I'm buying a house, do I pay cash?

[ready to go]

I've sold my house in southern California and have about $470,000 in cash. I'm planning on buying a house back east for about $360,000. Should I pay outright and have no mortgage or finance a portion?

Long time lurker, first time poster. Thanks in advance.

 

[REWahoo]

Hello RTG, welcome to the forum.

Your mortgage vs. cash question is one that has been discussed here a number of times. I think this is the most recent thread:

http://early-retirement.org/forums/index.php?topic=1794.0

I think you will find there are those in both camps. In my opinion, it goes beyond a financial decision and is simply what allows you to sleep at night.

Congratulations on being in position to have a choice.

 

[justin]

I bought my last house with cash, and it can make the closing easier. You can always refinance later.

 

[AltaRed]

Interesting that Americans would even have a discussion on the subject of a possible financing on a principal residence when the cash is available. This is a product of a tax system that permits mortgage interest tax deductability and encourages Americans to be indebted long after they should be free and clear of liens of all kinds.

This discussion in this situation would never happen in Canada. It's a source of pride to pay off mortgage loans as soon as possible on a principal residence.

 

[Howard]

altared is right, we pay our mortgages off as quickly as possible, but we are allowed a Tax deduction of up to 18% of Income(max $18,500) for Pension Plan contributions, so hopefully we have a Mortgage Free House and a good Personal Pension.(+2 Government Pensions + Company Pension).

Americans sometimes think we are too cheap and too cautious with our money, there is a reason.

 

[bpp]

Japan has a tax credit based on remaining mortgage principle, but folks here generally try to pay off the mortgage as fast as possible too. It is still the highest-rate guaranteed return available.

Bpp

 

[Nords]

This discussion in this situation would never happen in Canada. It's a source of pride to pay off mortgage loans as soon as possible on a principal residence.

Americans sometimes think we are too cheap and too cautious with our money, there is a reason.

Japan has a tax credit based on remaining mortgage principle, but folks here generally try to pay off the mortgage as fast as possible too.  It is still the highest-rate guaranteed return available.

Why does this discussion have to revolve around nationality & culture? And besides, wasn't it Japan that "invented" the 100-year mortgage in the late '80s?

It's only money & math, folks. Isn't it possible to examine the possibility of arbitraging the lowest interest rates in 40 years as a long-term investment? You either (1) pay off the mortgage to sleep better at night, or you (2) take out a low-cost low-interest mortgage, invest it in small-cap value stocks, and minimize the carrying costs. It's not for everyone, and it has a number of drawbacks, but a larger retirement portfolio is more survivable than a smaller portfolio-- even when both are drawn down at the same % SWR.

Try this thread: http://early-retirement.org/forums/index.php?topic=1390.0

I bought my last house with cash, and it can make the closing easier. You can always refinance later.

Yep, although the interest-rate opportunity may be disappearing. But that's been happening "any day now" for the last couple years...

 

[bpp]

Why does this discussion have to revolve around nationality & culture?

It doesn't. AltaRed opined that it has to do with the existence or not of mortgage tax credits. I pointed out that that does not explain behavior in Japan, which has a mortgage tax credit, and I opined that it has to do with the fact that there are no better safe investments available in Japan (meaning, govenment bonds pay less).

It's only money & math, folks.

So you agree.

(Ok, it is probably not strictly money and math for those who don't run the numbers for themselves, wherever they are, but.)

Bpp

 

[AltaRed]

It has to do with money AND culture.... not nationality.

With 3% mortgage rates, it could theoretically make financial sense to consider borrowing for investing... but how many of you would sleep well at night if there was a chance of that borrowed money being caught in a 2000-2002 market drop?

If you can borrow at 3% (interest tax deductable) to put into a 4% bond of the same duration/term, then that is a no brainer. But I don't think it otherwise ever makes sense to borrow money to make financial investments.

Regardless of what mortgage interest rates are, I would never take out a mortgage if I could pay cash for the house. I would instead invest the money I would otherwise save on interest payments.

 

[sgeeeee]

It has to do with money AND culture.... not nationality. 

With 3% mortgage rates, it could theoretically make financial sense to consider borrowing for investing... but how many of you would sleep well at night if there was a chance of that borrowed money being caught in a 2000-2002 market drop? 

If you can borrow at 3% (interest tax deductable) to put into a 4% bond of the same duration/term, then that is a no brainer.  But I don't think it otherwise ever makes sense to borrow money to make financial investments. 

Regardless of what mortgage interest rates are, I would never take out a mortgage if I could pay cash for the house.  I would instead invest the money I would otherwise save on interest payments.

Oh . . . never mind. If you can't conceive of someone with a long-term outlook who could keep a low interest, long term loan through a little blip like 2000-2002, then you are certainly doing the right thing in paying off your mortgage.

Happy Holidays.

 

[bpp]

Hi SG,

As I understand it, you have a mortgage that you could pay off tomorrow if you had to, right? I think that puts a different spin on things; there isn't much sleep-at-night factor in such a case.

Bpp

 

[AltaRed]

Unless I have misjudged completely, I think posters need to consider the original poster's question. 

Somehow, I don't think the original poster was asking about leverage (or margin) which is what some posters are suggesting.  Why else would you take out the mortgage other than to invest the proceeds somewhere else?

To me, that is virtually the same as a margin account.  However, This view is from someone who never paid interest on anything beyond a home mortgage which was paid off as soon as was possible (1989) after which time I was able to focus on investing.

 

[Outtahere]

To answer the original question, my own preference would be to pay for the house with cash. One of my goals was to own my home free can clear, can't beat the feeling.

 

[tryan]

With the $$ in hand I'ld pay cash for the house.  It's a lateral move between primary resisdences.  Very few here would say "take a home equity loan and throw it in stocks".  But that's what you'ld be doing.

That being said .... the largest reason for keeping a small mortgage while fired - for me - was:

1) interest rate fixed and low (4.875%)
2) capitol gains and fees (25%) would be incurred on any sale to generate pay-off $$.
3) closing costs are spilt milk since they were incurred before I had any opportunity to pay the off.

With bonds paying more than I am paying on the mortgage ... I sleep fine.

 

[Mr._johngalt]

  But I don't think it otherwise ever makes sense to borrow money to make financial investments. 

This statement is nonsense. AltaRed, you need to rethink this.

JG

 

[cute fuzzy bunny]

Why does this discussion have to revolve around nationality & culture? And besides, wasn't it Japan that "invented" the 100-year mortgage in the late '80s?

I can see where different cultures/nationalities might take a very different approach to debt. Or even the "family culture".

My dad tells me that a very common mortgage instrument during the depression era was a 100% interest only product where you paid just the interest through the life of the loan (up to 20 or 30 years) and (hopefully) paid the balance off when you sold the (hopefully) appreciated home at teh end of the mortgage term.

It was often cheaper than rent if you bought a modest home and over 20-30 year periods - - if you stayed that long. I wouldnt be surprised to see this come back as the next step past the current adjustable rate interest only option...should the housing market resume its upward roar.

Actually I dont think we have enough information from the OP to offer a suggestion, but I'll hazard some guesses.

If the OP is still working, still in the accumulation phase, has an investment plan with a very large equity component, doesnt have a good sized portfolio outside of the monies mentioned for the home transactions, and is more than 15-20 years away from retirement, then I'd take a mortgage and invest the proceeds.

If the OP is retired, has a decent sized portfolio, has a large bond or cash component to the portfolio, and plans to live in the house for a shorter than 15 year period, I would suggest paying cash.

Otherwise, the thread REW links covers the range of math and emotion involved in this dialog.

 

[cute fuzzy bunny]

This statement is nonsense. AltaRed, you need to rethink this.

Its not nonsense at all, imo.

If you're borrowing money for investing at a rate and term that creates a cost that is not exceeded by the expected return on the investment, then you're speculating and good luck with that. If you're using historical reference data for the expected return that doesnt match up well with a reasonable expectation for the conditions during your arbitrage, you're speculating again.

Mortgages are tough. Taking the emotional "I wanna sleep at night/hate debt" piece out, most people change residences in 7 years or less. In short periods like that, investment returns have frequently been lower than the prevailing average mortgage rates.

If you have plenty of money and a long term horizon, and/or dont plan to move, and you can hang in there during a long term down/sideways market without flinching...go for it.

The only case I can see for a no-brainer is if you can borrow at a rate while getting a sure-thing return on your money that exceeds the investment cost for the period of investment expected. I dont know about you folks, but I cant get the rates needed to make that no-brainer deal work for me.

Taxes obviously have a major effect on this.

 

[Howard]

You can get a 7 year Mortgage at 4%, and you can buy a Bond yielding 6% that matures in 7 years, a No Brainer, 50% return on your money.

You go in to renew your Mortgage after 7 years, but now the rates are 10% and , guess what, you can't afford the payments.

I am not the only one who remembers rates quickly appreciating to nearly 20% and people walking away from their mortgages.

Debt Free is the best course of action, unfortunatly too many peope do not remember the lessons of the past, instead of using today's low rates as a Get Out of Jail Free Card, they refinance.

Best Investment, pay off your mortgage while you have these low rates.

 

[Robert the Red]

You can get a 7 year Mortgage at 4%, and you can buy a Bond yielding 6% that matures in 7 years, a No Brainer, 50% return on your money.

You go in to renew your Mortgage after 7 years, but now the rates are 10% and , guess what, you can't afford the payments.

Although I'm working towards paying off my mortgage, I think this example is exactly wrong. That is, I agree with the conclusion but disagree with the logic. In this example, if you take the bond payoff at 7 years, you could payoff the mortgage, and would have netted the 2% interest differential for 7 years. So not being able to afford the interest when rates are 20% in 7 years is unimportant, IF you have the money ready for the payoff (as described in the above scenario).

However, the above scenario is unlikely, what with the way markets work. Or at least, you'd have to hunt pretty hard to find someone who would lend you money at 4% when you (and presumably, he) can find another person willing to pay 6% for exactly the same term.

 

[Mr._johngalt]

However, the above scenario is unlikely, what with the way markets work.  Or at least, you'd have to hunt pretty hard to find someone who would lend you money at 4% when you (and presumably, he) can find another person willing to pay 6% for exactly the same term.

Maybe you would "have to hunt pretty hard", but this can be done.
Not only that, the venues are quite vast if you know where to look.
For example, a good friend makes a lot of money by borrowing money
from banks and making secured loans to companies with marginal credit,
or not even "bankable". How can he do this? Easy. He knows how he will
come out if his customer defaults (happens a lot). Same principle applies
to the "Buy here, pay here, bad credit okay" used car places.

JG

 

[AltaRed]

Perhaps so JG, but the average person is not willing to play that game and sleep well at nights. It would be interesting for the original poster to drop back in here and make an observation or two of what has transpired.

 

[sgeeeee]

Hi SG,

As I understand it, you have a mortgage that you could pay off tomorrow if you had to, right?  I think that puts a different spin on things;  there isn't much sleep-at-night factor in such a case.

Bpp

Yes. But I don't really follow the sleep-at-night argument. The original poster says he has enought to pay off. He can get a mortgage and invest the money. Or he can pay off and not have the money invested. If the interest rate is low and his investments do well (over the period of the loan) he comes out ahead by having a mortgage. If the interest rate is high and his investment return is low, he comes out ahead by paying it off up front. What is the probability of either of these cases? It depends on the interest rate he can get, his investment style and performance, and the period of the loan. Taxes need to be considered although the effect is small. The ratio of the mortgage value to total portfolio value plays a role. If you run the numbers (using FIRECALC) for various specific cases, sometimes keeping a mortgage produces the highest probability of producing a safe portfolio and coming out ahead financially. Sometimes paying off the house is safer and produces the most likely financial advantage. I sleep best at night when I play the odds. Someone else sleeps best at night when they have no mortgage.

Actually, we've had this discussion so often on this board that I'm about to fall asleep right now.

 

[grumpy]

We downsized after we retired and paid cash for the new house. We had already paid off the mortgage on the old house (we had refi-ed with a 10 yr. fixed rate) several years before retirement and did not want a mortgage on the new house. That mortgage was the ONLY debt we EVER had. I always paid cash for cars and when I could pay cash for a house I did. Always slept well at night.

Grumpy

 

[Mr._johngalt]

Its not nonsense at all, imo.

If you're borrowing money for investing at a rate and term that creates a cost that is not exceeded by the expected return on the investment, then you're speculating and good luck with that.  If you're using historical reference data for the expected return that doesnt match up well with a reasonable expectation for the conditions during your arbitrage, you're speculating again.

Mortgages are tough.  Taking the emotional "I wanna sleep at night/hate debt" piece out, most people change residences in 7 years or less.  In short periods like that, investment returns have frequently been lower than the prevailing average mortgage rates.

If you have plenty of money and a long term horizon, and/or dont plan to move, and you can hang in there during a long term down/sideways market without flinching...go for it.

The only case I can see for a no-brainer is if you can borrow at a rate while getting a sure-thing return on your money that exceeds the investment cost for the period of investment expected.  I dont know about you folks, but I cant get the rates needed to make that no-brainer deal work for me.

Taxes obviously have a major effect on this.

I  was not talking about "no brainers".  But, saying that "borrowing money
to  invest" is a bad idea is just plain wrong.  I don't see how anyone
with real world experience would say such a thing.  Gosh, it's almost
anti-capitalistic.

JG

 

[Mr._johngalt]

Yes.  But I don't really follow the sleep-at-night argument.  The original poster says he has enought to pay off.  He can get a mortgage and invest the money.  Or he can pay off and not have the money invested.  If the interest rate is low and his investments do well (over the period of the loan) he comes out ahead by having a mortgage.  If the interest rate is high and his investment return is low, he comes out ahead by paying it off up front.  What is the probability of either of these cases?  It depends on the interest rate he can get, his investment style and performance, and the period of the loan.  Taxes need to be considered although the effect is small.  The ratio of the mortgage value to total portfolio value plays a role.  If you run the numbers (using FIRECALC) for various specific cases, sometimes keeping a mortgage produces the highest probability of producing a safe portfolio and coming out ahead financially.  Sometimes paying off the house is safer and produces the most likely financial advantage.  I sleep best at night when I play the odds.  Someone else sleeps best at night when they have no mortgage. 

Actually, we've had this discussion so often on this board that I'm about to fall asleep right now.   

Me too!

JG