Is it silly to buy a house with cash?

[PtboEliz]

I'd be grateful for any feedback. I'm a first-time buyer, looking to buy a two unit property and live in one unit, renting the other. The idea of paying for a house outright appeals to my simple-loving and risk-adverse nature. I would be able to do this without strapping myself. I'm looking at properties between $220-$280K (CDN).

If I were to take out a mortgage, I understand that I could deduct some of the interest (proportionate to investment component) as a business expense, dollar for dollar (I think?) against rental income.

A banker friend thinks I'm nuts to pay cash for a house. As a lender, he probably has some bias. It is true that interest rates are at historic lows and there's a good chance I would be ahead if I invested the money instead. Though I haven't been a great investor to date (I am good at saving money, but have not been good at getting money working for me..  I've let it languish in the bank for a few years. My goal is to have a better financial plan in order soon.)

Is it silly to buy a house with cash given the expense deduction? Anyone else grappling with this?

Thanks for your consideration!

[greenleaf]

I'm sure most of the replies you get here will be telling you not to do it and will give some very rational arguments based on expected returns, but I think it is a fine thing to do if you are aware of the pros and cons, understand the argument against buying with cash, and decide that it's the right thing for you to do.

Disclosure: I paid cash for my first house fairly recently.  I hadn't set out to do so, but spent a very long time looking with some uncertainty on how much we would spend, and by the time that we bought (deadline to move due to expanding family) wound up with enough in the down payment fund to just buy what we decided on.  I consider myself quite rational with regards to money, so this would seem to be out of character, but I don't regret it.  It's very freeing.  (I also think it's kind of cool to be able to say that I've never been in debt in my life, and at this point almost certainly never will be- not that I would say that to anyone in the real world).

[NoNonsenseLandlord]

A cash offer will be a great way to get a discount.  Some rehab homes will only be available to cash buyers.  There is some positive benefit to owning the home.  My own home, 2-duplexes and 2-four plexes are paid off.  They make the cash flow very nice.

From a financial perspective, it depends on your other investment options and whether or not they are better than your own mortgage rate.  No one can predict the market, but over time that is generally a better investment than a home.  If you are retired, no house payment is a nice thing.

For the people that think a mortgage is a great thing, I would advise them to go with an interest only loan, assuming that it is available.  Or cash-out refi as often as you can.  More debt, is better...

[Rubic]

I don't know enough about your circumstances, but I'm living in a condo I purchased 5 years ago with a 15 year mortgage, even though I could have paid cash for < 10% of my savings.

Rationale:

• I'm making 10+% return with my investments
• Holy smokes, 3.5% mortgage?
• Mortgage interest tax deduction
• I can always pay of the mortage (and probably will when I FIRE)

Even if the above items aren't overwhelmingly in your favor, I think the flexibility of having a low-interest loan should be considered.  As someone who has negotiated business loans, I can tell you that home mortgage loans are one of the best financial deals ever.  Once your cash is put into the home it reduces your debt (good!) but remains illiquid.  If you have other investments (maxed out IRA/401k, taxable index funds, etc.) then it might make sense to pay cash.

[Mirwen]

I would advise mortgaging 50-80%.  The main reason in my mind would be the illiquidity of the money in the house.  With rates so low, there would be no cost to keeping the money invested, in fact you will probably come out ahead.  I would buy the place, put 20% down and start looking for my next real-estate investment if I had that kind of cash.  With 20% down you can buy 4 houses and keep a nice cushion too.

[Spork]

We built (what I hope is) our "till we die" house with cash.

It was our goal from the start.
* We are about to FIRE.  A paid off house was part of the plan
* When building a house, it is my opinion that the pain of writing a check comes in very handy.  When you're looking at the bottom line, that $500 here and $1000 there makes a big damn difference.  It doesn't take a lot of those to add up to real money.  We made lots of compromises to shave many thousands off the bottom line.  If you're financing, $30 a month for 30 years just doesn't seem like real money.

http://sporkintheeye.blogspot.com/2012/01/with-much-fanfare-i-would-like-to-point.html

[actknowledge]

Well I would consider first asking the question, where is the current market at that you're residing?  Meaning if rent prices are cheaper and the homes are nicer than what you can get compared to mortgaging a property, then you may just want to continue renting.

If you decide to buy then I would certainly mortgage the property to take advantage of the low interest rates.  If you plan on staying in the property first try to get a USDA loan and then if unable to do so, go FHA.  USDA loans are specific to an area.  Just do a web search on USDA's website to see if your area qualifies. All of the major banks Wells Fargo, Chase, etc. offer the product.  With FHA shop around for the lowest rate, which probably would be credit unions, and always ask for a Good Faith Estimate along with other home financing questions.  It's just a numbers and comparison game. 

As far as what do do with the other money you saved there are a few considerations.  One, put the money into an S&P 500 index fund with a low expense ratio.  Vanguard has one of the lowest expense ratio's in the industry.

Second, if you really are leery of putting the money into the stock market then certainly buy assets.  I lean towards real estate.  From that point you really need to hone in on your strategy.  Commercial or residential?  From experience, you certainly can attain $40,000-80,000 properties and cash flow them quite easily and in most cases make money.  You do have to deal with C/D type tenants, evictions, missed months rent payments, and possible damage to your property.  Or you can acquire a high end property.  Obviously, you would be dealing with a different type of tenant, so you decide.  Either way I would suggest paying off this property/ies.  Just in case you would lose your source of income this would help pay your personal mortgage. 

Third, if you're totally against putting the money in the stock market and don't want to be a a landlord, then you could always go old school and put the money into a high yield CD.  I wouldn't tie the money up too long at this point since mortgage rates are historically low, so are CD rates.  Shop around to get the highest return and then once rates do start to increase, maybe consider investing in a longer term CD.   

Congrats on acquiring all that dough.  Good luck with all of your decisions you have ahead.

[GoingConcern]

It's not the worst idea in the world.  Sure 3.5% is cheap and in the past 2 years the market has been earning much more than that. 

The advantages:

- You avoid dealing with banks that charge fees like origination cost (which in the U.S can be around $800-$1000).  The banks will also make you get the house appraised which is usually a few hundred dollars.  Not sure how it is in Canada but dealing with the banks post 2008 is a pain in the ass.
- You won't overspend.  People who take on loans tend to buy homes larger than they can afford.   
- You should be able to get a discount on the home.  If the seller has to option to deal with a buyer with a conventional home and one buying cash they would much prefer the one with cash.
- You are debt free.  No monthly payments to worry about.
- You're not getting market rate of returns but you will consistently earn 3.5% on your return (assuming you can't deduct the mortgage interest.)  Not bad.  If you invested the money and earned say 5% in the market the after tax return would be less..

Disadvantages:

-If you can deduct the interest expense then the actual rate of return would be less than 3.5% (basically 3.5% multiplied by your tax rate.)  Cheap money.
-You free up cash that can be used for other purposes.  If you want to buy another rental or invest it, well you have that option. 
-A large percentage of your portfolio is tied to an asset that is not liquid. 
 

[PtboEliz]

Thanks so much for your comments - a lot of food for thought here which is especially helpful as a promising listing has come up so I might be making an offer sooner than later. It is a brick bungalow in a nice neighbourhood with an extension out the back with a 1-bedroom apt. I'd live in the apt, and rent out the main house.

I should clarify that I'm in Canada so mortgage interest on residential properties is not a tax deduction as it is in the US - it would only be the portion for the investment unit that could be deducted as a business expense.

Spork & Greenleaf - Congrats to both of you and thank you for your comments. Having a paid off house would give me a lot of peace of mind and I love the idea of that freeing feeling you have Greenleaf. I just need to consider whether that is worth the opportunity cost. You know, Spork, I might be even more adverse to writing a cheque if it were attached to a line of credit.. opposite of most people. Congrats on your upcoming FIRE :)

NoNonsense - I'm not sure whether a cash offer helps for the house I'm looking at. it's not a distressed property. I will have to ask my agent whether in an offer we simply do not have a financing condition, or whether there's any advantage in disclosing cash payment. i.e., I'm not sure whether there's any difference to the seller whether a mortgage has been pre-approved versus cash pay? Amazing that your 5 properties are paid off - what an accomplishment. If the market is better over time, why don't you have mortgages? Can you help me understand why interest-only loan is a good way to go? That's kind of the same as renting a property - no equity building?

Mirwen - I admire your ambitious nature! Buying multiple properties highly leveraged just isn't for me. I'm okay with managing one unit (and expect some extra stress and strain with sharing a building with tenants) but I'd rather stick needles in my eyes than have lots to manage. I'm lazy and unambitious (I quit a lucrative career to have a simple life :)

actknowledge - You've convinced me to run a few more numbers but based on my research so far, buying a two unit property and living in the smaller unit is more cost effective than renting in my area. I have been in an artificially low rent situation for a number of years (living with family). Thank you for your point about strategy - I'm ideally looking to have a nicer, higher-end unit to rent. MMM had some good points in a blog post about this. I don't think I could easily stomach routinely evicting people.

I also appreciate your comments about investments - I'm not leery of the market per se, probably more overwhelmed by the choices and don't feel confident (a problem for many women investors I've spoken with). I should probably post elsewhere on the forum about this, and read carefully the many threads already posted for newbie Canadian investors.

rubic - Your points give me food for thought. I'm not sure I could make your 10% investment return, and I wouldn't get the same mortgage deduction that you would in the US, but the available low mortgage rate makes it difficult not to seriously consider. My banker friend has told me exactly what you wrote about mortgages being a great financial deal.

Thanks again, guys. Clearly, I have more thinking to do...

[PtboEliz]

GoingConcern - Thanks for your comments! That is a good and helpful pros and cons listing. The interest would be partially deductible in my situation but interest rate would be under 3% so cheap money!  You're right about there being extra costs (e.g., appraisal) for a mortgage. Dealing with a bank shouldn't be a pain given my friend connection though you never know.

The market's been strong the last years but that's far from a sure thing. The idea of having a guaranteed return, even if modest, combined with the freeing feeling of being debt-free is very appealing to me. Another way I look at it is that in an overall financial plan having a paid-off piece of real estate is good diversification (when I do get my act in gear to invest the rest of my money, I expect most of it will be in the market).

I take the point about a house being illiquid. But my investments will probably be for the long term as well. The rental income would supply a monthly income stream (even using the 50% rule for expenses).

I definitely will find out whether cash offer works in my favour for this house I'm looking at - part of me wondered whether it might be looked down upon (if she can pay that much in cash she must be rich so we'll counter!).

[Spork]

My "off the cuff" rule of thumb is this:  *IF* we were in the future and your house was 100% paid off via the conventional method, would you take out a loan on the house and leverage that money to invest?

Now: I think 99% of the population *should* say "no" to this.  I just don't think most people have the forethought.  I am 100% willing to give Mustacians the benefit of the doubt here, though.  I think if they say yes to this, they're going off to a quiet room and doing the math before they answer.

[jengod]

Pfft. Pay cash. Save yourself all the complications and the paperwork and the tangling with banks. You will NOT look back in a year and say, "Boy, I wish I had a mortgage on this place" and IF YOU DO, you can always get one then.

[Rubic]

PtboEliz,

Regardless which decision you make, you don't need to fret overmuch.  Neither path strays far from Mustachism, so you shouldn't worry in hindsight if you've chosen the most direct path, because either direction will lead you to your FI goal.  The important thing is you're making your decision with eyes wide open.  It's all good.

[Bearded Man]

While I get higher cash on cash returns on houses I've mortgaged, I am still glad I bought my first house paid in full. I always have a 3 bed, 1 bath house in the city near jobs, walk able and transit routes. I could work any job and still live well there. It has it's issues with traffic noise at times but I can work around that having lived there 2.5 years before.

[FIRE me]

Is it silly to buy a house with cash given the expense deduction? Anyone else grappling with this?

By the numbers you would probably be better off investing the money in the popular Vanguard total stock market index fund. Of course, that better off result isn't guaranteed.

If the economy were to really tank, you'd find that you can't live in an index fund. Which is why I paid off my 30 year mortgage in just under 7 years.

I'd pay cash for the house and enjoy the peace of mind dividend.

[PtboEliz]

Thanks for the comments Spork, jengod, rubic, Bearded Man & FIRE me - all helpful points which I appreciate very much. Spork, my answer to your rule of thumb would be no. FIRE, I'll be remembering "you can't live in an index fund." :)

If things come together for this house quickly, I'll lean towards cash. If I end up spending more time looking, I'll do further thinking on a mortgage. (This has helped me realize that I really need to get my financial house in more productive order. It can't be that hard, right?)

Interestingly, my agent tells me that a seller's common response to a cash offer here (non-distressed property) is to think the buyer has lots of money, so they often reply with a counter offer. My agent advises he has strategies to deal with this - basically, don't disclose cash payment unless you are competing with multiple other offers.

Thanks again for your insights, it's been helpful to post here. I'll post if I buy a house this week. We'll see how things play out!

[LouisPritchard]

I just put a cash offer on what would be my primary residence if it goes through (I'm getting antsy waiting on the bank to respond, it's a foreclosure) and I'll share my train of thought on it.

First the tax deduction I'm sure you've heard about is a joke. A deduction is not a 1:1 exchange towards your tax burden. If you are in the 30% tax bracket that means for every $1 you pay in interest you get to deduct $0.30 from your taxes owed. I'd rather pay the $0.30 and pocket $0.70 myself. To compound this problem mortgage interest on your primary residence is an itemized deduction and you have to exceed the standard deduction to even take advantage of it, for married filling jointly that's $12,200. So in my case I only benefit on itemized deductions in excess of $12,200. Now because you are looking to buy a multi unit and live in one I'm not sure how that works. Rentals go on a schedule E rather schedule A and they are a deduction for AGI so the standard deduction won't apply, you'll subtract your interest and expenses from rents and pay taxes if its a gain or deduct if it's a loss, not sure how that works if only half of the property is rental. Just remember deduction are not 1:1. 

Next I looked at what a mortgage would cost me, and it'd be around 4.5% for a 30 year. If doing a USDA or FHA with a low down payment you can expect PMI to increase that. I view paying cash the same as taking out a bond for 4.5%. As far as investing for more returns I looked at the S&P ETF SPY which made 9.3% since inception in 1993 (22 years), I'm pretty conservative in this area. The spread there is 4.8%. So I can pay cash and get what amounts to a 4.5% return, or index that cash and get 4.8%. I'd rather have the security of a paid off house than a 0.3% return.

[Elderwood17]

The math would say take out a mortgage.  If it were me that is what I would likely do.  But if math ruled everything I would take out a giant HELOC or otherwise cash out my equity and invest it today, but I kind of like having the paid of house and making greatly monthly investments with what would be a mortgage payment.  So just sit back and do what makes the most sense in your situation.  As stated by others a cash offer can help in a number of ways. 

[zephyr911]

I just put a cash offer on what would be my primary residence if it goes through (I'm getting antsy waiting on the bank to respond, it's a foreclosure) and I'll share my train of thought on it.

First the tax deduction I'm sure you've heard about is a joke. A deduction is not a 1:1 exchange towards your tax burden. If you are in the 30% tax bracket that means for every $1 you pay in interest you get to deduct $0.30 from your taxes owed. I'd rather pay the $0.30 and pocket $0.70 myself. To compound this problem mortgage interest on your primary residence is an itemized deduction and you have to exceed the standard deduction to even take advantage of it, for married filling jointly that's $12,200. So in my case I only benefit on itemized deductions in excess of $12,200. Now because you are looking to buy a multi unit and live in one I'm not sure how that works. Rentals go on a schedule E rather schedule A and they are a deduction for AGI so the standard deduction won't apply, you'll subtract your interest and expenses from rents and pay taxes if its a gain or deduct if it's a loss, not sure how that works if only half of the property is rental. Just remember deduction are not 1:1.

OP is Canadian so many of the details will not match the above.
Good points on the deductions though, and I wish more people understood that.

[Manguy888]

"*IF* we were in the future and your house was 100% paid off via the conventional method, would you take out a loan on the house and leverage that money to invest?"

That is a great question and one I've never asked myself before. I don't think I'm willing to let the math lead me down that road, even if it's the most optimal answer. However, in reality it's not much different than when I say I'm not going to pay my mortgage off early because of the investing/math implications. They're two sides of the same coin, in a way.

Ugh - I'm sick of this forum being so insightful and making me question myself

[lostamonkey]

Another option would be to pay cash, then take out a LoC for 60% of the property value and invest the money in a taxable account. This would allow you to fully write-off the mortgage interest.There are huge tax benefits to this as you can write off the whole interest amounts while your investments are only taxed at the dividend and capital gains rates. Most people do not know this method of writing off mortgage interest in Canada.

[more4less]

Basically it's "higher risk & return vs lower risk & return" choice.
Answer depends on how much risk are you willing to take.
PS: I'd mortgage it (I guess because I'm young :)
PPS: And no, it is not "silly".

[fishnfool]

After having a few mortgages over the years and busting my butt to get them paid down, I'm in the pay cash camp!

[piethief]

Not silly.  We just paid cash for our latest (and hopefully last) house in early 2015.  We also had paid off a house in the past.  Living in a house that has no monthly payment is an immensely satisfying situation.  I highly recommend it.

[PtboEliz]

Thought I'd give an update on this thread as after months of looking, I just finalized the purchase of a two unit semi-detached home and decided to pay cash. I agree that it's a higher risk/return v. lower risk/return situation and at the end of the day the peace of mind of owning a home outright wins with my personality.

The home is smaller and was less expensive than my target budget so I won't be strapped for cash and the drain on my savings gives me a hunger to re-build - working of course from my new home office :)

Thanks again to everyone who weighed in on this..

[sammybiker]

Congrats!

[Drifterrider]

Is it silly to buy a house with cash given the expense deduction?

If you have plenty of it (cash) it is a smart move.  You wouldn't finance your groceries would you?

[former player]

Also congratulations.  I am in the process of selling a house which has a miniscule mortgage in relation to its value and even so the idea of being totally mortgage free at last (I've always been other-debt free) is one of giddying delight.

[sunshine]

Thought I'd give an update on this thread as after months of looking, I just finalized the purchase of a two unit semi-detached home and decided to pay cash. I agree that it's a higher risk/return v. lower risk/return situation and at the end of the day the peace of mind of owning a home outright wins with my personality.

The home is smaller and was less expensive than my target budget so I won't be strapped for cash and the drain on my savings gives me a hunger to re-build - working of course from my new home office :)

Thanks again to everyone who weighed in on this..

Congratulations!!! For us peace of mind wins also. We bought our current home and recently our first rental cash. It's a great feeling owing no one.

[LiveLean]

Here's our story:

June 1999 - Bought first house. Roaring stock market. Could have paid cash. Followed advice to keep in stocks. Got $240K mortgage. Market soars more. Thinking of paying off mortgage after just three months. Kept in stocks. Market crashes early in 2000.

Early 2008 - By now, have saved another big wad. Market fairly strong. Pay off mortgage. Economy crashes in Fall 2008.

Mid-2014 - Have accumulated another wad. Yes, could have enjoyed 2009-2014 rally more, but did fine. Find once-in-a-lifetime buy on second home/investment property/rental. Take out mortgage on primary residence and pay cash for second home.

Bottom line: You always sleep well without a mortgage. Sure, you might --- might -- miss some opportunities, but you will always feel at least semi-FIREd when you have no debts.