100% Down Plan

[LivingAlmostLarge]

Ditto monkeymama. We too had save around $40k by 23 and bought a condo. Then we turned that and bought our townhouse for $120k down and now have $200k saved for DP. Renting would have been a waste for us because the average homes are $750k+. So I'd say that buying and staying longer in smaller places is what worked for us in HCOLA.

If $100k would have bought us a home cash we still wouldn't have done it. My DH is into investing and we would have been investing the money anyway.

[Shewillbemine]

For simplicity's sake, let's say you purchase a $100,000 home with 100% cash. If an even worse economic crash happens, a hurricane blows through your neighborhood or something terrible happens that lowers house values to even 80% market value, you just lost $20,000 very quickly. This is why it's sketchy business to purchase malleable assets 100%, unless you have several times the liquidity to do so (which you do not).

[littleroc02us]

For simplicity's sake, let's say you purchase a $100,000 home with 100% cash. If an even worse economic crash happens, a hurricane blows through your neighborhood or something terrible happens that lowers house values to even 80% market value, you just lost $20,000 very quickly. This is why it's sketchy business to purchase malleable assets 100%, unless you have several times the liquidity to do so (which you do not).

Actually the reason someone buys a house is to get rid of sending the bank interest payments and to free up tons of cash that you could use to fund investments in great masses or a 529 for your kids to go to college or to retire with minimal debt. Can you imagine not having a mortgage payment each month? Just think of how quickly you could become a millionaire.

[jpg7n16]

For simplicity's sake, let's say you purchase a $100,000 home with 100% cash. If an even worse economic crash happens, a hurricane blows through your neighborhood or something terrible happens that lowers house values to even 80% market value, you just lost $20,000 very quickly. This is why it's sketchy business to purchase malleable assets 100%, unless you have several times the liquidity to do so (which you do not).

welll....

let's say you buy a $100k home with no money down. So you own a home for $100k, and take on debt of $100k. Effect on net worth = $0.

Then an even worse economic crash happens, a hurricane blows through your neighborhood or something terrible happens that lowers house values to even 80% market value...

You also just lost $20,000 very quickly.

House worth $80k; debt owed $100k.... effect to net worth = -20k

And your scenario:

Purchase: house $100k; event: house $80k... effect to net worth = -20k

Your amount of leverage on the purchase has nothing to do with the impact of losing value on the home.

[bjl584]

welll....

let's say you buy a $100k home with no money down. So you own a home for $100k, and take on debt of $100k. Effect on net worth = $0.

Then an even worse economic crash happens, a hurricane blows through your neighborhood or something terrible happens that lowers house values to even 80% market value...

You also just lost $20,000 very quickly.

House worth $80k; debt owed $100k.... effect to net worth = -20k

And your scenario:

Purchase: house $100k; event: house $80k... effect to net worth = -20k

Your amount of leverage on the purchase has nothing to do with the impact of losing value on the home.

This whole scenario becomes muddied when you factor in the insurance policy. If you took out 100K in insurance on the house that's how much you will get even if the value of the property drops to 80K. (At lest, that's how it works where I live. I know different states have different rules.) So, I would rather have no mortgage and a house that drops in value than a mortgage and a house that drops in value. The house is a place to live. I would rather have the cash flow.

[jpg7n16]

This whole scenario becomes muddied when you factor in the insurance policy. If you took out 100K in insurance on the house that's how much you will get even if the value of the property drops to 80K. (At lest, that's how it works where I live. I know different states have different rules.) So, I would rather have no mortgage and a house that drops in value than a mortgage and a house that drops in value. The house is a place to live. I would rather have the cash flow.

True but the insurance covers you whether or not you have a mortgage

The part in blue is a very legit reason for paying off the home. For most people, mortgages kill cashflow.

[bjl584]

True but the insurance covers you whether or not you have a mortgage

The part in blue is a very legit reason for paying off the home. For most people, mortgages kill cashflow.

But I'm colorblind!!!!!

No, I'm kidding. I agree with you.

[safari]

Actually the reason someone buys a house is to get rid of sending the bank interest payments and to free up tons of cash that you could use to fund investments in great masses or a 529 for your kids to go to college or to retire with minimal debt. Can you imagine not having a mortgage payment each month? Just think of how quickly you could become a millionaire.

It depends on the mortgage interest rate. One would become a millionaire a lot faster by paying the mortgage every month, while the money is invested, instead of buying a house outright. For example, consider these two scenarios.

Scenario 1. A guy buys a house for $200,000 and finances the entire amount ($200,000) at 5% APR for 30 years fixed, even though he has $200,000 in cash, which he decides to invest into stocks and mutual funds. Every month he pays $1,074 to the bank and doesn't make any additional deposits to his investment account. In 30 years he would have the house paid in full and he would also have $2,012,531 in his investment account (I used an average return rate of 8%, which is very reasonable for long term investments).

Scenario 2. The same guy buys the same house for $200,000, but he decides to buy it with cash, so he can invest the $1,074 each month. His investment account starts with $0 and he deposits $1,074 every month ($12,888 per year). Using the same 8% average annual return rate, after 30 years he would have $1,576,793, which is quite a bit less, compared with Scenario 1.

If you consider the fact that mortgage interest is tax deductible, it makes the argument even more in favor of Scenario 1. If the guy financed $200,000 for 30 years at 5%, over 30 years he would have paid a total of $186,512 in interest. To make it simple, let's say he would get about 1/3 of that money back from the federal and state taxes, which would be an extra $55,954 in his pocket.

In summary, even though being debt-free sounds great, it may not always be the best idea financially. Debt (and mortgage in particular) is a valuable financial tool, which can really benefit you, if it's leveraged correctly.

[littleroc02us]

It depends on the mortgage interest rate. One would become a millionaire a lot faster by paying the mortgage every month, while the money is invested, instead of buying a house outright. For example, consider these two scenarios.

[

All of you math geniuses always forget to caculate something that is always left out of the equation. Risk! You can work the math every way possible, but if you or your loved one loses their job, becomes disabled, misses a payment, god forsake dies, there would be much less risk in owning your house outright then paying the monthly payment forever.

[safari]

All of you math geniuses always forget to caculate something that is always left out of the equation. Risk! You can work the math every way possible, but if you or your loved one loses their job, becomes disabled, misses a payment, god forsake dies, there would be much less risk in owning your house outright then paying the monthly payment forever.

Actually, there is a lot more risk with buying the house outright and leaving yourself with no cash. You can sell your investments in case of an emergency, but if something bad happens, what good is it to have a house paid in full, but no money to live on?

[littleroc02us]

nvested, instead of buying a house outright. For example, consider these two scenarios.

Scenario 1. A guy buys a house for $200,000 and finances the entire amount ($200,000) at 5% APR for 30 years fixed, even though he has $200,000 in cash, which he decides to invest into stocks and mutual funds. Every month he pays $1,074 to the bank and doesn't make any additional deposits to his investment account. In 30 years he would have the house paid in full and he would also have $2,012,531 in his investment account (I used an average return rate of 8%, which is very reasonable for long term investments).

Actually I just ran it through a calculator, if a guy were to finance $200,000 for 30 years at 5%, there would be 1.5% taxes and .5% pmi, which would result in a monthly payment of $1281.98 and would pay interest of $176,011.57 (if you were in the 25% tax bracket you would get back $44,002.89 from the IRS which equals $132008.68 in interest) and $75,000 in taxes and $10500 in PMI. Because you would pay taxes on both ways of paying off the house I won't include it or insurance, but you still end up paying $142,058.68 extra then buying a house outright.
Now I'm not sure what investment method you would use for the 200k, but lets just say you invested the 200k in Mutual funds at the time of retirement the person would end up paying taxes on the the $2,012,531 you stated above, so around 500k would be required for taxes if you are in a 25% tax bracket around retirement. In this scenario you would be left with around 1.5 million. Then you would deduct the extra interest payments which would leave 1.36 million.

Scenario 2. The same guy buys the same house for $200,000, but he decides to buy it with cash, so he can invest the $1,074 each month. His investment account starts with $0 and he deposits $1,074 every month ($12,888 per year). Using the same 8% average annual return rate, after 30 years he would have $1,576,793, which is quite a bit less, compared with Scenario 1.

In this scenario the user would not pay PMI or interest, so all that leaves is taxes. For both of these I didn't include Insurance because it would be the same for both. I left taxes out in scenario #1 as I will in scenario #2 because it's a wash. So if you and your wife maxed out your Roth IRA's for 30 years, which is $833 per month you would have around 1.2 million and then if you took the remainder each month which is $448.98 and invested it additionally in Mutual Funds you would have $673,602.53, which would be taxed at retirement say at 25% also then you would pay $168400, which would leave $505202. Combine that with the Roth's and you would have over 1.7 million after taxes.

So the outcome I come up with is this.

House paid for 200k in cash = 1.7 million no taxes(less risky)
Invest 200k and pay mortgage for 30 years = 1.36 million after taxes and interest payments are deducted.(Much more risky, majority of foreclosures are those with mortgages)
[/QUOTE]

[littleroc02us]

Actually, there is a lot more risk with buying the house outright and leaving yourself with no cash. You can sell your investments in case of an emergency, but if something bad happens, what good is it to have a house paid in full, but no money to live on?

I would hope that someone who has 200k in their pocket has an emergency fund and a job with an income.

[jpg7n16]

littleroc02us - I don't have to do the drawn out math to know that 5% tax deductible on mortgage, even with 0.5% PMI (4.25% tax adjusted); will result in less than 8% returns in stock market (6.8% tax adjusted - LTCG tax rate is a max of 15%).

The largest after-tax interest rate always wins. Like you said, taxes and insurance don't matter, because they affect both investors the same. The only costs considered should be those specifically tied to the loan.

But yes, there is risk in taking the loan and hoping for an interest rate arbitrage as described above. Primarily, the risk that investment returns do not out perform the rate on the loan.

That is why the above strategy of keep the mortgage, and invest the difference is only appropriate for someone with a higher risk tolerance. littleroc02us should definitely not attempt this strategy - your risk profile wouldn't allow you to sleep at night if you did.

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Nonetheless, I did some calcs and even assuming that PMI would be paid for the entire 30 years (which isn't true) the results are as follows:

Mortgage Holder
$200k invested at 8% compounded monthly for 30 years = $2,187,145.93 (basis of $200,000; LTCG of 1,987,145.93) = post tax value of $1,889,074.04

100% cash down {can invest the $1,073.64 mortgage payment and the $83.33/month of PMI)
$1,156.98/month invested for 30 years at 8% compounded monthly = $1,724,310.98 (basis of 416,511.57; LTCG of 1,307,799.41) = post tax value of 1,528,141.07

Even discounting the ability of the mortgage investor to invest the PMI premium once an 80% loan to value ratio is reached, the mortgage investor would still come out ahead by $360,932.98.


But the future is unknown. Investment returns could be 8%, but could be 4% (which cash house is better by $151,731) and could be 12% (where mortgage is better by $2.6 million).

It's all about risk tolerance.

[safari]

Scenario 1. A guy buys a house for $200,000 and finances the entire amount ($200,000) at 5% APR for 30 years fixed, even though he has $200,000 in cash, which he decides to invest into stocks and mutual funds. Every month he pays $1,074 to the bank and doesn't make any additional deposits to his investment account. In 30 years he would have the house paid in full and he would also have $2,012,531 in his investment account (I used an average return rate of 8%, which is very reasonable for long term investments).

Actually I just ran it through a calculator, if a guy were to finance $200,000 for 30 years at 5%, there would be 1.5% taxes and .5% pmi, which would result in a monthly payment of $1281.98 and would pay interest of $176,011.57 (if you were in the 25% tax bracket you would get back $44,002.89 from the IRS which equals $132008.68 in interest) and $75,000 in taxes and $10500 in PMI. Because you would pay taxes on both ways of paying off the house I won't include it or insurance, but you still end up paying $142,058.68 extra then buying a house outright.
Now I'm not sure what investment method you would use for the 200k, but lets just say you invested the 200k in Mutual funds at the time of retirement the person would end up paying taxes on the the $2,012,531 you stated above, so around 500k would be required for taxes if you are in a 25% tax bracket around retirement. In this scenario you would be left with around 1.5 million. Then you would deduct the extra interest payments which would leave 1.36 million.

Scenario 2. The same guy buys the same house for $200,000, but he decides to buy it with cash, so he can invest the $1,074 each month. His investment account starts with $0 and he deposits $1,074 every month ($12,888 per year). Using the same 8% average annual return rate, after 30 years he would have $1,576,793, which is quite a bit less, compared with Scenario 1.

In this scenario the user would not pay PMI or interest, so all that leaves is taxes. For both of these I didn't include Insurance because it would be the same for both. I left taxes out in scenario #1 as I will in scenario #2 because it's a wash. So if you and your wife maxed out your Roth IRA's for 30 years, which is $833 per month you would have around 1.2 million and then if you took the remainder each month which is $448.98 and invested it additionally in Mutual Funds you would have $673,602.53, which would be taxed at retirement say at 25% also then you would pay $168400, which would leave $505202. Combine that with the Roth's and you would have over 1.7 million after taxes.

So the outcome I come up with is this.

House paid for 200k in cash = 1.7 million no taxes(less risky)
Invest 200k and pay mortgage for 30 years = 1.36 million after taxes and interest payments are deducted.(Much more risky, majority of foreclosures are those with mortgages)

You changed the examples I gave, so you're no longer comparing apples to apples. Of course, it wouldn't make sense to pay PMI if a guy has the cash needed to buy the house outright. He would put down the money necessary to avoid paying the PMI. I was just showing the difference in outcome between borrowing $200K and locking the same $200K in a house. To make it more clear, if the house costs $250K, then the first guy makes a downpayment of $50K (to avoid the PMI) and borrows $200K, while the second guy buys the house outright for $250K. In other words, both guys in the beginning had $250K, but after purchasing the house, the first guy has $200K left in an investment account, while the second guy has $0 left. I'd say that being left with $0 is a lot more risky.

Now that we can exclude PMI from the calculations, let's look at the other numbers. As you correctly stated, the property tax would need to be paid anyway, regadless of whether the guy has a mortgage or not, so why are you including it in the monthly payment in the first scenario? If you want to compare apples to apples, you should only consider the mortgage, which is going to be $1,074 per month. It's quite simple: in the 1st scenario that amount goes to the bank as a mortgage payment, while in the second scenario the same amount gets invested in the same taxable account as in scenario 1. You can't say that some of that money will be put into Roth, because the guy is still going to fully fund Roth accounts for himself and his wife (assuming he is eligible) every year, regardless of whether he gets a mortgage or not - this is not the point here. Speaking of taxes, most states have income taxes, so the tax refund would be greater than the 25% received from IRS, which is why I said that he will get back about 1/3 of the interest paid. Also, you cannot subtract the interest paid from the final amount because the interest has already been paid and taken into account (since the guy was paying the interest, he was not contributing any additional money to the investment account for 30 years). We're just comparing the final amounts in both scenarios. In the first scenario, when the guy looks at his statement in 30 years, he will see $2,012,531, while in the second scenario he will see only $1,576,793. The tax is immaterial because in both scenarios it's going to be the same.

[dczech09]

Your argument is compelling, however it fails with one fact. This is NOT the situation we are talking about. We're not debating what to do once $200,000 is saved up: buy the house 100% or finance it and invest the difference.

What I was talking about is either A) paying rent and saving money for a 100% down payment or B) taking out a mortgage. My strategy would involve saving for the 100% down payment while simultaneously investing for retirement. Totally different from what the topic has changed to.

On a side note, if I did have $200,000 at my disposal, I would buy the house 100%. The reason is simple: its less risky. All of the illustrations shown above do make sense by do not account for potential market flucuations for both the house and the mutual fund investments.

For instance, if the stock marke plummets, the person who bought 100% down while systematically investing money will reap the benefits of dollar cost averaging. The person who financed the mortgage and invested the $200,000 sum would have a big bite taken out of their portfolio that will not recover as easily (you have to get an 8% return to recover from a 4% loss).

Also risk would make things extremely tough if a job loss were to occur. There is the possibility of doing an early liquidation of the mutual fund to pay off the mortgage if a job loss occurred, but who says the portfolio would necessarily have a gain.

The point is this: the person with no debt will have a lot more control over crisis mangement and will not run into problems that a mortgage holder has. Lets face it, the number one cause of foreclosures today is mortgages .

Also what is with people praising the tax deduction that mortgage interest provides? Elementary math will tell you that if you the option to be debt free, you be debt free. While yes a mortgage tax deduction will LIMIT cash outflow, it should never be a used as a deciding factor as to whether or not a mortgage should be used. Last time I checked, a person with no mortgage will have a lower outflow of cash. Personally I will take that over sending money to a bank; at least I will be financing my own ROI and not the bank's.