How important is cash in the bank?

by Tom Tousignant

in Blog, Home Buying, Mortgages, Wealth Building

One of the first things I ask people to consider when building their mortgage plan is how much liquid cash they have on hand and how much do they need. In fact, of all the considerations, liquid cash is probably most important. A lot of people learned the hard way that equity in the house in not the same as money in the bank – only money in the bank is like money in the bank.
As you start to build your mortgage plan, you need to ask, “What could happen, good or bad, and does the mortgage / house equity help or hurt me?”
When you look at the threats to your wealth and financial safety, almost everything turns out better if you have $10,000 more cash in a liquid account. Conversely, almost everything turns out worse if you have $10,000 more equity in your house rather than in a bank account. Let’s play a few rounds of the game: “Would you Rather”:

  1. If you lose your job, would you rather have an extra $10,000 in your savings account or a mortgage that is $10,000 lower($10,000 more equity in your house) in order to reduce your mortgage payment by $60 per month?
  2. An ice storm hits, knocks out power for a week, and drops a tree limb onto your car. Would you rather have $10,000 cash in the bank, or $10,000 more equity in your house.
  3. A friend’s co-worker needs cash in a hurry and is willing to sell you his car $5,000 below blue book trace in. Would you rather have $10,000 available to you, or $10,000 home equity that can’t be accessed to buy the car?

As you can see, good or bad, having extra cash in the bank is the cheapest and most versatile insurance you can buy – in fact, it’s pretty much free. Having some liquid cash available is the first step to creating a mortgage plan that works for you.

I will often recommend people choose to put less money down on their house, or to take money out when they refinance, in order to make sure they have a start on their emergency fund. Most experts will tell you that you need 3-6 months’ living expenses in a liquid emergency fund. What I’ve found is that a lot of people can’t see themselves saving that much money all at once, so they never get started. They then develop a habit of not having enough liquid savings and have to turn to credit cards to bail them out of mostly minor problems. Then the credit card interest payments make saving even tougher.

When you put a lot of money in motion, like when you buy a house or refinance your house, it’s a great opportunity to start a new habit as a saver and keep some of that money aside to start building that emergency fund if you haven’t already. This is one habit you can live with!

If you don’t have the ability to create a quick chunk of your emergency fund when you buy or refinance your house, make that the first priority – play another few rounds of ‘Would you Rather’ and discover for yourself how important is is to get some of your money in your bank account. Choose to build up your savings before you choose to pay extra on your mortgage, buy a new toy, or even pay off credit card bills – just ask yourself which would you rather have as you go through the next year.

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