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Debt That Is Acceptable And Debt That Is Not
In an ideal world, no one would ever have to borrow money. one is expected to save up for everything he/she want to purchase in advance then buy the item only after they have the money in the bank.
Unfortunately, that isn’t realistic for a handful of major financial milestones most people desire to achieve. I do believe some debt is acceptable, but only when the amount of debt is reasonable and you’ve spent plenty of time planning and analyzing the purchase.
“Cash is king,” the old maxim goes. And when it comes to luxury properies and real estate, it’s true that cash transactions are a popular way for high-net-worth homebuyers to obtain sumptuous properties around the globe. It can lead to smoother, faster deals and win bidding wars.
However, there are some instances when taking on debt to finance a multimillion-cash-home, even when the cash to buy it outright is available—can actually prove more fruitful in the long run.
So what should buyers think about before making an offer on that dream country.
First and foremost, they need to consider the available interest rate on a mortgage relative to the return they are getting on their other current investments. When average interest rates are low—between 3% and 4%—as they are now in the U.S. and have been since the recession ended, a wise move would be to take out a mortgage and let their liquid assets work for them elsewhere, moving them into stocks, bonds, private equity or some other investment.
A buyer with cash on hand—and energy to spare on some serious strategizing—might take advantage of the current rates and embark on what’s known in the finance industry as “leveraging,” or a way of using borrowed money to build potential returns from an investment over time, said Harry Chernoff, a clinical professor at New York University’s Stern School of Business and a long-time real estate developer.
If someone has $3 million in cash, for example, they could distribute it as three $1 million down-payments on three properties each worth $3 million, then mortgage the rest, Mr. Chernoff said.
“What you end up doing is owning $9 million worth of property and if the investments are … stable and managed well and all of the risk has been considered, this leveraged factor gives you a way of building a lot more,” he said, with potentially higher returns.
Of course, multi-prong real estate investments such as these should be carefully planned with a financial adviser who can help track home appreciation trends in specific markets and assess tax implications, experts said.
Another time when it makes sense to borrow money rather than buy outright is when shopping for a choice properties. In the ideal scenario, the shopper has held their current interest for a number of years and it has gained value over time, but they aren’t ready to sell, Mr. Chernoff said. Instead, they could refinance the property—again, taking advantage of low interest rates if possible—and take out a home equity loan against its value. That produces cash that could be used as a downpayment toward a second home.
They know they have a value there but they kind of think they’re never going to realize it until they sell it,” he said. But “when it has appreciated and you can do a refinance, you can get a tremendous benefit.
In general, strategies like leveraging and refinancing apply across the board, whether a homebuyer is located in the U.S. or abroad; consideration should be given to specific international interest rates, of course.
The strategy is useful when clients have made an offer in a particularly competitive housing market or when there is a tight closing window of one or two weeks, and they need to get the deal done, she said.
At least in the eals sense of it, 85% of them choose to borrow to finance a home purchase, and they may pay cash up front, depending on how hot the market is where they’re purchasing. Then they would typically do a cash-out refinance on the closing of the home.
The process enables the ultra-rich to “redeploy their capital” into a diverse array of more swiftly appreciating assets.
Celebrities, athletes, and other wealthy people who would take a shine to the cash-first, mortgage-second strategy which are described are in luck, because lenders seem to be more readily approving so-called “super jumbo” loans, which can range between hundred of thousands and millions in the most extreme cases. A majority of the mega-mansions that lenders are springing for are located in the top real estate markets arround major cities in the world.
it was recently reported in recently that overall mortgage credit availability increased in much more to its highest level primarily due to a spike in jumbo mortgage offerings.
Driving the current activity is the recent dip in mortgage interest rates, which led to a flurry of refinances from borrowers with larger loans taken in early 2019; the average refinance loan size increased, a new survey recorded.
Mortgage experts had expected factors such as the ongoing strong job market and favorable demographics to help lift purchase activity this year, and the further decline in rates is providing another tailwind. Purchase applications were almost 10% higher than a year ago.
Richard Barenblatt, an independent mortgage broker with New York City-based Guardhill Financial Corp., said big banks are courting high-net-worth individuals for such jumbo loans because, for one thing, it’s a first step toward building valuable, long-term relationships with borrowers.
“What they’ll often say is, here’s our rate, but if you move $1 million, for example, to us (for a mortgage) we can take a quarter of a point off the (interest) rate, or half a point off the rate,”
And if other high-net-worth borrowers play their cards right and smartly manage their outside investments, this tendency of banks can work out to their advantage, too, Mr. Barenblatt said.