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The decisions you make about a mortgage could have a profound impact on your finances. If you’re borrowing to buy a home, chances are your mortgage will be your biggest monthly payment and the biggest debt you’ll incur in your lifetime. You also agree to make payments for a long time.
This is why it can be frustrating to see a lot of conflicting mortgage advice.
Warren Buffett and Dave Ramsey disagree on mortgages
Some financial experts, like Dave Ramsey, are urging people to take the smallest loan possible for the shortest time possible – or even avoid borrowing altogether and pay cash for a house.
Others, however, take the opposite approach. In fact, billionaire investor Warren Buffett called a 30-year mortgage “the world’s best instrument.” He personally took out a 30-year mortgage when he bought his home, although he could easily have avoided doing so, and advises most homebuyers to do the same. Here’s why he’s right.
Buffett’s approach to mortgages is better than Ramsey’s
Buffett’s mortgage advice makes a lot more sense than Ramsey’s. That’s because Buffett fully understands that there’s an opportunity cost associated with paying cash for a house – or even taking out a short-term mortgage with higher monthly payments. Ramsey seems to ignore this fact when he warns buyers to avoid a 30-year mortgage, opting instead for a shorter repayment term with higher monthly payments or no loan at all.
When Buffett bought his house for $ 150,000 in 1971, he indicated that he put about $ 30,000 on the property and borrowed the rest. The reason: “I thought I could probably do better with the money than making an entire house purchase. “
Buffett ended up buying Berkshire Hathaway shares with the money he could have used to buy the house. As a result, he ended up turning the $ 110,000 or $ 120,000 he allegedly paid in cash for the house into $ 750 million because Berkshire shares rose in value so much.
You don’t have to be Buffett to get great feedback
Now, most people are unlikely to see the kind of return on investment Buffett made by buying Berkshire stocks. But it’s safe to assume that most people could get a better return on investing than paying cash for a house, even if they aren’t expert investors. Investing in an S&P 500 index fund could produce average annual returns of around 10% over time, which is far higher even than an expensive 4-5% mortgage.
By locking your money in a house, as Ramsey suggests, you are missing out on the chance to do other things with it that could have a bigger impact on your equity. It’s true whether you’re making a large down payment, paying cash for a house, or opting for a 15-year loan with much higher monthly payments.
And, as Buffett points out, you also have the option of making your mortgage even cheaper by refinancing it if rates drop. “It’s a one-sided renegotiation. It’s an incredibly attractive instrument for the owner, and you’ve got a one-sided bet.”
For all of these reasons, you should listen to Buffett rather than Ramsey. If you are buying a home, a 30 year mortgage is the best way to go.
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