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Is it smart to pay cash for a home?

Dear Steve,
I'm planning to buy a new home, but can't decide if it would be better to finance it or pay cash. I have the cash to cover it, but I'm wondering if that's a wise move. Is there a formula for determining the best way to proceed?
-- Flush with Cash

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Dear Flush,
There are formulas out there, but life circumstances vary so greatly that pat answers may not serve you well.

Let's look over a few of the basic arguments, starting with the upside of paying cash. In a home purchase, cash always streamlines the process. You might be able to negotiate a better sale price, especially if the seller is motivated to exit the property quickly. It will certainly take the buyer-qualification worry out of the equation. There also will be fewer administrative headaches and fees at closing time. And obviously, you won't have that fat house payment looming every month.

From an investment perspective, all-cash is not a bad move either, at least in theory. With relatively low yields on CDs and other savings vehicles at present, and the way homes have been appreciating in recent years in most parts of the country, your money would seem well placed. Of course, market conditions on both fronts can change significantly as the years pass.

Here's another way to look at it. If you would have been paying 6-percent interest on a 30-year mortgage, then your all-cash position in your home is tantamount to earning that 6 percent on your investment -- not counting the home's appreciation. (But don't forget that lost tax-deduction for interest paid in the all-cash equation.)

There's also that liquidity aspect to consider. Unless you would have substantial cash reserves even after you paid for the house, a life-changing episode, such as an illness, infirmity, accident, lawsuit or natural disaster, could leave you wishing you had some of those greenbacks in your pocket. Certainly, if you should need cash for any reason (are the kids going off to college, by the way?), you could always take out a home equity loan, and would have lenders lining up to give it to you, presuming you are employed or at least have an alternative income stream. But if you're a retiree with limited income and no other significant collateral, you'd have a tougher time.

Experts recommend that you have at least a three-month buffer -- preferably six months -- in the form of liquid assets for contingencies. You should also be sure to leave enough room for home, life, health and disability insurance coverage in the budget.

But to some people, and this may include you, the best mortgage is no mortgage. What is the price for peace of mind, after all? But I strongly suggest you consult with your financial planner or accountant first and run the variables together before making a decision.

Best of luck.

-- Posted: May 28, 2005




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