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My SO and I are planning on buy a house for about $900k. We have $200k in cash, and I'm considering selling several of my mutual funds (non-retirement) to finance the difference. These are funds that I have held for more than 10 years, with no recent contributions.

How can I go about estimating what my tax burden will be? My Google searches typically land on long explanations that boil down to "it's complicated". I'd just like a ballpark number.

Is there ever a situation where a mortgage makes more financial sense - where the mortgage deduction could lessen the bite of that capital gains tax?

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    Regardless of any answer to your question, getting a mortgage with an SO is risky. There are laws for what happens when married couples split; not so much when the non-married split. We've seen the disasters many times on this site, so my recommendation is talk with your SO, and get lawyers, even though you think you'll never break up.
    – RonJohn
    Jul 19 at 14:00
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    The other question you should be asking is whether, at current mortgage rates, it makes sense to make more of a down payment than is needed to avoid PMI?
    – jamesqf
    Jul 19 at 15:26
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    don't liquidate, go interest rate!
    – PatrickT
    Jul 20 at 7:23
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    @TylerH: That depends on where the OP lives. In some places, $900K is a 3 bedroom starter.
    – jamesqf
    Jul 20 at 16:05
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    @TylerH I don't know why you got the idea that he is living outside his means when he has enough liquid assets to buy the house outright.
    – Brady Gilg
    Jul 20 at 16:44
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This decision boils down to 3 factors:

  • interest rate of your mortgage
  • expected return of your funds for the next 10, 15, 20 years
  • transaction cost and taxes

If you expect the stock market to perform better (after costs and taxes) than the interest on your mortgage, do not liquidate anything. On the other hand, with current P/E ratios of the stock market historical returns on the stock market have been rather low and it is quite realistic that a 10 year return from now might be only 1% annualized or even negative. In this case liquidation might be a good idea as you lock in your current gains and reduce the debt right now. It then comes down to a calculation how much you will lose by paying taxes earlier. This decision again could be dominated by expectations as Pete B. outlines in his answer. I will leave it as a link as I am not familiar with the details of US taxation and the intricacies of US politics.

So bottom line: The is no perfect solution. It all boils down to your expectations of future returns and taxes

edit:
There seems to be a bit of confusion what I mean with low returns. I am refering to the correlation of high valuations with forward returns. As an example take the following figure which plots the 10 year forward return against historical values for the CAPE. Note that this is from a 2015 article and markets have moved even further into high valuations since. This suggests that returns for the medium future will rather not be 10% annualized just because that was the historical average. Considering that a mortgage in the US is somewhere around 2.5-3% interest and this is both a guaranteed and "tax free" return, realizing gains and reducing debt does not look like such a bad option. enter image description here (source)

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    historical returns on the stock market have been low, last year's have been ridiculously high, so now they'll probably be ridiculously high in the other directly. Or will they? Nobody knows. The market will crash right after you go all-in.
    – user253751
    Jul 20 at 8:20
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    @user253751 - "historical returns on the stock market have been low". What? 10.73% CAGR over the last 100 years. 7.45% this century, including the first awful decade. Jul 20 at 12:19
  • @JTP-ApologisetoMonica well, I assume that counts as "low" or else I can't figure out what Manziel is calling low. Also note that the USA's stock market (which must be the one you're referring to) is an outlier.
    – user253751
    Jul 20 at 12:54
  • I added a paragraph to clarify what I meant.
    – Manziel
    Jul 20 at 13:20
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    I think you are missing an important factor here: inflation. You can lock-in a 30-year mortgage at an extremely low rate. If inflation rates rise (which a lot of people think is inevitable), your mortgage becomes less expensive over time and your home will tend to be worth more. Likewise, stocks also tend to rise with inflation. 100K today is worth more than it will be in 10 years. I say let the bank/government eat inflation.
    – JimmyJames
    Jul 20 at 15:08
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It really is not that complicated to figure the tax on capital gains. For assets that you have held longer than a year, you pay taxes at the long term capital gains tax. Now, despite having held the funds for longer than 10 years, not all gains could be considered long term. Recent dividends and capital gains; and contributions, that occurred less than a year ago may be subject to short term capital gains.

You pay taxes on the gains. If you paid 100K for funds that are now worth 500K, you would owe taxes on the difference, or 400K.

Currently the short term capital gains tax is 0, 15%, or 20% which will depend upon your income. However, the Biden administration has promised to shake up how this is done and all capital gains may be taxed as ordinary income.

So there are a lot of variables in place, here are some to consider:

  1. How much of that 700k is actually gain?
  2. What is your current income?
  3. What is the cost to originate a mortgage?
  4. What will the future income tax climate be like?

A person may be better off cashing out all mutual funds now, paying cash for the house, then getting a mortgage and rebuying the same mutual funds. This would give a person a stepped up basis for capital gains and avoid higher capital gains taxes if they come to fruition. Keep in mind, that even if they do come to fruition, they could be changed back by future administrations.

The complication is making the optimal decision. Given the amount of variables and needing to predict the future, it is pretty much impossible to make the perfect decision.

In these kinds of cases you might be better off with a partial decision. Sell some assets to reduce the amount of the mortgage but still get a mortgage. Then reevaluate next year. Do you take out 50K and use those assets to pay down the mortgage? Maybe/maybe not.

Factoring in the mortgage interest deduction also adds a layer of complications to this calculation. In the past, just about everyone qualified for the mortgage interest deduction. However, now a lot less people do because the standard deduction is so high, there are limits to the amount of interest one can claim, and the rates are so low.

Here I would not suspect this will change with future administrations. Both parties have shown a keen interest in simplifying income tax returns. The large standard deduction does exactly that.

I am not sure of your google search, but this page was pretty comprehensive.

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    I don't know about the US, but in the UK you are unlikely to get an immediate remortgage on a property you bought for cash, because doing that is an obvious illegal-money-laundering strategy. More likely, you would be out of the equity markets for 6 or 12 months before you could remortgage the property.
    – alephzero
    Jul 20 at 2:44
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    @alephzero Actually it should be OK. When you buy the house, your conveyancing solicitor (the lawyer handling your side of the deal, for non-Brits) has to trace where that cash came from, with evidence. They sign off on you not being money-laundering, and the other side also need to see that evidence before the sale can go through. Not to say that money laundering can't happen, but it needs the active involvement of two sets of lawyers.
    – Graham
    Jul 20 at 7:31
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One aspect to keep in mind might be the leverage resp. the opportunity cost of selling your funds now.

If you think that you can make a higher profit (percentwise) than the interest rate of your mortgage would be, and you can afford the monthly mortgage payments even if your investments take a dip, it may be more adviseable to take the mortage.

This gives you two advantages:

  • no capital gains tax right now
  • keep your investments rising, making you money
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  • Leverage is a very important part. Simplified example: if your downpayment is 10% and your initial house costs $500k, then after 1 year you owe ~$440k to the bank. But, if your house appreciates to $600k (not uncommon in the last year), the entire $100k in extra profits is all yours - you could liquidate your house on the spot for a crazy 420% in profits ($50k invested, $160k extracted). You won't get returns anywhere as crazy if you keep your house longer than that, but the general principal stands. Jul 20 at 2:45
  • @JonathanReez and if the housing bubble crashes ($900k house?!) you owe more money than the house is worth, and your stock investments probably crashed too.
    – user253751
    Jul 20 at 12:16
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    @user253751 yes which is why it’s important to be ready to actually live in the house for a long time in case the market crashes. People who bought in early 2007 were only be able to sell for a profit recently. Jul 20 at 13:52
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    @user253751 It's usually it's the parents cosigning the children's loan, not the other way around. Regardless, that's not inheriting debt, it's a loan that you personally took on.
    – JimmyJames
    Jul 21 at 15:21
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    @user253751 The goal posts moved to an entirely different field on a different continent for a different game.
    – JimmyJames
    Jul 21 at 15:52
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How can I go about estimating what my tax burden will be?

  1. Figure out your cost basis. That's basically how much you paid for your shares including re-investment. Your brokerage should give you the cost basis for each of your funds. With a good broker, you can access this online.
  2. The difference between the current price and the cost basis is your capital gain. If you hold it for more than a year it's "long term". Otherwise it's "short term".
  3. The federal tax calculation is indeed insanely complicated since the US tax code is really effed up. In "many" cases the long term gain will be taxed at 15% but it can vary anywhere between 0% and north of 30%. Hence "it's complicated"
  4. There is also state tax to consider. E.g. short term capital gains in Massachusetts are taxed at a whopping 12% on top of whatever the feds want.

Is there ever a situation where a mortgage makes more financial sense - where the mortgage deduction could lessen the bite of that capital gains tax?

Sure. If you think that your funds will provide a higher rate of return than the interest of your mortgage, you should go with the mortgage. Taxes makes this again insanely complicated but for "normal" cases this often comes out to be a wash.

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Other answers focus on optimizing the total profit of the investments against the cost of the mortgage. There is another aspect to consider: cash flow security.

What happens if your income drops for a while?

If you have a mortgage and some mutual funds, you can just keep paying your expenses from the funds.

If you have neither of these, you'll need to find a new source of income before your emergency savings run out. Typically it is difficult to get a new loan with good interest rate if you already have insufficient income.

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Is there ever a situation where a mortgage makes more financial sense

  • where the mortgage deduction could lessen the bite of that capital gains tax?

The mortgage deduction is a case of the tax tail wagging the investing dog. My 3.5% mortgage nets at 2.73% after federal tax deduction. In effect, this is a 'discount' of .77% on the cost of my mortgage. Tiny in comparison to the 10.73% (CAGR) return of the S&P over the last 100 years, or the 11.64% return over my own investing lifetime, i.e. since 1985.

We have a great Q&A, Oversimplify it for me: the correct order of investing in which my own answer suggests that paying off a mortgage sooner should come 6th, after a list of other debt/investments. On reflection, I'd say that letting a mortgage run its course, and in some cases, stretching it out longer than the traditional 30 years, makes more sense.

Good question, but we don't know the 'rest of the story'. Are you depositing to 401(k) or other retirement accounts? Do you have any other debt? It's far easier to put 20% down, and realize that you are still sitting on cash you'd prefer to not invest and pay down the loan a bit, than the opposite. Send all of your liquidity to the deposit, and then have all of the expenses of a new home, and find you are cash-poor. As others noted, liquidity is pretty valuable.

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  • A sensible answer. In addition to expenses that come with a new home, there are maintenance costs (expected and unexpected) that you might not understand if you've never owned a home before.
    – JimmyJames
    Jul 21 at 14:31
  • Thank you. I resisted the urge to start listing all the expenses of items that aren't / can't be noted during an inspection, but due to age, fail early on. The 'redecorating' could have been another super long list. Jul 21 at 14:48
  • I think 'really long list' sums it up pretty well. The things that really get people, in my experience are things like fixing a foundation, putting on a new roof, fixing sewer lines, etc. They aren't fun or exciting but they will cost you plenty and if you don't do it, it can destroy the value of your home which, if you've liquidated all your assets, is now the basket where you've put all your eggs.
    – JimmyJames
    Jul 21 at 15:04
  • I see now that the OP implies not only that they have more retirement investments as well as other investments beyond the 700K. The decision of whether to buy outright is a little more nuanced in that situation.
    – JimmyJames
    Jul 21 at 15:13

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