Paying Cash for a House Instead of Paying Off Student Loans

Buying a Home with Cash

As I mentioned in last month’s financial independence update, about a month ago I bought my first house and decided to pay cash for it! This was after about 5 years of saving and investing since graduating physical therapy school in 2015. It has been a wild ride since graduation, but I’ve been able to spend a lot of time focusing on my financial health over that time.

To some readers of this blog, it was a surprise to hear that I’d decided to forego the current low mortgage interest rates when buying my new home, especially considering the fact that I’ve been very transparent with my plan to make minimum payments and hold onto my student loan debt for as long as possible, and how that decision has impacted my financial position. After all, someone that’s willing to keep 6 figures of student loan debt indefinitely seems like a pretty risk taking person who would want as much leverage as possible, especially with supposed “good debt” like a mortgage. In reality, I’ve gotten less risky with my finances over the past couple years since I’ve stopped working full time, and will probably continue to get more conservative in the coming years. The truth is that I don’t see keeping the student debt as much of a risk and would much rather have no mortgage than no student loans!

Today I want to cover some of the considerations that went into this decision, why I paid cash for the house, and why I still plan to keep making minimum payments on my student loans despite more than enough money saved and invested to pay them off completely.

Passing Up Low Mortgage Rates

It shouldn’t be a shock to any long time readers that I spent a lot of time thinking about whether or not taking advantage of low mortgage rates was a good decision or not. This wasn’t a decision I made on a whim by any means. After getting some mortgage quotes, it was clear that I would be able to get a 30 year mortgage with an interest rate in the low 3% range. That seems like a steal, especially considering my entire financial independence goal is predicated on a conservative 4% long term return on investments. Being able to borrow money at a lower rate than I expect to get as a return on my investments even in the most conservative scenario seems like a home run, and normally I’d be all for taking the debt and keeping my money invested instead.

There are a few things that swayed my decision here though:

1. Negotiating Power: 

• Approaching the person selling the property with a cash offer put me in a very good position to bargain and get a lower price on the house, versus going with a mortgage. In addition, not having to deal with a bank meant that I was able to close on the property very quickly, which can be very valuable to a seller depending on their situation. In this case, the property was being sold for market value based on recent comps in the area, but offering cash and being able to close quickly allowed me to negotiate the price down by a total of 8%! A lower price was wonderful for me of course, and closing in less than a week was great for both me and the seller. I have no doubt the seller would have been willing to negotiate the price down a little even without a cash offer, but in all likelihood it would have been a much lower discount since he had other offers already. After talking to him and making some educated guesses, I’d anticipate that my cash offer allowed me to save between 2-4% additional off the purchase price on the home than what I could’ve negotiated if I went with traditional financing.

2. Lower Closing Costs:

• To be honest, going into this process I had no idea how expensive closing costs could be or what all they entailed. It was a shock for me to learn that I was potentially going to be out several thousand dollars more than the purchase price of the house when everything was said and done. It turns out that on average, closing costs are between 2-5% of the purchase price of a property. When I discovered that much of this cost is related to the mortgage, it made paying cash an even more attractive choice. In reality, with my cash payment, closing costs ended up being a little less than 1% of the purchase price of the home. This means another savings of between 1-4% of the purchase price.

3. Less Hassle:

• I’ve never gotten a mortgage, but based on others I’ve talked to, there seems to be at least some hassle involved in the approval and closing process as well as things being more drawn out. For most that don’t have a choice as to whether to get a mortgage on a property, this hassle is just seen as an inevitable part of the process. For me, with the ability to pay cash, I had to option to eliminate this hassle assuming it was worth it financially to do so.

4. Lower Fixed Expenses and Risk:

• Last year when I kept track of every one of my expenses for the year, I learned some valuable lessons. One of which being that A LOT (over 44%!) of my yearly expenses are related to housing and utilities. By paying cash for this house, I’ve effectively eliminated the bulk of those expenses. I also plan to rent out 1-2 bedrooms in the house (especially when traveling internationally for long periods of time). With no mortgage payment and assuming conservative occupancy with renting the rooms, I should be able to completely offset my normal housing and utility costs with this investment in the home. Eliminating those expenses significantly reduces my risk of running out of money in my early retirement due to having a very modest amount of yearly expenses compared to my invested assets.

When taking these things into account, it became clear to me that the low fixed interest rate wasn’t nearly as attractive as I’d thought initially. Taking advantage of that 3% rate would have entailed an additional ~4-6% in purchase price and costs, more hassle, and more risk. Another consideration that swayed my option was the ability to get a home equity line of credit (HELOC) in the future if I need to access the equity in the house. HELOCs also offer low rates (although variable) and have lower fees than a traditional mortgage.

Keeping Student Debt

Coincidentally, my total student loan debt is only slightly lower than the purchase price of this house. That means that I had enough cash to completely wipe out my student loans if I chose to do so! To many this would be the logical thing to do, but for me, I found that it just doesn’t make sense financially. This all revolves around income driven repayment options and the potential for forgiveness after 20-25 years. Let’s look at all the considerations I’ve taken into account with this decision.

1. Low Monthly Payments:

• Based on my relatively low taxable income from being a travel physical therapist since graduation, combined with contributing significant amounts to pre-tax retirement accounts each year, I’ve consistently had a student loan payment less than $150/month. In some years with particularly aggressive retirement contributions, I’ve actually been able to get my student loan payment down to $0/month. I anticipate keeping my payment at $50/month or less for the foreseeable future now that I’m working only one travel contract or less each year and spending much of the year (COVID willing) continuing exploring various countries internationally.

2. Low Interest Rate:

• Normally the low payment mentioned above wouldn’t be that great since it just means interest accruing each month. Luckily, the Revised Pay as You Earn (REPAYE) income driven repayment plan helps me with that. Under the REPAYE plan, half of the interest accumulated each month is subsidized, which means that in the case of a $0/month monthly payment, only half of the interest is added to my balance (and not even capitalized!). That reduces my effective student loan interest rate from a 6% average to just slightly above 3% most years. This rate is even lower than the mortgage rate quotes I was getting for the house!

3. Potential Loan Forgiveness:

• Under current rules, after 25 years of making income based payments on the REPAYE plan ($0 payments still count as a payment when applicable), any remaining student debt will be forgiven and taxed as earned income. As of now, this is my plan assuming no unforeseen circumstances. This point is a bit contentious I’ve found over the years for a variety of reasons. For those that have already paid off their student debt, student loan forgiveness doesn’t seem fair. This is certainly understandable, and I’d feel the same if I was in that situation. I initially planned to pay off my student debt as quickly as possible until I did more research on the options and discovered that for me, financially, that wasn’t the best choice with income based options on the table. For me, the decision is strictly mathematical. In fact, I’d still choose to go on the REPAYE plan even if forgiveness wasn’t an option at all just to take advantage of the low monthly payments and low interest rate discussed above. The potential forgiveness is just extra incentive.
• Some worry that legislation will change between now and the forgiveness date (after all 25 years is a LONG time), and this was a concern I held as well initially. This has become much less of a concern for me over the last 5 years since I made the decision to go this route. I’m certainly not a student loan expert, but I’ve done plenty of research and it looks like the odds of changes to forgiveness that would impact those already on their way are exceedingly low. The primary reason for this is that the forgiveness options are written into the promissory notes that every borrower signs when taking out the student loans initially. Based on my understanding, retroactively making changes that impact forgiveness would be a breach of that contract. While not impossible, I strongly believe that any changes made to the programs would apply to only future borrowers with current borrowers grandfathered into the original contract terms.

With a low monthly payment, a low interest rate (without capitalization), and the potential for future loan forgiveness, I just can’t financially make a case for paying off my student debt despite having the cash to do so. I reevaluate the decision yearly and would certainly be willing to make adjustments if circumstances change.

Unique Circumstances

With my current financial situation, having saved up enough cash to make a major investment, between deciding to pay off my student debt or pay cash for a house with all the considerations above, the choice was an easy one for me. The student loans have a lower effective interest rate, a much lower monthly payment, and the potential for forgiveness. Eliminating the mortgage payment gives me less risk and allows for much lower yearly expenses. Keeping the student debt allows me to have more financial liquidity and in all likelihood a better return with my assets invested in the house and equities.

Throughout reading this article, it’s probably pretty clear at this point that my circumstances are unique and all of these considerations may not apply to you. Many of you may have even more student loan debt than I do, and don’t have reasonable housing prices in your desired area, making the possibility of paying cash for a house much less realistic.

My goal with this article is not to imply that what I have done is possible for everyone, but instead was to offer a glimpse into my thought process and reasoning. Nothing that I write is ever intended to be specific advice for readers, but I’ve found over the years that seeing how I approach decision making on finances has helped others reevaluate their own situation and possibly challenge their biases.

Maybe you find yourself in somewhat of a similar situation to me where you’re able to live below your means and save up cash for a big investment. Maybe you’re considering using your savings to buy a house in cash, or maybe you’re considering paying off an existing mortgage to own your house outright, versus taking that money to pay off your student loan debt. If so, I hope this is helpful to you in considering perhaps some unconventional financial strategies for your own situation.

I hope this article has been enlightening and helpful to some of you. I would love to hear your thoughts in the comments!