You’re ready to take the plunge and buy a home. Should you buy it outright or get a mortgage?
Even if you have the ability to pay cash for your home it doesn’t necessarily mean you should. With today’s low mortgage rates, it may not make sense to pay for your house in full instead of financing the purchase.
“It depends on the situation you’re in,” says Al Zdenek, CEO of Traust Sollus Wealth Management in Princeton, New Jersey, and author of “Master Your Cash Flow.” “People have different views on debt. For me, using debt for your house so you can invest and earn more than the interest you’re paying on a mortgage is a smart move to leverage wealth.
In other words, if you buy, say a $1 million house outright, that money would only increase if the house appreciates in value.
But if you put a 20 percent down payment of $200,000 instead on a mortgage that charges you 4 percent interest, that would free up $800,000 to invest in the stock market or other investments. Compare rates from different lenders to see what you’d pay on a mortgage.
Do the math
Although every situation is unique, the odds are you’d still make more from investing your money than just parking it into a house.
After adjusting for inflation, the average rate of return on an S&P 500 index fund is about 7 percent. The average 30-year mortgage rate is about 4 percent.
“You have to ask yourself: is my investment just not to have a mortgage payment or is my investment to make more money than I’m spending?” says Mario Henry, author of “How to Hire Your House.”
Even if your property becomes worth more than what you paid for it, you can typically only take advantage of that windfall by selling your property, a process that isn’t as fast as selling a stock or other liquid assets.
One other benefit to paying a mortgage versus owning a home outright is the mortgage interest deduction you can take on your taxes every year. Calculate how much you could save in income taxes by utilizing this benefit.
“You’re usually better served having the mortgage, taking the tax deduction and earning money elsewhere,” says Larry Saffer, president and founder of Saffer Financial Group in Plantation, Florida. “People often forget how much that tax deduction is worth.”
When cash is king
There are a handful of situations where it might make sense to make a cash offer on a home. According to the National Association of Realtors’ 2017 Profile of Home Buyers and Sellers, only 12 percent of buyers paid cash.
“It was more common with older generations, perhaps those who are downsizing,” says Jessica Lautz, managing director of survey research and communications for the NAR in Washington, D.C. “It could be more common as they have accumulated equity in their previous house. The advantage is not accumulating debt or not paying debt if you live on a fixed income or you’re looking to scale back from the workforce.”
There’s an emotional component to owning your home too.
“For some it’s peace of mind,” says Saffer. “Some people just feel better that their home is paid off even if that’s not what the mathematics say they should do.”