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Recently, a user on Reddit (RDDT 5.47%) posed an important financial question about the best ways to put cash to work. Specifically, the question read as follows:
$80k cash in the bank, what should I do?
byu/Exciting-Wrap-7582 inpersonalfinance
Unfortunately, there's no perfect answer, especially without more details about the commenter's personal financial situation. Although I can't offer personal advice, here are a few things to think about that could help point you on the right track, from the perspective of a Certified Financial Planner® professional.
Consider your near-term financial goals
First, let's address one of the options: continuing to save more money.
I generally advise that the stock market is no place for money that you'll need within the next five years. So if the reason you have so much cash is for a relatively near-term financial goal, such as paying for your kids' tuition, renovating your kitchen, and so on, the best answer is probably "keep saving."
Many people with near-term goals still believe that the best bet is to pay down the mortgage, with the plan of simply pulling out equity at some point. But there's no guarantee that there will be a reasonable interest rate available when you need the money, and it's important to realize that obtaining a home equity loan or cash-out refinancing isn't free -- there are considerable closing costs involved.
Image source: Getty Images.
Investing vs. paying down your mortgage
There's a solid mathematical argument in favor of investing instead of paying down a mortgage.
Over the long term, an S&P 500 index fund has historically produced 10% annualized returns over long periods, and even an age-appropriate mix of stocks and bonds can be reasonably expected to generate 7%-8% total returns over the long term.
Of course, one major component of the decision is the specific details of your mortgage. For example, if you locked in a 30-year mortgage rate of 2.75% in 2021, it's a much clearer mathematical argument than if you have a 7% rate.
There are also other factors to consider, and a big one is mortgage insurance, which you are likely to pay if you put less than 20% down when you purchase your home. Unless you used a VA loan, or some other specialized loan, mortgage insurance can cost thousands of dollars every year. If putting $80,000 in cash (or whatever amount you have available) allows you to drop mortgage insurance and saves you hundreds of dollars per month, it could help swing the pendulum in the favor of paying down your mortgage.
As a general guideline, if your mortgage interest rate is several percentage points lower than what you can reasonably expect from investing the money, investing is generally how I'd go. If it's a relatively small difference, it's a little tougher.
It's also considering your age and proximity to retirement. One common goal to help keep expenses low is to pay off a home completely before leaving the workforce, and if this is the case, it can certainly make sense to accelerate your mortgage repayment.
Consider your own peace of mind
It's important to mention that the best move for you might go beyond mathematics and logic. Some people simply sleep better at night if they have less debt. If getting out of debt is a goal for you, paying down your mortgage can be the best decision, even if you have a mortgage with a low interest rate.
Another consideration is that some people simply feel better with a large cash cushion in the bank. The point is that whatever the math says, it's important to take your own mental well-being into consideration.
As a final thought, if you do choose to keep the money in cash in savings, that doesn't mean you can't generate any returns on it. There are some excellent high-yield savings accounts offered by top-notch financial institutions that are paying interest rates in the 3%-4% range as of this writing. With a large amount of cash, simply finding the best savings account could result in thousands of dollars of extra income each year.
