I was at a family get together recently and spoke to a young relative of mine. She had just entered the workforce and was saving hard for her future. As I do with all young people, I asked her what her life goals were.
She said: To buy my first home entirely with cash.
I just about fell. out. of. my. chair.
Okay, okay. That’s a bit harsh. It was a knee jerk reaction for me. Hey, this site is all about creative financing – how to invest in multiple properties while using as little of your own money as possible.
I constantly espouse the virtues of using other people’s money (OPM). The thought of using ALL your money to buy a property? Yuck.
But after I thought about it some more, I realized that there were actually many upsides to buying a home with cash.
In this article I’m going to examine the pros and cons of buying a house with cash. Since you already know which position I usually take, I’m going to kick things off with the cons.
Why you SHOULDN’T buy a house with cash
All your eggs are in one basket – unless you’re a multimillionaire, buying your house with 100% cash means that a lot of your net worth is going to be tied to that one asset. This exposes you the high concentration risk. If – touch wood – something happens to your home (natural disasters, falling market prices in the area etc.), you’ll have a big chunk of your net worth wiped out. I wouldn’t take that risk.
You miss out on other deals – the flip side to the previous point is opportunity cost. With all your money basically illiquid, you don’t have any spare capital to invest in other opportunities. This could hurt you in the long run.
You’re not using financial leverage – financial leverage can be a very good thing. Think of it as a “profit multiplier”. Look at the table below:
|Buy house with cash||Buy house with mortgage|
First scenario: Say you pay cash for a $200,000 house. 1 year later, the house appreciates to $210,000. Meh, $10,000 capital gain? That’s like 5% annual return. Nothing to write home about.
Second scenario: Now imagine you instead put down $40,000, while taking out a mortgage to cover the remaining $160,000. Again, the house appreciates from $200,000 to $210,000. Same $10,000 in capital gain. The difference? A killer 25% return that year.
This is a super simplified illustration, but the concept holds true in real life. That’s the power of leverage.
Tax advantages of mortgage interest – Mortgage interest payments are tax deductible. This means, whatever you pay in mortgage interest can be offset against your taxable income. If you buy a house with cash, your payments toward the house don’t do the double duty.
You have a lot less liquidity – I kind of touched on this already, but here we’re looking at your financial buffer. If you have all your money locked in your property, you can’t use it for emergencies like surprise medical bills, repair work etc. Compare that to having your money invested in more liquid assets like stocks or even fixed deposits where you can get your money out quickly.
Why you SHOULD buy your house with cash
It’s funny, after thinking and researching for reasons why you should buy your house with cash, I’m starting to lean ever so slightly toward the 100% cash camp. Ever so slightly.
You buy yourself peace of mind – do your mortgage repayments permeate your every waking thought? Do you ever fear losing your job or quitting because you have a mortgage to pay? Does your heart drop at the thought of increasing interest rates? Well, you won’t have any of that when you simply don’t have a mortgage! This is honestly, the biggest pro for me.
Fewer closing costs – a lot of people don’t realize that there are massive costs associate with taking out a mortgage. There are attorney fees, mortgage origination fees, title insurance and all sorts of junk charges by lenders. You might end up saving thousands just by paying for your house in cash.
No stress with renting out your home – if you’re looking for rental yield, you don’t have to worry about whether the rental will be high enough to cover the mortgage repayments. So less stress!
Good yield (?) – Your rental yield is “additive”. Let me explain. Your base “yield” is the cost you avoided by not taking out a mortgage. So if you were going to pay 5% per year, then you’ve effectively saved/yielded 5% every year by not taking on the mortgage. Add to that your rental yield and you could be looking at quite a hefty return!
You’re going to win out over lowly “mortgage” buyers – Sellers’ eyes light up when they hear you’re going to pay with cash. No more closing on condition of mortgage approval b.s.
They don’t have to suffer the heartbreak of a deal falling through because you weren’t able to secure the financing. The deal closes like – wham, bam (thank you ma’am.) They may even offer you a discount so that they can close on the deal faster.
You get to fight a homestead exemption – This is a more obscure advantage but it’s an interesting one. It’s an area of law that applies when you – again, touch wood – pass on.
In most cases, by fully owning your home, your surviving spouse will be protected from having your house sold just to satisfy your obligations to creditors.
How much less do you pay on your home when buying with cash?
Okay, so we’re all pretty much aware that you’ll end up paying more for your house when taking on a mortgage. After all, you’re paying for the privilege of getting your house right now. But I thought you might be interested to know just how much more you’re paying.
So for the sake of this example, assume that you purchase a $250,000 house with 20% down payment. Here’s how much more you’ll pay:
Fixed Rate Loan
Fixed Rate Loan
|Cold Hard Cash|
|Interest Rate (APR)||4.20%||3.50%||N/A|
|Number of Years||30||15||N/A|
In this simple analysis (not adjusting for inflation), you would have paid about 40% more to take on a 30-year mortgage.
Finally, who should buy a house with cash?
I’m going to stick to my guns and still advise you to go with a mortgage here, but I do recognize that there will be situations where paying entirely in cash will be the right thing for you.
Here are the ones I thought of:
- You don’t qualify for a US Mortgage for whatever reason.
- You don’t need the liquidity right now. Funds are just sitting around in you bank account gathering dust. You can use the cash to buy the house now. In the future, you can always take out a new loan against your home. You might even be able to borrow more if the house has appreciated.
- You’re just not bullish on the property market. You realize that you’ll end up paying much more that what the house will be worth (i.e. you don’t expect capital gains.) Cut your “losses” now and just pay cash upfront.
- You want peace of mind that you won’t be on the street if you lose your job or decide to quit.
Have you ever bought a home entirely with cash? I’d love to hear why you did it, and what benefits you’ve experienced since then! Look forward to your comments below.
EDIT: Check out this awesome infographic that I had made. It summarizes the main points of this article. Share it with your friends!