According to the National Association of Realtors’ 2018 Profile of Home Buyers and Sellers, nearly 90 percent of recent home buyers obtained financing for their purchase (NAR). Meanwhile, according to a recent indicator from the National Association of Realtors, 19 percent of homebuyers in May 2019 paid cash. If you’re one of the fortunate few who has the option to choose which group you fall into, continue reading as we discuss the advantages and disadvantages of paying cash for your home versus receiving a mortgage. Certainly, removing a mortgage payment isn’t as simple as it sounds. A lot of things should be taken into consideration, including current mortgage rates, the amount of money you need to borrow, and your own personal financial circumstances.
Several reasons why you should think about having a mortgage
Even if you have the cash on hand to put toward a home purchase, this is not necessarily the ideal option for everyone. Perks of acquiring a mortgage include the opportunity costs associated with it, the chance to develop wealth through the use of leverage and auxiliary credit, as well as tax deductions and benefits.
You might be able to earn more money somewhere else.
Investing your money instead of locking it up in a significant purchase may make more sense if current mortgage rates are lower than the average rate of return on the stock market, according to the Federal Reserve. A common comparison is that taking out a mortgage to purchase a property is equivalent to having a negative interest rate on your home loan. As an alternative, by paying cash for a home outright, you effectively lock in a rate of return that is equal to whatever current mortgage rate you would have been able to obtain.
As a point of comparison, the average annual return on the S& P 500 index during the previous 80 years was little more than 9 percent. Considering the current average rate on a 30-year mortgage of approximately 4.2 percent at the time of this writing, it quickly becomes apparent the potential investment earnings you might have foregone if you had chosen to take out a mortgage rather than investing in a well-diversified portfolio of stocks and bonds instead of paying cash for the house.
Make use of your debt as a leverage.
When you pay cash for a house, you are permitted to spend that money solely for the purpose of purchasing the house. Once you’ve locked in the price of your home, that money is no longer available to you unless you elect to refinance the property or take out a home equity loan to supplement your income. As a result, the growth potential of your property is exactly proportional to its ability to appreciate in value. If you live in an area where the real estate market is flat or declining, your house purchase may potentially result in a negative return on your investment. However, if you decide to take out a mortgage to cover all or a portion of the cost of your house purchase, you will have significant cash savings that you can use to invest elsewhere and benefit from the low interest rates currently available on mortgage loans.
How to raise your credit score
Having a mortgage and making on-time payments will enhance your credit score over the long term, even if it is not the most expedient method of establishing credit. A broader variety of debt is often preferred by the credit reporting agencies, and house loans are generally regarded as a productive form of debt that contributes to the improvement of a borrower’s credit profile. While it may just be a matter of a few points in the short term, not having a mortgage might result in a huge loss of opportunities to considerably improve your credit score over time.
Make use of the tax deduction available to you.
Finally, mortgage debt has the benefit of being deducted from income taxes. When purchasing a home, married couples can normally deduct mortgage interest from their taxes up to a limit of $750,000, or $375,000 if they are married but filing separately, whichever is greater. The value of this write-off has decreased from past years with the passage of tax reform legislation in 2018, although it continues to be beneficial to a fraction of homeowners who have outstanding mortgage payments. The intricacies of these adjustments are covered in further detail in our guide to the 2018 mortgage interest deduction. A mortgage makes home ownership more affordable for many people:
Your first home is likely to be the most expensive purchase you will ever make, and your mortgage will be your most significant debt. Given the fact that you may spread the repayments on your house loan over a longer period of time, the amount you’ll pay back each month is more reasonable and affordable.
Traditionally, when people take up their first mortgage, they have tended to choose a 25-year term as their preferred length. As a result, there are no limitations in this regard, and as people live longer lives and the retirement age rises, 30-year mortgages are becoming more popular. This can help you reduce your monthly payments, but it also means that you’ll be saddled with the debt for a longer period of time.
Choosing the shortest term possible is worthwhile since not only will you be mortgage-free sooner, but you will also save thousands of pounds in interest payments. Not to mention that when you refinance and transfer to a new product, you shouldn’t choose for another 25 or 30 year term as a result of your previous decision.
Consider the following scenario: you obtain a first mortgage with a fixed rate of five years and borrow the money over a 25-year period. When it comes time to refinance five years later, you should seek to spread the repayments over a period of twenty years.
A mortgage is a cost-effective method of borrowing money since it allows you to:
The fact that a mortgage is secured against your property means that interest rates on mortgages are often lower than those on other types of borrowing. When you have an equity loan, the bank or building society has the assurance that if everything goes wrong and you are unable to repay the loan, you still have something valuable to sell in order to pay back a portion or the entire loan amount.
Mortgage interest rates are continually fluctuating — they’ve been as high as 15 percent and as low as 2 percent over the course of the past few decades. Fixed rate and tracker mortgages are the most popular types of mortgage, but there are also discount and offset mortgages, as well as packages tailored at first-time buyers and landlords, which are becoming increasingly popular. Our guide to the different types of mortgages goes into greater detail on each of these.
The government offers a number of initiatives to assist people in purchasing their first house, including Help to Buy, Funding for Lending, and NewBuy, to name a few. Some shared-ownership schemes, in which you only purchase a portion of the property and pay rent on the amount of the property that you do not yet own, are operated by local governments or housing trusts.