It may not be the optimal approach for many people, but it's worth considering, especially if your personality is such that you can enjoy a bird in hand without longing for those remaining in the bush.
Don't do something. Just stand there!
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BrandonBogle
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Re: Mortgage vs. using cash to buy a house

Post by BrandonBogle »

docneil88 wrote:Cash-out refi's within 90 days after purchase were once available, but I hear that fraudulent practices put an end to that. What I didn't hear was what those fraudulent practices were; does anyone know?
Yeah, I once had to do that back in 2001. Got a loan three weeks after buying cash. My original lender tried to change terms on me at the closing table. Back then, I never heard of a 6 month+ waiting period.

Also, note that in some states, purchase money mortgages are non-recourse loans while cash-out refis are recourse loans. That's a worthwhile distinction!
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