It can seem like a pipe dream to many people, but there really are people who pay cash for a home. And maybe you’re thinking about becoming one of them. Here are some of the pros and cons to consider:
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Pros of Paying Cash
The main pro in favor of paying cash for a home is the guaranteed return on your investment. Paying $200,000 in cash instead of taking out a $200,000 loan at 4.5% interest is like getting a 4.5% return on investment. That’s thousands of dollars you didn’t pay in interest to a lender. And of course, you now own your home outright.
Another way you save money by paying cash is during the closing process. You won’t have to pay all of the fees charged by lenders, which can amount to thousands of dollars. You may even be able to buy your home for a lower price, because of an all-cash, no-mortgage-contingency offer is extremely appealing to sellers – essentially, the seller may give you a “cash discount.” Even if there is no discount, an all-cash offer can help you win a bidding war in a seller’s market. Plus, the escrow period can be shortened if you are paying with cash.
Paying cash for a home also helps you avoid the hassle of obtaining a mortgage, which requires lots of paperwork and documentation. It can be difficult to qualify for a loan, particularly if you’re self-employed, have little or no credit history, or if your credit history is marred. And you can still get a home equity loan if you decide to borrow against the equity in your home in the future.
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Finally, you’ll have lower monthly expenses and greater cash flow since you won’t have to make a monthly mortgage payment.
Cons of Paying Cash
Of course, there are cons to paying cash for a home, with the biggest one being that your money is tied up in your home. If something unexpected occurs and you need to tap the equity in your home, you could be forced to sell the property at a lower price than you want to.
Additionally, your credit score may be lower because you have no monthly mortgage payments. You will also not be able to deduct mortgage interest on your tax return. Depending on your tax bracket, that could have a significant impact on your income taxes.
Finally, you may be missing out on higher returns from other investments you could have made with the money you used to buy your home. Those returns would almost certainly not be guaranteed the way the investment in your home would be, but you nevertheless may be leaving money on the table by investing in a home instead of other investment vehicles.
What to Ask Yourself
Keeping the pros and cons of paying cash for a home in mind, asking yourself the following questions can help you decide if paying cash is right for you:
– Do you have other debt? If you do, and the interest rate is higher than your mortgage interest rate would be, it almost certainly makes the most sense to pay off that debt and take out the mortgage.
– How much liquidity would you have left after you pay cash for a home? You should have a minimum of six months of living expenses (typically regarded as an “emergency fund”), as well as retirement savings, and medical and life insurance.
– Would your rate of return on other investments be higher than the interest rate on a mortgage? If you are confident your money could earn more invested elsewhere, it may make financial sense to take out the mortgage.
– Would you qualify for a mortgage? As noted above, it can be difficult to secure a mortgage if you are self-employed or have a low credit score. Even if you are able to qualify, the interest rate may be higher, thereby making the mortgage a less attractive option.
– Would you be more comfortable with a “happy medium” approach? Perhaps instead of paying cash for a home, you could take out a low-interest mortgage and simply pay down the principal faster than scheduled. You could still save thousands of dollars in interest while maintaining your liquidity and ability to invest in other assets.