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Why not to buy a house with cash?

Paying all cash for a home can make sense for some people and in some markets, but be sure that you also consider the potential downsides. The downsides include tying up too much investment capital in one asset class, losing the leverage provided by a mortgage, and sacrificing liquidity.

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“Cash is king,” goes the old adage. However, does that philosophy ring true when buying a home?

Being ready to pay cash can give you an edge with motivated sellers eager to close the deal, but it can also help you with sellers in real estate markets where inventory is tight and bidders may be competing for the property. Paying all cash for a home can make sense for some people and in some real estate markets, but be sure that you consider the downsides as well. Key Takeaways Cash offers can give homebuyers an edge with motivated sellers eager to close the deal, or with sellers in tight markets where many bidders are competing for the same properties. Paying all cash for a home can make sense for some people and in some markets, but be sure that you also consider the potential downsides. The downsides include tying up too much investment capital in one asset class, losing the leverage provided by a mortgage, and sacrificing liquidity.

Investopedia / Sabrina Jiang

1:26 Should You Buy a Home With Cash Or a Mortgage?

What Is the Process of Buying a Home with Cash?

The first step in buying a home with cash, not surprisingly, is coming up with the cash. Unless you happen to have that much money sitting in the bank, you’ll probably need to liquidate other investments and have the proceeds transferred into your bank account. Bear in mind that selling securities on which you’ve made a profit will trigger capital gains taxes. A prospective seller may also ask for proof that you have the cash, such as your latest bank statement. After that, the process is very similar to buying a home with a mortgage—except for having a mortgage lender looking over your shoulder. Once you’ve chosen a home that you want to buy: Negotiate a price and sign a contract. Often referred to as a sales and purchase agreement, this contract will confirm the terms to which you and the seller have agreed. Sample forms are available online, from your real estate agent, or from your or the seller’s lawyer. You will want the contract to include a home inspection contingency so that you can get out of the deal or renegotiate the price if there’s anything seriously wrong with the property. Hire a professional home inspector. This most likely would be mandatory if you were using a mortgage, but it’s also a very good idea if you’re paying cash. Arrange for title insurance. Since no mortgage lender is involved, you won’t have to pay for lender’s title insurance. However, you will want owner’s title insurance. The title insurance company’s job is to search public records to verify that you’ll have clear title to the property that you’re purchasing—meaning that you own it free of any liens, claims, or disputes over whether the seller was the actual owner. Title insurance protects you against any problems that the title search might have missed. Whether you or the seller pays the one-time premium for this insurance is for you to negotiate. Set up the closing. This is the meeting at which you and the seller will sign and exchange various documents to seal the deal. It may be held at the office of an escrow company hired by you or the seller to handle the necessary paperwork and register the sale with the proper authorities. Some title insurance companies also provide these services. Fork over the cash. The closing is typically the point at which you pay the seller. This has traditionally required a cashier’s check from your bank but also may be done electronically these days.

Pros of Paying All Cash for a Home

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1. You’re a more attractive buyer. A seller who knows that you don’t plan to apply for a mortgage is likely to take you more seriously. The mortgage process can be time-consuming, and there’s always the possibility that an applicant will be turned down, the deal will fall through, and the seller will have to start all over again, notes Mari Adam, a certified financial planner in Boca Raton, Fla. 2. You could get a better deal. Just as cash makes you a more appealing buyer, it also puts you in a better position to bargain. Even sellers who have never heard the phrase “time value of money” will understand intuitively that the sooner they get their money, the sooner they can invest or make other use of it. 3. You don’t have to endure the hassle of securing a mortgage. After the housing bubble and the ensuing financial crisis of 2007–2008, mortgage underwriters tightened their standards for deciding who’s worthy of a loan. While they have loosened up somewhat in more recent years, they are still likely to request substantial documentation even from buyers with solid incomes and impeccable credit records. While that might be a prudent step on the part of the lending industry, it can mean more time and aggravation for mortgage applicants. Other buyers have little choice but to pay cash. “We’ve had buyers who couldn’t get a new mortgage because they already have an existing mortgage on another house up for sale,” Adam says. “Since they can’t get a new mortgage, they buy the new property with all cash. Once the old property sells, they may place a mortgage on the new property or perhaps decide to forgo the mortgage altogether to save on interest.” 4. You’ll never lose a night’s sleep over mortgage payments. Mortgages represent the largest single bill that most people have to pay each month, as well as the biggest burden if their income falls off due to a job loss or some other misfortune. Years ago, homeowners would sometimes celebrate their final payments with mortgage-burning parties. Today, the average homeowner is unlikely to stay in the same place long enough to pay off a 30-year mortgage or even a 15-year one. In addition, homeowners often refinance their mortgages when interest rates fall, which can extend their loan obligations further into the future. 5. You’ll look forward to a mortgage-free retirement. If peace of mind is important to you, then paying off your mortgage early or paying cash for your home in the first place can be a smart move. That’s especially true as you approach retirement. Though considerably more Americans of retirement age carry housing debt than they did 20 years ago, according to Federal Reserve data, many financial planners and retirees see at least a psychological benefit in retiring free of debt. “If someone is downsizing to a less expensive house in retirement, I generally advise them to use the equity in their current home and not get a mortgage on the new house,” says Michael J. Garry, a certified financial planner in Newtown, Pa.

Cons of Paying All Cash for a Home

1. You’ll be tying up a lot of money in one asset class. If the cash required to buy a home outright represents most of your savings, then you’ll be bucking one of the hallowed rules of personal finance: diversification. What’s more, in terms of return on investment, residential real estate has historically lagged behind stocks, according to many studies. That’s why most financial planners will tell you to think of your home as a place to live rather than as an investment.

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2. You’ll lose the financial leverage that a mortgage provides. When you buy an asset with borrowed money, your potential return is higher—assuming the asset increases in value. For example, suppose you bought a $300,000 home that has since risen in value by $100,000 and is now worth $400,000. If you had paid cash for the home, then your return would be 33% (a $100,000 gain on your $300,000). However, if you had put down 20% and borrowed the remaining 80%, then your return would be 166% (a $100,000 gain on your $60,000 down payment). This oversimplified example ignores mortgage interest, tax deductions, and other factors, but that’s the general principle. It’s worth noting that leverage works in the other direction, too. If your home declines in value, then you can lose more, on a percentage basis, if you have a mortgage than if you had paid cash. That may not matter if you intend to stay in the home, but if you need to move, then you could find yourself owing your lender more money than you can collect from the sale. 3. You’ll sacrifice liquidity. Liquidity refers to how quickly you can take your cash out of an investment, if you ever need to. Most types of bank accounts are totally liquid, meaning that you can obtain cash almost instantly. Mutual funds and brokerage accounts can take a little longer, but not much. A home, however, can easily require months to sell. You can, of course, borrow against the equity in your home, through a home equity loan, a home equity line of credit, or, if you’re at least age 62, a reverse mortgage. As Garry points out, however, all of these options have drawbacks, including fees and borrowing limits, so they should not be entered into casually.

Buying a Home with Cash: FAQs

How Common Are All-Cash Home Sales? Just over 26% of single-family house and condominium sales were all cash in teh first quarter of 2021, according to ATTOM Data Solutions. That's the highest level since the first quarter of 2019. How Much Can I Save if I Pay All Cash? A study published in 2021 found that homebuyers with mortgages paid 11% more on average than those who paid all cash. But a lot will depend on the state of the housing market at any given time. Can I Change My Mind Later and Get a Loan on a Home I Paid Cash for? Yes, and you’ll have a variety of options to choose from. These include a mortgage with cash-out refinancing, a home equity loan or line of credit, or a reverse mortgage if you meet the age requirements.

investopedia.com - Should You Pay All Cash for Your Next Home? - Investopedia

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