When you pay cash for a property, you are missing out on the opportunity to earn a rate of return on that cash.
In the illustration below, Option 1 is to pay cash for a $200,000 house. Option 2 is to use $100,000 of cash, and a $100,000 mortgage.
If you go with Option 1, you’d be losing money by giving up the ability to earn a rate of return in an outside investment (such as stocks, bonds, or another real estate property). If you go with Option 2, you’d be losing money by paying interest. You’d lose money either way.
These are the two questions you could ask yourself in order to find out which option would cause you to lose the least amount of money:
For example, a 4.5% tax-deductible mortgage for someone in a 24% income tax bracket may only cost 3.42% after-tax (4.5% minus 24% tax benefit = 3.42% after-tax cost).
If your rate of return on investments is greater than the after-tax cost of a mortgage, it may make more sense for you to use a mortgage and keep your funds invested.
Source: CMPS Institute