A survey in The Wall Street Journal asked whether readers would pay cash for a house if they had the money. Surprisingly, 71% of readers would pay cash for their home. I agree it certainly sounds nice to own your home outright and never have a mortgage payment.
However, from a financial planning perspective, paying cash is not always the best choice.
One benefit that comes with owning a home is the mortgage interest deduction on your taxes. You can generally deduct the interest that you pay on debt resulting from a loan used to buy, build, or improve your home, provided that the loan is secured by your home.
I suppose you could argue that tax laws change every few years or so, and that it seems someone proposes eliminating or significantly limiting the mortgage interest deduction every year.
Instead, let’s look at the opportunity cost of not carrying a mortgage. Perhaps you have $200,000 in cash, and you want a $200,000 home. You could pay for the home outright, or you could put $40,000 down and finance the remaining 80%. Assuming a 4% interest rate on a 30-year mortgage, your monthly payment would be $763.86. However, you have decided you want to live debt free. You pay cash for your home and you add $763.86 monthly to your savings, which you invest. Assuming a conservative 8% average annual return on your investment, in 30 years you should have around $1,138,000. Not too shabby.
Alternately, if you decided to carry a mortgage, you could invest the $160,000 you did not use to buy the house. Assuming the same 8% average annual return on your investment, in 30 years when your mortgage is paid off, your investment should grow to about $1,749,000. You could be looking at an additional $611,000 in 30 years!
I know, you’re thinking, who buys a home and actually stays in it for 30 years? Let’s say after 10 years, you decide to move. Let’s also assume the house has increased in value and you were able to sell it for $280,000. If you paid for your home in cash and invested the equivalent of your mortgage payment each month, you should have about $140,000, assuming you earned an 8% return on your investment. Adding the $280,000 from the sale of your home to your savings should bring your total $420,000.
If you chose to pay a mortgage and invested your cash at 8%, your original $160,000 should be about $355,000. After 10 years, your mortgage payoff should be around $126,000. If you were able to sell the home for $280,000, you should make a profit of $154,000. Adding that to your investment, you should have $509,000. Even after 10 years, you could still come out ahead by nearly $89,000 by choosing to carry a mortgage.
Now you may think an 8% return on your investment is impossible in this economy. However, earlier this year both the Dow Jones Industrial Average and the S&P reached all-time highs. Also consider from the bottom of the Great Recession on March 9, 2009, the Dow is up 157.77%, or 23.43% on an annualized basis. Looking 10 years back, the Dow is up about 103.23% or 7.34% on an annualized basis.
At Henssler Financial we believe you should Live Ready, which includes understanding which accounts will allow you to save the most for your future. If you have questions regarding your savings strategy, the experts at Henssler Financial will be glad to help. You may call us at 770-429-9166 or email at experts@henssler.com.