Not many people can afford to pay cash for the roof over their head, but if you find yourself in this situation, there are some compelling reasons to consider buying your home outright instead of taking out a mortgage. Even so, carrying a mortgage can have a number of advantages, especially when interest rates are low.
If you put down less than 20 percent when you buy your home, you may be subject to costly private mortgage insurance. This special insurance coverage is designed to protect the lender in the event of a default, and it can add considerable costs to your monthly mortgage payment. If you pay cash for your home, you can avoid this costly insurance. You can also be certain that the bank will not foreclose on your home, since you own it outright.
Low Interest Rates
When interest rates are low, it can be difficult to justify paying cash for your home, especially if that cash is currently earning more than the interest rate on the mortgage you could get. If you can lock in a 15 or 30 year mortgage at a compelling interest rate, doing so can be a very smart move. On the other hand, if interest rates are high and your money is sitting in low yield savings and money market accounts, paying cash for your home and avoiding those interest charges can be very wise.
House Rich, Cash Poor
If buying your home with cash leaves you without enough money for an emergency fund or other investments, it might be better to take out a mortgage and keep the money in your bank account. One strategy is to take out a small mortgage, allowing you to keep more of your money liquid and invest it in other places. Having all your wealth tied up in real estate can be problematic, since real estate is a very illiquid investment.
No Tax Deduction
If you pay cash for your home instead of taking out a mortgage, you give up the tax deduction you could have gotten for your mortgage interest. The lack of a mortgage interest deduction can increase your tax bill and leave you with less money in your pocket. In absolute terms, you are still better off paying cash if you can afford it, since the value of the mortgage interest deduction is limited to your income tax rate. But in real terms, having a mortgage interest deduction available can be very valuable.