You'd think that with mortgage rates below 5 percent, mortgage lenders would be busier than ever--the cheaper home financing is, the more advantages it offers. Today, however, certain buyers almost overwhelmingly prefer cash transactions.
Who are these buyers?
- High-end buyers
- Vacation home purchasers
If money talks, cash screams
In areas with very expensive homes like Newport Beach, Calif., nearly two-thirds of purchases are cash transactions. Buyers who would have in the past made large down payments and financed with limited documentation are now deciding to avoid mortgage lenders altogether.
"I had a buyer for a $3 million property who initially planned on using a mortgage," says an agent in Incline Village, Nev. "Then his Mom piped up, 'You don't want to submit to the full body search. I'll give you the money and just pay me when you can.' I couldn't believe it."
Investors and second homes
The NAR's Investment and Vacation Home Buyers Survey for 2011 found that the share of investment homebuyers who financed their home purchase plunged to just 39 percent in 2011 from 68 percent in 2007. Similarly, in 2011, 63 percent of vacation homebuyers used a home loan in their property purchase, down from 75 percent in 2007. This can be attributed to several factors:
- Mortgage lenders are more reluctant to finance vacation and rental homes.
- Investors buying foreclosure properties on the courthouse steps don't go looking for home loans.
- Foreign buyers are accounting for a significant portion of cash purchases because of bargain prices and favorable exchange rates.
Pay cash if you can
Paying cash can offer the following advantages:
- Since you don't have to worry about financing, you may be able to negotiate a better price.
- You can close on your purchase more quickly.
- You avoid a host of costs: lender fees, lender's title insurance policies and mortgage interest.
- Good credit is not required.
Mortgage if you must
There are also several advantages to financing your home:
- A mortgage allows you to leverage your investment--if you put 5 percent down on the property, and its value increases by 5 percent, you have doubled your investment. If you pay all cash, you have made only 5 percent.
- Mortgage interest is tax deductible if you itemize.
- Your funds remain liquid--if you deplete your savings and need to cash out some home equity, you have to qualify for and pay for a refinance.
- Higher returns--historically, returns on stocks, mutual funds and other investments exceed the rates that today's mortgage lenders are charging.
Considering cash, answer 'yes' to these questions
You don't want to jeopardize your financial health by tying up all of your money if you aren't protected from unexpected expenses. On the other hand, not having mortgage payments does add some margin of safety for those whose income-earning days are winding down. If you're considering paying all cash for a home, you'll need to answer yes to the following questions:
- Is your retirement account fully funded?
- Do you have life, disability and medical insurance?
- Do you have at least six months (12 if you're self-employed or on commission) of liquid assets in an emergency fund?
Mulling over a mortgage, answer 'yes' to these questions
If you're considering financing your home loan, you'll need to answer yes to the following questions:
- Is your credit good enough to get a mortgage?
- Are you carrying higher-interest debt?
- Do you qualify for a home mortgage interest deduction?
- Are you facing upcoming expenses like college tuition or medical bills?
- Can you earn more on your investments than you'd spend on a mortgage?
Does age matter?
It makes sense that older people would choose the more conservative path of homeownership and pay cash, but Generation Y often takes that route as well. Xin Lu, a senior writer for the personal finance website Wisebread.com, just bought her own home by paying cash, explaining, "It still makes sense for younger buyers because right now a lot of bank foreclosures are taking cash offers only. If you want a really good deal, you need to cough up the cash. Financing is also very difficult for young folks with short employment histories right now."
There is another choice, according to mortgage broker Dan Green, who writes TheMortgageReports.com: You can use cash to close quickly and get the best price on a home, then grab some of the cash back with a refinance. New rules permit investors to take cash out almost immediately, however, "I'd recommend that cash buyers line up their lender before they pay cash. Not all banks will finance via the Delayed Seasoning Rule so it's important to check it out first." In addition, Green recommends that you keep all the paperwork from your purchase easily accessible because you'll need it for the refinance.