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Mortgage or an All-Cash Purchase

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An all-cash purchase should be viewed as an investment. The investment is not the house, because you are buying the house, and will enjoy any appreciation in its value, whether you pay all cash or take out a mortgage. The investment in an all-cash transaction is the mortgage you avoid. Suppose, for example, the alternative to an all-cash transaction is a $200,000 mortgage at 8.5% with no additional costs. If you pay the $200,000 in cash instead, your return on that cash is the 8.5% that you would have paid on the mortgage. This might be called a "no-mortgage" investment.

In considering whether investment in the no-mortgage is wise, you compare it to your other investments with respect to three things: return, risk and liquidity. The no-mortgage has a return of about 8.5%, it is risk-free, and it provides some but not high liquidity. Since your home would have no liens on it, you could easily obtain cash in a few days with a home equity loan. Compare this investment to your other assets. Your cash assets carry a lower return, probably have very low risk, but offer the highest liquidity. You want some of your assets in this form, but not more than you need for every day use and for emergencies. Your bonds may have a higher or lower return, depending on their risk category. Adjusted for risk, however, they are an inferior investment to the no-mortgage. Only US Government bonds are risk free, and they yield 1-2% less than the no-mortgage. Furthermore, bonds are not very liquid in the small amounts you would sell. I prefer the no-mortgage over bonds. Stocks in contrast generally earn a higher return than the no-mortgage, but they also carry the risk of price fluctuations. You are young and can afford to have stocks comprise a significant portion of your portfolio. But also because you are young, you have no experience with protracted declines in the stock market, and might be inclined to overdo it.