An Overview of Cash vs. Mortgage
No matter where you look, you’ll hear someone spouting off about the foolishness of carrying debt. So you’ll automatically believe that buying a home using cash is the best way to make this large purchase while preserving your finances. Or you may believe that it’s best to sink every bit of cash you have into this massive purchase to lower your debt load and have the smallest mortgage possible.
But you have to look at this purchase from all angles when buying a house with cash as opposed to purchasing it using financing. Some of the biggest differences between having a mortgage and purchasing a house with cash are included below.
Should I Take out a Mortgage or Buy a Home Using Cash?
Paying with Cash
Purchasing a house with cash certainly has its upsides. For starters, you’ll have fewer closing costs. You’ll also forgo the need to pay interest, which can run hundreds of thousands of dollars over the lifetime of your loan.
But getting back to fewer fees, you’ll actually have no need to pay for appraisal fees, loan origination fees, and other fees that typically come from lenders when assessing a buyer’s ability to qualify for a loan.
Guess what? Sellers are always very fond of doing business with cash buyers. They find cash buyers very attractive for a wide variety of reasons. Some of those reasons include:
- Cash buyers have an edge in competitive markets because they do not need to qualify for a loan. They already have the cash on hand to pay for the property in full.
- Cash buyers have an additional advantage because they aren’t going to back out of the deal because of their failure to qualify for a loan. This is never going to be an issue because they will never attempt to qualify for a loan in the first place. No one will ever deny them financing because they will never seek financing to begin with.
- Cash buyers have the ability to close on a home much quicker. This additional flexibility is sometimes very desirable to sellers who need to get out of their existing home and into their new home fast. The ability to be flexible and to close fast on properties also gives cash buyers an additional edge.
- Cash buyers occasionally receive a “cash discount” from sellers which give them the ability to purchase properties for a lower price.
- Cash buyers have an easier time selling their home because the property isn’t leveraged. In this situation, the cash buyer can sell their property in all market conditions because they do not have to worry about paying a mortgage service a certain amount of money to pay back their loan. They already own the home outright so they can sell the property at any amount they want, even if market conditions are less than ideal and they have to sell it at a loss.
Taking Out a Mortgage
For some homeowners, taking out a mortgage will certainly have its benefits. In fact, for some people the benefits will be significant. In certain cases, you might even have enough cash on hand to afford to pay for your home purchase in full, but it makes more sense to take out a mortgage and keep your cash for other purposes. You have to decide which scenario best meets your individual and/or familial needs.
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Some pertinent reasons why buyers might want to take out a mortgage instead of paying for the house in full include:
- Cash buyers might have to stretch themselves financially to pay for a house in cash. Instead of putting this additional financial burden in your lap, it might be better to take out a mortgage and pay interest while keeping cash reserves on hand.
- Cash sellers might find it difficult to come up with enough money for a down payment on their new home if they have sunk everything they had into their existing property. When it comes time to sell, the seller might not have the necessary cash reserves available to cover the deposit for their new place.
- Cash buyers often fail to leave themselves with enough liquidity. This means they will not have enough cash on hand to pay for other important day-to-day expenses that they regularly incur, which could definitely become a problem. Examples include not having enough to make home repairs, homeowner’s insurance payments, property taxes, etc.
- Cash buyers fail to learn about the potential tax ramifications of their purchases. They forget that mortgage interest payments are tax-deductible, and this is typically a big deduction for homeowners that seriously help to lessen their overall yearly tax burden by a wide margin.
- Cash buyers tend to miss out on other financial opportunities like investing in the stock market, which could definitely pay greater returns. You might be better off taking out a mortgage, paying interest, and sinking your money into stocks for the potential to make greater returns on your personal and/or business capital.
Another Valid Reason to Consider Taking out a Mortgage
Besides all the things mentioned above, not having a mortgage could negate your ability to earn a homestead exemption in your state. This is especially poignant if you end up in debt at some point in the future.
Believe it or not, the wide majority of states typically provide consumers with creditor protection in regards to their home. In Florida, as an example, certain creditors are not allowed to go after homeowners altogether.
In other states in the US, they set limits on the amount that creditors can attempt to collect. Some limits are as little as $5000. Other limits are as much as $550,000. But overall, in these situations the creditor is not allowed to force homeowners to sell their property in order to satisfy their credit payments.
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An example of the homestead exemption is as follows:
- A property is worth $500,000.
- The homeowner takes out a mortgage for $400,000.
- The homestead exemption prevents homeowners from being forced to sell their home and giving creditors your $100,000 worth of equity. But the exemption needs to be less than $100,000 for example this to work.
Final Thoughts
Are you unsure of whether to take out a mortgage or pay cash for your new home? Our advice on the situation is to think about the best scenario that will help you keep the most money in your pocket. Which gives you the biggest return on your investment? A home paid in full or keeping cash on hand for other investments?
If you buy a home by taking out a mortgage, you should only take as much as you need to easily make your interest and principal payments every month. Otherwise you’ll overextend yourself and you could end up facing foreclosure if you can’t pay your monthly payments.
If you choose to pay cash, make sure you aren’t overextending yourself. Remember, you have to pay property taxes, homeowners insurance, and other related expenses every month. So, if paying cash is going to prevent you from covering your expenses, you’d be better off taking out a mortgage instead.
Critical Takeaways
- Cash payments mean fewer closing costs and no interest payments when buying your new home.
- No mortgage means you might not be eligible for homestead exemption in your state.
- Choose the option (mortgage vs. cash) that will help you remain the most financially stable.
I’ve bought properties in both fashions for different reasons. What’s everyone’s preference here? Please leave comments and share your thoughts.
About Tim Schmidt
Tim Schmidt is an Entrepreneur who has covered retirement investing since 2012. He started this website to share his expertise in using his Self-Directed IRA. Most recently he's been advising individuals to diversify into precious metals ahead of a certain recession. He invested with Goldco.