Living debt-free seems like the ideal financial scenario for retirement, but having a mortgage during your golden years can actually be a savvy money move, depending on your finances. Keeping your mortgage in retirement is also more common than you think.
More than 1 in 4 people in retirement had an outstanding mortgage in 2016, according to Voya Financial survey. And 1 in 6 of those retirees owed $50,000 or more on their home loan.
“Many clients purchase their dream home in their 50s and … choose a 30-year mortgage. But when the client turns 65 and plans to retire, they should have a conversation about options,” says Matt Chancey, a certified financial planner in Orlando, Florida. “Should they continue to make those payments? Mortgages can certainly be great for clients when used and managed properly. All these variables can be tested.”
Here are four considerations that may influence if you keep or ditch that mortgage payment in your golden years.
Your money situation
No money: If you need to dip into your retirement savings to get rid of your mortgage, maybe it’s best to skip paying it off for now. “I've had people ask if they should take out half of their 401(k) to pay off the mortgage, and the answer is no,” says Kristin C. Sullivan, a certified financial planner in Denver.
Withdrawing funds early from your retirement savings accounts can be costly. If you’re younger than 59.5 years, you will incur a 10% early distribution tax penalty on withdrawals from your 401(k) or 403(b), except in certain circumstances. Plus, any amount taken from a 401(k) will be included in your gross income come tax time, possibly bumping you into a higher tax bracket.
If you’re younger than 59.5 and looking for penalty-free cash to use, you can take money from your Roth IRA and will only be taxed if you withdraw any investment earnings that accrued in the account. It’s important to note that you can withdraw Roth IRA contributions anytime with no taxes or penalties. Just make sure you’re not taking out those investment earnings, or tax penalties will come into play.
In either case, your retirement savings will be depleted, making it harder to save adequately for retirement.
Cash on hand:If you do have cash in the bank—but not in a retirement account—and it’s making less than the interest rate on your mortgage, consider using the funds to pay off your mortgage, says Leon LaBrecque, managing partner and CEO of LJPR Financial Advisors in Troy, Michigan. “Think about it, paying it off guarantees you the monthly mortgage payments and has no risk.”
Better investments: If your mortgage has a low rate—which is likely, given the last few years of historically low mortgage rates—then you may be better off investing excess cash in assets that return more than the mortgage rate.
“Highest and best use of money which is not changed by retirement,” says David Bize, a certified financial planner with First Allies in Oklahoma City. “If debt interest rate is less than projected return for deploying money another way, then invest money otherwise and do not pay off debt.”
Risky investments: Having a mortgage can be a disadvantage if you’re invested mostly in riskier assets, says LaBrecque. For instance, say you have the following investments:
- $1 million in an IRA with 80% invested in stocks and 20% in fixed assets
- $300,000 trust invested in stocks* $300,000 mortgage
“Your allocation is 110% equities if you consider the mortgage as an anti-fixed asset,” he says.
If you itemize: If you are in a higher tax bracket, your monthly mortgage payments may lower the amount you owe the IRS each year. Under the new tax plan, you can deduct mortgage interest up to $750,000 in home loans.
It’s important to note that how much mortgage interest you pay decreases over the term of the loan. You pay half of the total interest with the first third of payments. So, there’s less to write off when it comes to older mortgages.
If you take the standard deduction: Your income is likely to decline during retirement, while the standard deduction increases after 65—even more so now after the new tax plan. That means you may have little financial incentive to take the mortgage deduction—given those changes—and instead will choose to take the standard deduction. If so, getting rid of your mortgage—and its interest payments—may make financial sense.
Other debt: If you have other high-cost debt—such as credit card debt—it’s financially smarter to work on paying that off rather than your mortgage. That’s because interest rates on mortgages are typically much lower than other debts, especially credit card rates, which average around 13%.
Peace of mind: “We as financial professionals can solve the numbers for each client and make it black and white,” says Derek Tuz, partner at Aegis Financial Partners in Denver. “However, if the client is not going to sleep well, or is going to forgo the enjoyment of retirement, as they are too worried that they have a big mortgage payment, then the answer changes.”