October 4, 2010
Mortgage tips for retirees
Don’t let loan paydown create future cash crunch
By Jack Guttentag, Monday, September 27, 2010.
Seniors approaching retirement with a mortgage balance and financial assets are faced with the question of whether they should liquidate assets to pay off the mortgage. With income declining at retirement, the mortgage payment becomes more of a strain. Yet liquidating assets to repay the mortgage reduces the income being generated by the assets, and leaves the borrower with less to liquidate later on when needs may be even greater.
This is not the first time I have written about this topic, but the world has changed and so have some of my perspectives. I never squarely confronted the core problem, which is that we don’t know how much money we will need to support our lifestyle in retirement because we don’t know how long we will live. The only foolproof solution to that problem is to accumulate more wealth than we can possibly outlive, but most seniors can’t manage that. For all the others, the question of whether to pay off the mortgage looms large.
My general view is that for most seniors, paying off the mortgage (or paying it down by enough to reduce the payment significantly) is a prudent move. The major reason is that for most borrowers, the interest rate they are paying on their mortgages exceeds the rate they can earn with a reasonable degree of safety on their assets.
Paying off a 5 percent mortgage is an investment that yields 5 percent with no risk, so if you can do it by liquidating assets yielding 2 percent, you increase your wealth. In comparing the return on mortgage repayment with the return on alternative investments that are taxable, it doesn’t matter whether the comparison is made before-tax or after-tax. If mortgage repayment earns the higher return before-tax, it also earns the higher return after-tax. If income on the alternative investment is not taxable, however, returns should be compared after-tax.
Some borrowers facing retirement don’t want to deplete their cash by an amount sufficient to pay off their mortgage, but they will have excess cash flow for a period, which they can allocate to mortgage repayment. The borrower in this situation confronts a new investment decision every month.
