Dealing With Mortgage Debts in Retirement

Are you a pre-retiree? Perhaps you’re among those expecting to carry their mortgage payments into retirement. If so, you must be aware of what the advantages and disadvantages are. While you may enjoy tax benefits when you hold a home loan, keep in mind that they may run low upon retirement because the interest portion of the payment goes down every month. 

Are you wondering how outstanding mortgage payments may affect you upon retiring? Here are some things to consider:

• Tax Benefits. Everyone’s familiar with 30-year mortgage terms. This common type of home loan generally includes principal and interest payments. While the former will proceed to your actual loan amount, the latter will go toward the rate your lender charged you so you can take out the loan. During the early years, most of your payment will go to interest. Over time, though, a larger share will go toward your principal.
• Deduction in Mortgage Interest. Many homeowners get to enjoy mortgage interest deductions during tax time. It helps reduce the burden from federal income tax, as the amount you need to pay in mortgage interest is deducted from the gross income. However, the further along you’re toward paying down the mortgage, the less interest you’d be paying. This essentially diminishes the benefit of the deduction.
• Deduction in Real Estate Tax. It’s not unusual for mortgage fees to include charges for real estate taxes as well as insurance. An escrow account holds part of your payment to cover these particular items. Your real estate taxes (state and local) may be deducted from your federal income taxes.

Potential Issues

Holding a mortgage may be great due to its tax benefits. However, that value can nosedive upon your retirement. Here’s how:

• There’s a chance that you’d be paying off far less interest on your home loan than earlier in life. This can result in a significantly smaller mortgage interest deduction.
• It’s also highly probable that your income during retirement will not be as much as what you’re earning when you’re still working. If that’s the case, you can expect your income taxes to be lower. Consequently, your mortgage interest, as well as deductions for the real estate tax, may only have little to no value when tax time rolls around.
• Do you intend to pay your monthly mortgage payments from your retirement account? Whether your source is from IRA or 401(k), there’s a risk that you’d end up with a much higher tax burden. If you have traditional accounts, you’d pay taxes on them as well as your gains as you start your withdrawals. Your income tax rate may be lower during your retirement, though, compared to your working years.

Besides, not only will you be extracting funds from these accounts to pay off your mortgage debt, but you will also be plucking out money to live on. When your income from these retirement accounts and half of your Social Security benefit is combined, there’s a chance that you’d exceed the income tax threshold. This can result in your Social Security benefit becoming taxable. 

What Can You Do?

If you’d like to keep your home and are halfway through paying off your mortgage debt, it would be advisable to stay put. You’ll enjoy a delightful dip in your monthly expenses once your mortgage payments are cleared off. Of course, you’d still have to spend for your taxes, insurance, and anything required for the upkeep of your property. But if you can find a way to swing the cost, living free of mortgage debt is undoubtedly a nice place to be. 

What if you still have a long way to go before you can completely pay off your mortgage? Well, you certainly can continue to enjoy the tax deductions. However, if you have lower federal income taxes and the benefit of the deduction isn’t really that great, consider selling your home instead. If that’s not an option for you, perhaps you can bring in a renter. This strategy can help cover the mortgage payments and upkeep. 

You should also use online calculators to help you make mortgage decisions. You can use free mortgage amortizing calculators to see how the interest payments will decline over time. You can also use more detailed financial planning software, such as the WealthTrace Planner, to run mortgage scenarios. Using planning software you can figure out if it makes sense to have a 15 year mortgage vs. a 30 year mortgage. You can also calculate if it makes sense to pay the mortgage off early or hold onto it for the tax benefits.

Reverse Mortgage

Do you own your house outright? Perhaps you’re already close to paying your mortgage debt completely. If so, you may put your home’s equity to good use. This way, you can supplement your retirement income. This financial agreement, also known as a reverse mortgage, will allow you to borrow against your home. There are several options to receive payments. You can get them as a single sum, as a monthly income, as a line of credit, or some combination of these. The payments will depend on the value of your home, which will be determined by the lender. 

Of course, you don’t have to pay the loan again. There are a couple of conditions to become eligible, though. You have to be 62 years old or older and need to live there. This type of agreement is not a simple decision to make. In fact, it can be risky for some people. It would be best to find out how this works and what other options are available before you make a move. No matter what you choose, it always pays to proceed with caution and consult with a tax professional to make sure you’re making the right financial decisions.