The Opportunity Cost of Paying Cash
Source: Joe Dawson
What is the cost of paying cash?
When you pay cash for a property, you miss out on the
opportunity to earn a rate of return on that cash. That's called an
"opportunity cost." How much money could you earn on that cash if you
kept it invested in an outside investment such as stocks, bonds, or another
real estate property? To calculate your opportunity cost, multiply your likely
rate of return by the amount of cash you'd have available to invest. For
example, if you could earn 8% on your cash by keeping it invested, here's how much
money you'd lose by NOT keeping your cash invested:
- $100,000
cash not invested @ 8% rate of return = $8,000 annual opportunity cost - $500,000
cash not invested @ 8% rate of return = $40,000 annual opportunity cost - $1,000,000
cash not invested @ 8% rate of return = $80,000 annual opportunity cost
What is the cost of using a mortgage?
If you use a mortgage to finance the purchase of a property,
you would pay mortgage interest. To calculate the cost of using a mortgage,
multiply the mortgage rate by the amount of the mortgage. For example, if your
mortgage rate/APR would be 7%, here's how much interest you'd pay by using a
mortgage:
- $100,000
mortgage @ 7% interest rate = $7,000 annual interest cost - $500,000
mortgage @ 7% interest rate = $35,000 annual interest cost - $1,000,000
mortgage @ 7% interest rate = $70,000 annual interest cost
Which option has the lowest cost?
If your rate of return on investments is greater than the
interest rate on a mortgage, it may make more sense for you to use a mortgage
and keep your funds invested. Also, keep in mind that mortgage interest may be
tax-deductible, which could lower the after-tax cost of your mortgage even
further. Please see a tax advisor for more details on that.
Bottom Line
Choosing between paying cash and using a mortgage depends on
your financial goals, risk tolerance, and long-term plans. If you can earn a
higher return on your investments than the cost of a mortgage, leveraging
financing might be the smarter choice. On the other hand, paying cash can offer
peace of mind and eliminate debt.
Ready to explore your options? Whether you're buying your first home or
expanding your portfolio, We’re here to guide you every step of the way. Let’s
discuss your financial goals and find the strategy that works best for
you—contact us today!
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Joe Dawson | Loan Officer
NMLS: 917066
DIRECT: 301-656-4378
MOBILE: 703-376-1967
EMAIL: jdawson@firsthome.com
8401 Connecticut Avenue Suite 1100
Chevy Chase, MD 20815
