During my live chat last week I had a question about whether to pay off a mortgage before retirement.
The reader asked: “I’ve heard some folks say that you shouldn’t pay off the mortgage early if the interest rate for the mortgage is low. My interest rate is 3.75 percent. I was thinking of paying the mortgage off in 15 years, rather than 30 years. This would allow me to pay it off nearly 7 to 10 years before retirement. What are your thoughts?”
Don’t listen to “folks.”
Most of the time they don’t know what they are talking about. And some of the folks have a vested interest in you keeping a mortgage to your grave. It could be someone in the banking industry or a financial adviser who is telling you to keep the mortgage and give any extra money you have to him or her to invest for you. Your decision puts money in their pockets and that makes them biased.
The interest rate on our 15-year mortgage is 2.75 percent. But that doesn’t matter to us. We want that debt gone before we retire. Why?
1. We hate debt. Psychologically we loathe the feeling of owing anyone money. We want to move into retirement without the burden of being borrowers.
2. If we get rid of our mortgage, we are eliminating the biggest expense in our retirement budget. This leaves room to manage other costs that may increase such as health care.
3. About that tax deduction. It’s just that: a deduction, not a tax credit. A tax credit reduces dollar-for-dollar the taxes you owe. A deduction eliminates only a percentage of the tax. If you don’t have a mortgage, you may pay more in taxes -- but not as much as you would have to pay in annual interest on the home loan, especially in the early years. It doesn’t make sense to me to keep a mortgage just for the tax break (more on this point later.) Also read: Is that tax break worth it?
4. Paying off our mortgage early is a guaranteed return. We will save thousands of dollars in interest with our early payoff plan. We could invest the extra principal payments, but we aren’t guaranteed a return. It’s probable, but not a sure thing.
There was a time when people had mortgage-burning parties to celebrate the day they were released from their biggest debt. My grandmother, Big Mama, longed for the day she would no longer have a mortgage albatross around her neck.
Without a mortgage, Big Mama lived comfortably in retirement for more than two decades on Social Security and a small pension. She didn't have a retirement nest egg of seven figures, either.
Here’s a word of caution. You shouldn’t empty out your savings to pay off your mortgage. That is not a wise financial move. You don’t want to end up house rich and cash poor, meaning all your money is locked into the equity in your home. Equity, I might add, that you can only tap by borrowing other people’s money or by selling your home.
Christine Benz for Morningstar.com had an interesting interview with real estate expert Ilyce Glink, author of “100 Questions Every First-Time Home Buyer Should Ask.”
Read my review of the book: Should I rent or buy a home? That’s not the only question you should be asking.
Benz and Glink discussed reasons it makes sense to pay off a mortgage before retirement.
Here’s part of their exchange:
Benz: “A lot of pre-retirees look at whether they should pay off their mortgage versus continuing to plow more into their retirement accounts. What are the key benefits — aside from the psychological one of maybe being debt-free — of paying down a mortgage prior to retirement?"
Glink: “The first question is, what kind of cash are you going to have after you retire? Some people don’t really retire. They just go from full-time jobs to sort of part-time income or they start up something in their garage, but they are still making some money coming in. Your first question is, are you even going to have a loss of cash flow? Is that going to go down? And if it is, okay, now, let’s talk about paying off your expenses and what expenses can you get rid of before you hit retirement? What new expenses will you have coming into retirement? Some of those might be an increase in health care benefits. If you are trading off, let’s say, mortgage debt, but you are going to have an equal amount of health care cost, but the income is going to roughly stay the same, you are probably in good shape. But if you aren’t going to be in good shape or you think that you might need to reduce somewhere else, getting rid of that mortgage debt is a nice way to go.
And then there is the fact that the mortgage interest deduction isn’t as sweet as it used to be. The new tax law limits itemized deductions for real property taxes and mortgage interest.
To that point Glink, says in the interview: “I’m a big fan of prepaying mortgages. For the investment properties I have, we’ve continued to throw the excess cash at those mortgages and paid them down. For our own home loan as well, every time we refinanced, we left the payment the same even though the interest rate went down, and we’ve been prepaying as well. We want to be done. To your point, there’s just this great psychological benefit to being done, but there are also some real world consequences to not being done in an era where deductibility is so severely limited.”
Watch the full interview: The Benefits of Paying Down a Mortgage Before Retirement
If you save, invest and eliminate your largest expense — your mortgage — you can live well in retirement, as my Big Mama did. Don’t listen to folks who would have you stay mired in mortgage debt.
For more on retirement:
Did you pay off your home before retiring? How’s that working for you? If you still have a mortgage how’s that working for you? Send your comments to email@example.com. Please include your name, city and state. Put “Mortgage” in the subject line.
Retirement rants and raves
I’m interested in your experiences or concerns about retirement or aging. What do you like about retirement? What came as a surprise?
If you haven’t retired yet, what concerns you financially?
You can rant or rave. This space is yours. It’s a chance for you to express what’s on your mind. Send your comments to firstname.lastname@example.org. Please include your name, city and state. In the subject line put “Retirement Rants and Raves.”
In last week’s newsletter, I discussed how the IRS has been warning retirees to look at their withholdings to avoid a surprise tax bill.
I asked: Considering the new tax changes have you started looking at your tax situation in retirement? Did you need to do some adjustments?
Ruth Dobbins of Peculiar, Mo., wrote, “As a retired person with Social Security and pension, I fully expect to pay more in taxes with the new tax reform.”
“I followed closely the debate about the new tax plan,” wrote David Bono from Fremont, Calif. “In the end, because of the cap on property taxes, it looks like we will owe an additional $500 to $1,000. Then OPM (I’m a federal government retiree) send out adjustments to withholding as mentioned in the article. I knew they would be too low, so went to their online site and reset the values to what I had before. I guess I’ll know by February or so what the tax bill will be and if I withheld enough.”
The Keating’s of Arlington Heights, Ill., wrote, “As soon as the new withholdings on our monthly pension checks changed in February, we went to use the [IRS] calculator. In March we took the information to our tax preparer and the recommendation was to file a new WP-4 as soon as possible. Basically the new withholding, which took effect on our May checks (slow moving bureaucracy we guess), reverted to what it was in 2017. The IRS calculator also suggested an additional one time payment to catch up for any missed months, but since we are required to take a RMD (Required Minimum Distribution) this year from spouse’s 401(k) our tax preparer advised us to just increase the percentage being withheld from that distribution. When we talked about this to some of our fellow pension collecting friends they seemed unconcerned about possible penalties or taxes due and were more than happy to have the extra money now — not that any of them needed it. We prefer not to be surprised with a big tax payment or penalties.”
Thomas White of New York is an AARP Volunteer Tax preparer had some great observations.
“I turned 65 in August, and started my pensions, White said. “I have 12 percent withheld for federal [taxes] and 3 percent for New York State. But then I have been paying estimated taxes since I retired in 2011 and have a pretty good idea what this awful tax bill will do to New York residents. If you are retired, most people who itemize have their biggest items as SALT, followed by charity or medical. We, personally, fall right about on the $26,600 stand deduction we get as over 65’s, so this is a wash for us, and very few of my tax clients, who are retired, have been above that value.”
White continues: “Those younger than 65, still working and own a big tax home, on which they have paid down the mortgage, in Westchester County are hosed. The only people who will itemize are those who have a lot of mortgage interest expense, at least $10,000 in SALT, and a lot of charitable contributions. Without a lot of mortgage expense, the only people who will itemize are those who give a lot away (and none of this matters to such people because they are very wealthy) and those with very high medical expenses.”
Speaking of taxes. If you need help or you’re interesting in helping there’s a place for you:
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