Show Notes for this Episode:
Welcome to the first official Q&A episode of the Retirement Money Gal Podcast! I’m excited to be able to take questions from listeners and will be doing one Q&A episode per month. I’ll also share questions I receive from my clients at Sammons Wealth.
In this episode I answer the question, should you pay off your mortgage if you’re within 5 to 15 years from retirement.
With interest rates at an all-time low, that means you aren’t earning anything on your cash. Does it make sense to retire the debt of what is most likely your biggest monthly financial bill?
It definitely helps to know when you’re planning to retire and how you plan to spend your retirement. I shared my thoughts about having a vision for your retirement why women in midlife should reframe their thinking about retirement.
The reality is, there are multiple things to consider when evaluating whether or not it makes sense to pay off your mortgage when you are moving toward retirement.
What you will learn in this episode:
- Financial reasons to consider paying off your mortgage
- Non-financial reasons to consider paying off your mortgage
- The opportunity costs of paying off your mortgage
- Alternatives to paying off your mortgage all at once
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Speaker 1: I have a special episode for you today. It's a brand new type of podcast episode that I'm going to be doing from time at the time. And it's a Q and a episode where I answer your questions that have come I'm up on the show. And I'm going to answer questions from Mike. I own clients, the clients of my financial planning firm, salmons wealth, media management. I'm going to, to also answer questions from you, my listeners, then I'll tell you how to ask your questions here in a moment. And also questions I receive from my followers on social media. And I'm pretty much everywhere on social media. I'm on Facebook. My Facebook page is Stephanie Sammons CFP, my Twitter handle, and I'm pretty active on Twitter. And I've been on Twitter for a decade, I think is at Steph Sammons as to EPH S a M M O and S.
Speaker 1: So if you want to follow me and connect with me in those places, or also LinkedIn, I'm on LinkedIn, Stephanie, Sammons pretty easy to find me and shoot me your question. You can also send an email to me directly at Stephanie at retirement money, gal.com. So when I hear or see a question, a similar question or the same question multiple times, chances are it's on your mind as well. And you can also benefit from the insight that I may be able to provide to you or some education or background behind how to think about the question for your own situation. And, you know, I don't know your personal financial situation, if you are a listener of this podcast. So I can't give you personalized advice legally. I'm not allowed to do that. So just understand that when I answer these questions on these Q and a episodes that mostly I'm trying to educate you and help you think through all sides of the question and just educate you on what you might want to consider or keep in mind.
Speaker 1: All right. So the question that I'm going to answer today is Stephanie, should I pay off my mortgage? Now? This is a very common question that I get from clients who are within five to 15, even 20 years from retirement, in some cases, because there are a lot of, uh, women working women who have very busy professional lives and challenging and demanding careers who have a goal or a desire to retire early. So if that's you, then you may be retiring or trying to retire sooner than age 65, age 70, and you may want to consider a mortgage pay down before you retire. So that's pretty common as you're moving closer to retirement, that this question is on your mind. And the thinking is, gosh, if I could pay off my mortgage and significantly reduce my monthly expenses, because it's probably the highest monthly bill you have, it would really free up some cashflow.
Speaker 1: And I would get rid of that debt. And I wouldn't have to worry about it anymore. Now, of course, you probably are still going to have property taxes. And in some States, property taxes are high, like Texas, where I live and you're going to have your homeowners insurance. So you still have expenses and you have maintenance expenses, but your mortgage payment is probably the biggest monthly expense that you have when you retire. You begin living on more of a fixed income. And so paying off your mortgage now, while you're still receiving a paycheck is something to think about. And you may be able to create more flexibility for yourself in retirement. If you're not having to worry about that mortgage payment, and you can basically live on less and just have more room for other things that might come up in retirement, other expenses. So, as I said, most people as they move closer to retirement, they do have this desire to get rid of their mortgage debt because after all it is a debt now paying off your mortgage is not a cut and dry decision, as you'll see, because I'm going to walk you through the different factors to think about.
Speaker 1: And there's really a lot to consider. So first I want to go through the financial factors of paying off a mortgage. We currently have a situation where interest rates, including mortgage rates are historically low. In fact, we've never seen rates this low. And the reason why rates are so low is because we've experienced and continue to experience the impact of a global pandemic. And the federal reserve and Congress have pumped money into this economy to prevent us from going into a longterm recession or even a depression, and that has pushed interest rates lower. So that means that you're earning very, very little interest, pretty close to zero on savings and money market accounts and CDs. What we refer to as very short term liquid instruments or investments, bonds are also paying very low rates of interest and bonds serve an additional purpose in an investment portfolio in that they can be a buffer when we experience stock downturns in the markets.
Speaker 1: So the recent downturn that we did go through as a result of the pandemic, hitting our shores in the U S bonds behaved very well and they helped to cushion the blow of the stock market decline. So they do serve that purpose. Regardless if you're earning a high interest rate on your bonds or a low interest rate. Now it's much better obviously to earn a higher rate of return on your bond investments, but for the foreseeable future, it looks like rates are going to be low. Now we could see inflation rear its ugly head. Um, although that did not happen after the great recession that we experienced in 2008, 2009, when the fed also pumped significant dollars into our economy, the point is here, we can't predict the short term direction of interest rates. We can't predict a freights will stay low for a long period of time, or if they will creep back up over time.
Speaker 1: But while rates are historically low and you're earning next to nothing on your cash, you likely have a mortgage rate. That's probably somewhere between three and 4%, and that's a lot higher than almost 0% on cash. So that's something to think about because in the past, the argument was, well, I've got a great mortgage rate. It's super low compared to what I might be able to earn elsewhere on that money. So that was more of a justification for carrying a low rate mortgage and investing those dollars somewhere else. For example, in the markets where you could earn a potential higher rate of return, but today you're earning almost zero on cash and you're paying a mortgage rate that's three to 4% most likely. So that's something to think about. Now, if you do decide to pay off your mortgage, then you've got to think about where am I going to get the cash from?
Speaker 1: Do you have cash sitting on the sidelines? And if you do, and if you use that cash to pay off your mortgage or pay down your mortgage, does that deplete your cash reserves? If you were approaching retirement in the next couple of years, or you are already retired, you likely have a good portion of your investments in cash or very liquid. And I always recommend to my retired clients to have at least couple of years worth of fixed expenses in cash, because that allows you to not have to touch your stock investments. If we do experience a significant draw down in the markets, but what you don't want to do is deplete your cash reserves your emergency cash reserves. So if you're younger and you're working and you've got six months socked away in an emergency cash reserve savings account, and you want to use that money to pay down or pay off your mortgage.
Speaker 1: I don't recommend that because you're depleting your cash reserves. What if you lose your job? What if something happens? You just never know. So you always want to have that safety net in place. So where else can you pull cash from to pay off your mortgage? What are you potentially giving up? Because there is an opportunity cost. And as I mentioned earlier over time, over a longer period of time, if we're not just thinking about today and this year, you can earn a potentially higher return, significantly higher return in a diversified portfolio. You also get the benefit of compounding over the years on those assets, on those investments and things like dividends being reinvested into the portfolio. So over time, it is possible that you give up growth greater than what you're going to be paying down or retiring on that mortgage debt, that interest rate that you pay off on the mortgage debt.
Speaker 1: So it's something to think about the case for that is not as strong today with interest rates being where they are, but that's just today. And we can't predict the direction of rates and we can't predict the short term direction of the markets. We just don't know. And you've got to think longer term about these things and what you're giving up. Another financial factor is when you put your money into your home into real estate, it is not as liquid as it would be elsewhere. Now sure. You can take out a home equity loan or home equity line of credit, but in today's environment, it's a lot more difficult now to get those kinds of loans. The banks are really, um, being cautious and selective about making those kinds of loans because we are in a recession and there are people defaulting on making their mortgage payments, making the rent payments. So it's a, it's a concern and it's probably a short term situation, but still don't count on being able to turn around and get that money back out of your home quickly if you need it.
Speaker 1: What about if you have existing student loan or credit card debt that is high interest rate? Well, hopefully you know this already, but you want to pay off higher interest rate loans. First prioritize that over everything else. If you've got a high student loan debt, if you've got a higher straight credit card, you want to put funds toward those things retire that debt first, before you ever even begin thinking about investing or paying off a mortgage. Another question to consider that I've put in the financial factors category is how long do you to stay in this home that you're in. Currently, people tend to move on average every seven years. So it's possible that you do decide to sell this house at some point in the next seven to 10 years. And it's possible that you may end up selling it at a lower value than what you bought it for.
Speaker 1: But at the same time, a primary home is not really an investment. It's a place where you spend your time. It's an experience. It's a place where you live. So that's my view. Anyway, don't really view it as a moneymaking opportunity. If your house holds the same value seven years from now, or you make a little bit of money or you lose a little bit of money, it kind of is what it is because you didn't really buy it to make money. You bought it to create of comfortable place to live. So that's how I've looked at that particular situation. And then what about taxes? So mortgage interest is deductible on a tax return. Now only if you itemize on your return and the most recent tax code changes kept, which you're able to deduct for state and local property taxes. The cap is $10,000.
Speaker 1: Well that tax law change forced most of us to go ahead and take the standard deduction on our tax returns. In other words, for about 90% of people out there, it makes more sense to take the standard deduction on your tax return because you're getting about the same deduction versus if you itemized. Now, if you have a bid mortgage that may not be the case, it may make sense for you to continue to itemize. And you have to look at these numbers, how much of the mortgage interest deduction are you going to lose? If you take the standard deduction on your tax return and for a married filing jointly couple, the standard deduction for 2020 is $24,800. So if you itemize and your property taxes or your state and local taxes are capped at 10,000, and then you've got your mortgage interest, and then any charitable contributions that you make, if those don't exceed 24,000, or even if they exceed 24,000 by a little bit, you're not really gonna hurt yourself.
Speaker 1: If you take the standard deduction because you paid off your mortgage, hopefully that makes sense. And you're following me there. Alright, now let's look at a different side of the coin, the peace of mind factor, as I said, your primary home is not an investment in my mind. I've never viewed it that way. And it's not something that you speculate on unless you are an owner of rental properties, or you are someone who buys a fixer upper and you fix and flip properties. And that's something that you do, but your primary home that you're living in, especially if it's a home where you plan to retire and stay in throughout your retirement. That's not an investment. That's a place to live. So this is why for many who are within five to 15 years from retirement view, paying off a mortgage as peace of mind, you have no debt when you pay that off. And that's really priceless. It feels really good not to have that expense and not to have that debt hanging over your head and also frees up cashflow and gives you more flexibility. But you want to be careful if you do this and you do have more cash to spend that you don't expand your spending. And instead you take the dollars that you free up and you save those dollars toward your retirement.
Speaker 1: Another peace of mind factor is if you pay off your home, you own that asset. You don't owe anything else on that asset. And if you are concerned about longterm care and longterm care costs, and these are costs that Medicare doesn't cover, and these are usually costs that will come up at end of life, your last one to two years of life, and these costs have soared over the years, it can be very, very expensive to get the kind of care you need when you are close to the end of your life on this earth. Well, at the same time, longterm care insurance is expensive. In fact, it just got more expensive because of interest rates dropping so low. And it's for many people, it's not a feasible investment for others. It is an absolute must have because it brings some folks peace of mind to make sure they have that insurance coverage, but it's not cheap.
Speaker 1: And it's also not easy to get, if you have preexisting conditions like cancer or you've had cancer before these sorts of things do come into play and being able to get insured in the first place and also can impact your premiums. Well, if you pay off your home and you don't know anything on your home and you own that asset in your later years, as you move toward end of life, you may be able to take, what's called a reverse mortgage where you pull payments out of your home to live on from that asset. I do think this is going to become something that is used more and more, a reverse mortgage, because it can help people who can't qualify for longterm care insurance or who can't afford longterm care insurance, or who also can't afford to self fund all the costs that might come into play for a longterm care event.
Speaker 1: So that's something to think about as well. It's kind of a kind of can be used as, as insurance for you later in life. If you don't own anything on your home, now there are some options to consider that are kind of in between options. If you don't want to, or you're not ready to completely pay off your mortgage. So let me share those with you real quick. The first one is you can accelerate your payments so you can pay an additional amount toward your principal each month, and that can help you chip away at your mortgage balance faster, pay it down faster. And all you're doing is just adding a little bit more money to the payment every month. Now you need to make sure that you let your mortgage company know that you're doing this and to apply those payments to your principal, because otherwise they may not do so automatically.
Speaker 1: Another option that you might be able to consider is refinancing to a, maybe a 15 year mortgage instead of a 30 year mortgage, and maybe even get a rate that is 1% lower or more than what you currently have. It's not always a great idea if you're not really getting a significant interest savings. So you want to make sure you're at least going to get a point lower than your current rate and that you're going to stay in the house a while so that if you do have any closing costs or anything like that, or have to pay any points when you refinance that you have time to make up for that cost, but checking into refinancing at a lower rate and the maybe shortening your loan term from 30 years to 15 years, that could really help you accelerate paying down that debt. And the other option is maybe you don't pay down your mortgage, but you look at doing some home improvement projects like improving or remodeling your kitchen or remodeling bathrooms, things that have the potential to increase the value of your home over time.
Speaker 1: So these are just some ideas to think about. If you're not ready to completely pay off your mortgage right now, the box bottom line is only, you can make the best decision for you and your spouse or your family, and your decision should not be based in my opinion, on making a short term bet on the direction of interest rates on the direction of the housing market and on the direction of stocks and bonds. These things change constantly. And during a time like this, that we've been going through very, very difficult to predict what's coming next. We're also in an election year. Another thing that's very difficult to predict what the impact will be. So you really have to make this decision based on your own financial situation and the financial factors that I outlined, but also whether or not it creates emotional peace of mind for you.
Speaker 1: And of course, assuming you can afford to pay off your mortgage. You have the cash you have the funds to do so. Alright. That was a very good long winded answer to the mortgage question. So I don't know, maybe in the future, my answers won't be so long, I guess it will depend on your questions again, if you want to submit a question to me that I may address on this show, you can email me it's Stephanie at retirement money, gal.com, or you can hit me up on Twitter at Steph Sammons. You can send me a direct message. That's fine. And hopefully this helps you in thinking about your home and whether or not it makes sense to pay off your mortgage. This show is for informational and educational purposes only. Please do not consider any of the content as personalized financial investment tax or legal advice.
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