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In my last blog (The Big Move), I spoke about our decision to purchase another home in a more upscale area of our hometown. I went over all of the pros and cons of our decision.
We are now two days away from closing and are up to our elbows in paint color and tile samples.
What I did not speak about last blog was how we made decisions about the financial considerations concerning the purchase of a new home.
Like most people who are retired, or semi-retired, I have very little income that is derived from work. I also don’t have a lot of free cash sitting around.
We’ll talk about that in a second, but I found out an interesting fact along the way. For us to make an all-cash offer on the home, the realtor needed a Statement of Assets. This letter did not have to be medallion stamped, or guaranteed, but needed to state that our Net Worth was sufficient. The letter of guarantee only needed to verify that we had enough assets available to cover the cost of the new house.
I did not relish having to go to the bank where most of my checking accounts and CDs reside and go through the trouble of getting a letter of guarantee on my assets.
Instead, I contacted my Fidelity representative and found that I could generate a letter of available assets. In a few minutes, I was able to create a Statement of Assets. The Statement verified I had enough money to cover a cash sale for the home. Fidelity allowed me to customize the letter by displaying all of my available assets or showing I had enough assets to cover a certain level of cash sale.
So, this is what I did. The letter did not state all assets available but merely stated that I had assets over a certain amount that I chose. (An account holder must have the necessary assets available. The menu will not allow the creation of a letter of credit over the limit of available funds.)
This was great as I created this letter of credit at home without physically visiting a bank or financial institution.
Our next consideration was whether the purchase would require a mortgage or be completed as a cash sale. My wife and I have been debt-free for many years and did not wish to assume debt at this point. I did evaluate the cost of a 30-year fixed-rate mortgage for comparison purposes. With interest rates hovering around 7% for home mortgages I felt the overall cost and monthly debt service level to be too high.
Once we decided we wanted to move forward with a cash sale, I realized we had an issue that I had not considered. Even though we could afford a cash sale, I did not have adequate free cash available for the sale. (Most of my available assets are invested in stocks and mutual funds, or fixed assets like CDs, bonds, or annuities.)
I would have to figure out a way to free up some of the cash embedded in our invested assets.
I didn’t want to sell assets that would generate taxable proceeds, and I didn’t want to surrender CDs or annuities because of the embedded penalties and surrender charges. I had the necessary funds. I had to figure out the least expensive way to access my assets.
The sale of stocks, mutual funds, or bonds would generate taxable income (either ordinary, income or capital gains). Surrendering CDs or annuities before the maturity dates would involve penalties and surrender charges. I needed access to my cash, but every option seemed to create tax problems or financial roadblocks.
My wife reminded me that many years ago we borrowed against existing CDs to help establish credit for our children. In this particular situation with our children, we opened accounts for each of them and borrowed $1000 in each of our three children’s names. We used our CD balance to collateralize the $3000 in loans. Each child used their available $1000 in cash to repay the $1000 loan in 12 monthly installments. The loans cost us a few dollars in bank fees and interest, but we were able to establish credit for all three of our children using this strategy.
We had enough money in CDs, along with cash in checking accounts, to cover the cash sale costs. My wife came up with the idea that we could borrow against these existing CDs using the same strategy we had employed to establish credit for our children.
But would this be more or less expensive than simply surrendering our CDs before maturity? My next step was to contact the bank and find out the cost difference between surrendering the CDs versus borrowing against the CDs. The cost to surrender the CDs would equal three months of accumulated interest and the loss of future earnings once the CDs were surrendered.
In the scenario of borrowing against our existing CDs, the bank retains the CDs and was very amenable to loaning us up to 100% of the available CD balance at a rate of interest one to three percent above the interest rate the CD was collecting. Our effective interest rate would be based on our credit score. I temporarily unlocked our Experian account to allow the bank to access our credit information, and after our credit score was accessed, we were offered an effective loan rate of one percent. So, we were borrowing a large amount of cash at an interest rate of one percent above the interest rate of our CDs. The interest rate generated by the CDs will pay for all of the loan amount except for the additional 1% interest.
This one percent interest cost over the remaining life of the CDs is less than the surrender cost. In both the above scenarios, we would effectively lose future interest in the CDs. Using the loan is a more cost-effective way to secure the cash we need. My wife and I felt like this was a win-win situation for us and the bank.
The loan origination fees were minimal. We borrowed against existing CDs at a rate of 1%. As the CDs mature, we will use the proceeds (and an additional 1% cash payment) to pay off the loans.
Our bank representative filled out all of the loan application information, and the time frame from submission to approval and distribution of funds was approximately five business days. Once a cashier’s check was issued, it was placed in our checking account along with our additional available cash.
Tomorrow I will visit the bank and have them issue a new cashier’s check made out to the title company in the amount of the total cost of the sale.
In my previous blog (The Big Move) I discussed the fact that our daughter and her family will need a place to stay while their home is being constructed. I also stated that our
current home would provide the perfect solution to their short-term housing needs.
This means that the potential sale of our current house would not occur for another 1 year to 1 1/2 years and that it would be at least one year before the proceeds of the sale of our current home would be used to replenish our partially depleted portfolio. For at least another year, the money tied up in our current home will not be available to invest and appreciate (other than normal real estate appreciation.)
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Final thoughts
There it is!
We will do a final walk-through shortly, and the act of sale is scheduled in a couple of days.
My wife and I have been able to establish a cash position, large enough to pay cash for our new home without having to sell stocks, mutual funds, or bonds, and without having to prematurely surrender CDs, or annuities.
Is this the only, or perfect way to navigate a cash sale?
No, it’s not! I wish I had a bunch of cash sitting around to spend on my new home, but having a bunch of cash not invested, or poorly invested is also imperfect.
So, my wife and I took lemons and made lemonade. We secured the cash we needed to buy our new home without accessing the money invested in our current home. Yes, it requires some monetary outlay, but the loan expenses are minimal.
Retirees continually state it is hard to overcome frugality. I have a new solution: purchase a larger, more expensive home needing extensive deferred maintenance.
Over the next few months, I will attempt to update readers on our progress.
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