By Robyn A. Friedman of the Wall Street Journal
Many homeowners dream of hosting a “mortgage-burning” party as they approach retirement. But Paying off the mortgage isn’t always the best strategy.
Sometimes, it’s better to keep that money in the bank for other purposes, such as building retirement savings or paying down higher-interest debt. In other cases, paying off a mortgage makes sense, especially when you have ample retirement savings and plan to stay in the home for a while. The analysis depends on the terms of your mortgage, the amount of your savings, and your expected retirement income.
“It’s absolutely imperative to run the numbers,” says Catherine Collinson, president of Transamerica Center for Retirement Studies, a division of Transamerica Institute, a nonprofit private foundation funded by Transamerica Life Insurance Co. “Every case is a little different.”
An increasing number of Americans are facing decisions about what to do with their mortgages as they retire. Baby boomers are swelling the ranks of retirees, and more older homeowners are carrying mortgage debt that in the past. More than 40% of homeowners 65 and older had mortgage debt on their primary residences in 2016, up from 22% in 1995, according to the Joint Center for Housing Studies of Harvard University.
The change has happened for a number of reasons, experts say. Baby boomers as a generation have tended to be less debt-averse that their Depression-scarred parents, says Jennifer Molinsky, Ph.D., a senior research associate at the Joint Center. And, of course, while interest rates are rising, they are still low by historical standards. “Holding debt in the 1980s when rates were in the teens is a lot different than holding it now,” Ms. Molinsky says.
So how should home owners approaching retirement evaluate whether to pay off their mortgages? Experts point to several considerations.
If you plan to live in your home for a while or to age in place, then paying off your mortgage can bring peace of mind. “If you’re not able to afford to pay off the mortgage, and you’ll have all the retirement assets you’ll need, you might just feel better paying off the mortgage, and that’s OK,” says Jamie Hopkins, director of the Retirement Income Program at the American College of Financial Services. “There are benefits because it does help with cash flow.”
That’s especially true if the interest rate on your mortgage is much higher than the return you’re getting on your investments. For example, if you’re investing in certificate of deposit earning an interest rate of 2%, it makes more sense to use that money to pay off your mortgage if the interest rate is higher, Mr. Hopkins says.
However, if your retirement plans are not fully funded of you lack sufficient savings or emergency funds, keep that cash in the bank and leave the mortgage as is. If you’re not sure you have enough stashed away, consult a financial adviser.
“Most people are better off saving in a tax-deferred vehicle, such as an IRA or 401(k),” Mr. Hopkins says. “The tax deductions are better that way too.” Here are some things to consider if you’re about to retire and still have a mortgage:
Make a Plan
According to the Transamerica Center for Retirement Studies, only 11% of workers over age 65 have a written strategy or financial plan for retirement. “The fact that so few people have a written financial strategy is quite alarming,” Ms. Collinson says. “Once you enter retirement, if you find out you don’t have the income you expected or have some surprise financial shock, it’s extremely difficult to get back into the workforce.” A written financial plan for retirement is like a reality check to ensure you’re financially ready to retire. Otherwise, you risk outliving your savings.
Consider refinancing
If you’d like to reduce your mortgage payment, but not pay off the mortgage entirely, you can lower your monthly payments by refinancing and extending the life of the loan. You may be able to lock in a lower interest rate.
Don’t touch retirement funds
While it’s not a bad idea to use low-earning savings to pay off a higher-interest mortgage, that only applies if you have more than you need for retirement accounts such as IRAs or 401(k) plans. “Most Americans generate their income in retirement from social security, a 401(k) or IRA,” Mr. Hopkins says. “Should we be taking large withdrawals from them to pay down a mortgage? The answer is no.” That’s because you may be subject to a tax penalty of 10% for early withdrawal if you take funds out of an IRA to pay off your mortgage before you turn 59.5. And, of course, you’ll be depleting your retirement fund.
