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Finance or Cash

Did you know that it is cheaper to finance than to pay cash?

When folks hear that statement for the first time, there is usually a lot of skepticism, and downright disbelief. I often hear comments like – liars can figure and figures can lie, or – what’s the catch. Keep an open mind and grab your calculator and you might pick up some useful information.

For the sake of discussion, let’s assume that you are considering a $10,000 home improvement.

If you have the cash, a big if, you can pay on completion of work. Another approach would be to deposit your $10, 000 in a certificate of deposit, and finance the improvement. Every Monday the Houston Chronicle publishes a list of rates in the business section of the paper. These rates will vary from time to time and from city to city, but the relationship between loan and savings rates is usually constant. In this week’s paper the Chronicle staff determined that the average savings rate was 4.02% and the average home improvement loan rate was 7.68%. Let’s do some simple math. If you deposit your $10,000 in a 5-year certificate of deposit at 4.02%, you will earn $402/year in interest. If you compound the interest (see below) at the end of 5 years, you will have earned $2,178 on your investment, and your total balance will be $12,178. Conversely the interest on a home improvement loan is 7.68%, the monthly payment is $201.24, and the total of payments for 5 years is $12074.40. Based on this calculation you will earn $103.60 more in interest than you will pay.

                                   BALANCE SAVINGS

Year1                         $10,000 X 4.02% = $10,402

Year2 $10,402 X 4.02% = $10,820

Year3 $10,820 X 4.02% = $11,255

Year4 $11,255 X 4.02% = $11,707

Year5 $11,707 X 4.02% = $12,178

This sounds too good to be true, but consider this – you earn interest on $10,000 or more, every day of the five years; you only pay interest on $10, 000 on the first payment. Over the life of the loan, you only owe an average of $5,000.

It takes most folks a long time to save enough money for a project like this. In this scenario, the consumer keeps his cash and improves the home to boot. Click for a free estimate.