Cash vs. Mortgage: An Overview
Paying cash for a home has the major advantage of avoiding additional debt. But, even if you have the cash to pay for a home, there are advantages to taking out a mortgage as well. For example, you may be able to invest the money you save from paying cash in a way that earns you more than you would have paid in interest on the mortgage.
Here are some of the major differences between using cash to buy a home versus taking out a mortgage, including the pros and cons of each payment method.
Key Takeaways
- Paying cash for a home means you won't have to pay interest on a loan.
- You will also save money on closing costs by using cash instead of taking out a mortgage.
- Using cash to pay for a home often gives the buyer an advantage in getting the home, in part because the seller does not need to depend on financing approval.
- Using cash to buy a home typically makes the buying process faster because there are no loan approvals and lender requirements.
- Having a mortgage can allow you to use your cash for other purposes, such as investing.
- In the long-term, investing has the potential to earn more profits than you would have saved in interest in closing costs.
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Benefits of Using Cash to Pay for a Home
Paying cash for a home eliminates the cost of interest on the loan and any closing costs, which can total tens of thousands of dollars. "There are no mortgage origination fees, appraisal fees, or other fees charged by lenders to assess buyers," says Robert Semrad, JD, senior partner and founder of DebtStoppers Bankruptcy Law Firm in Chicago.
Paying with cash is usually more attractive to sellers, too. "In a competitive market, a seller is likely to take a cash offer over other offers because they don't have to worry about a buyer backing out due to financing being denied," says Peter Grabel, managing director, MLO Luxury Mortgage Corp. in Stamford, Conn.
A cash home purchase also has the flexibility of closing faster than one involving loans, which could be attractive to a seller. A cash buyer might be able to get the property for a lower price and receive a 'cash discount' of sorts, Grabel says.
A cash buyer could also purchase a home for cash and then still do a cash-out refinance after they have already closed on the home purchase. This provides:
- Easier home-buying process in a hot housing market with multiple competing offers
- Long-term financial benefits of taking out a low-interest mortgage while investing their money
A cash buyer's home is not leveraged, which allows a homeowner to sell the house more easily—even at a loss—regardless of market conditions.
Is a Mortgage Better Than Paying Cash for a Home?
Financing a home also has significant benefits. Even if you can pay cash for a home, it might make sense to keep your cash instead of using it to buy real estate.
If the home turns out to need major repairs or renovations, it may be tough to obtain a home equity loan or mortgage. You don't know what your credit score will look like in the future, how much the home will then be worth, or other factors that determine approval for financing. Still, getting a home equity loan or home equity line of credit (HELOC) is easier the more equity you have in your home.
Paying cash could also cause a problem if the owners want to buy a new home but have used their cash to buy their current home. "If cash buyers decide it’s time to sell, they need to make sure they will have sufficient cash reserves to put down as a deposit on the new home," says Grabel.
In short, cash buyers need to be sure they have enough liquidity to meet their other financial needs. By opting to go with a mortgage, you can give yourself more financial flexibility.
You can use a mortgage calculator to budget some of the potential costs.
Paying a mortgage can also provide tax benefits for homeowners who itemize deductions because mortgage interest payments are tax deductible.
Investing vs. getting a mortgage
Of course, with a mortgage, you end up paying more overall, since it comes with interest payments that add up over time. But, depending on the state of the stock market, you could be saving less than that money might have earned had you taken out a mortgage and invested the cash.
10%
The average annualized return of the is about 10% from its inception through 2022. Of course, each year the return can be significantly higher or lower than 10%. But in the long run, an investment over 30 years in a low-fee index fund following the S&P 500 would have given you with a much higher net worth than you would pay have paid in interest on a mortgage of the same amount.
You may also possibly save even more on your taxes than you would save with a mortgage interest deduction. If you use your extra cash to invest in the stock market directly or to live on while investing in a tax-advantaged account like a traditional IRA, Health Savings Account (HSA), 401(k), or other workplace plan, you will potentially save more in taxes than you would have by itemizing your mortgage interest.
Special Considerations
In some instances, having a mortgage can protect you from certain creditors. Most states grant consumers a certain level of protection from creditors regarding their home. Some states, such as Florida, completely exempt the house from the reach of certain creditors.
Other states set limits ranging from as little as $5,000 to up to $550,000. "That means, regardless of the value of the house, creditors cannot force its sale to satisfy their claims," says Semrad. This is known as a homestead exemption, but keep in mind it does not prevent or stop a bank foreclosure if the homeowner defaults on their mortgage.
How Homestead Exemption Works
If your home, for example, is worth $500,000 and the home's mortgage is $400,000, your homestead exemption could prevent the forced sale of your home in order to pay creditors the $100,000 of equity in your home, as long as your state’s homestead exemption is at least $100,000.
If your state's exemption is less than $100,000, a bankruptcy trustee could still force the sale of your home to pay creditors with the home's equity in excess of the exemption.
Can You Be Foreclosed on Without a Mortgage?
Paying off your mortgage doesn't mean your house can never be foreclosed on. You can still go into foreclosure through a tax lien. For example, if you fail to pay your property, state, or federal taxes, you could lose your home through a tax lien.
Is It Easier To Buy a House With Cash?
Buying a house is much easier with cash. You don't have to wait for an inspection, appraisal, or underwriting. Home sellers will also usually favor cash buyers so they don't have to deal with lending timelines, which means your cash offer is more likely to be accepted. Even though an inspection isn't required when you buy a home with cash, it is still a good idea to get one to make sure your new home won't come with any expensive surprise repairs.
If You Have Bad Credit, Do You Have To Buy in Cash?
Cash isn't your only option for buying a home if you have bad credit. You can still be approved for a mortgage through a Federal Housing Administration Loan with 10% down if your credit score is at least 500.
The Bottom Line
On the one hand, you could have a higher net worth at the end of 30 years if you invest extra money instead of using cash for a house. However, not having a mortgage gives you freedom from mortgage debt. Weight the pros and cons of paying cash versus using a mortgage with your situation, and consider consulting a financial advisor for more guidance.
