Paying off the mortgage after 30 years was a rite of passage for Americans approaching retirement age, but this once-common scenario is no longer the norm. According to research from Fannie Maes Economic and Strategic Research Group, baby boomers, those born between 1946 and 1965, are carrying more mortgage debt than earlier generations and are less likely than earlier generations to own their homes at retirement age.
This is supported by data from the Federal Reserve that shows people aged 75 and up have more mortgage debt than older generations. According to separate research, between 2040 and 2050 percent of Americans in their 60s no longer have a mortgage. This leaves a big chunk that still does.
Whether it makes financial sense for retirees or those nearing retirement to pay off their mortgages depends on factors such as income, mortgage size, savings, and the value of the mortgage interest deduction.
Should Retirees Pay Cash for a House? The Pros and Cons of All-Cash Home Purchases in Retirement
Buying a house is often one of the most important financial decisions retirees have to make. Now that you have money saved for retirement, you need to decide whether to pay cash or get a mortgage.
It might seem like a dream to buy a house with cash, but is that always the best way to go in retirement?
In this comprehensive guide, we’ll analyze the pros, cons, and key factors to consider when deciding if retirees should pay cash or opt for financing.
The Allure of Cash: Benefits of Paying Cash for a House
Let’s start by examining the potential advantages of paying cash for a house in retirement:
No Monthly Mortgage Payments
The biggest benefit of paying cash is that you don’t have to make monthly mortgage payments. This lowers the cost of housing and gives retirees fixed, predictable costs. Given retirement income is often fixed, this predictability is appealing.
Immediate Equity & Ownership
If you pay cash, the house is yours from the first day. You build immediate equity and own it outright. This gives you a sense of security and can be comforting when you retire.
Avoid Interest & Fees
Bypassing a mortgage avoids all interest and fees tied to financing. This saves significantly on costs over the long run. Interest expenses can really add up, so paying cash eliminates this.
Simplified Closing Process
An all-cash offer simplifies the closing process by removing contingencies like financing approval. Closing timelines can be quicker, which is advantageous in competitive markets.
Peace of Mind in Retirement
Owning a home free and clear boosts peace of mind for many retirees. The security of outright ownership with no debt obligations is meaningful. This emotional factor should not be underestimated.
Potential Downsides of Paying Cash
However, there are also some potential drawbacks to be aware of:
Large Amount of Cash Required
Paying all cash requires having a sizable lump sum on hand. For most retirees, this means liquidating a portion of retirement savings.
Lost Investment Opportunities
Tying up a substantial amount of cash in a home means those funds are not invested or earning returns elsewhere. This lost earning potential is a key opportunity cost.
Reduced Financial Flexibility
With cash locked into an illiquid asset, it reduces financial flexibility in the event those funds are needed for other purposes down the road. Accessing home equity can be difficult.
Risk Concentration
Concentrating such a significant portion of assets into one individual, non-diversified investment ups risk exposure. This concentration issue is particularly relevant in retirement.
Key Factors to Consider
When weighing whether retirees should pay cash or get a mortgage, several personal factors come into play:
Retirement Income Sources
If you have ample passive retirement income streams like pensions or annuities to cover expenses, paying cash may be feasible. But if you rely heavily on retirement savings, retaining liquidity and flexibility may be preferable.
Health Status & Family History
With longer lifespans and rising healthcare costs, retirees need to plan for potential long-term care needs. Keeping some assets liquid helps prepare for this possibility.
Mortgage Interest Rates
If current mortgage rates are low, financing a portion of the home purchase may make sense to retain capital for other needs. But with high rates, cash becomes more attractive.
Investment Asset Allocation
If a large portion of retirement assets are allocated to low-risk, low-return vehicles like bonds, paying cash secures a higher return through avoided interest costs.
Housing Market Conditions
In competitive housing markets, cash offers are highly desirable and give buyers an advantage. But in buyer-friendly markets, financing may still allow competitive offers.
Future Relocation Plans
If high likelihood of moving in 5-10 years to be closer to family, cash preserves flexibility and assets. But if staying put permanently, payoff provides long-term stability.
Inheritance Plans
If hoping to pass home equity to heirs, paying cash builds value to transfer. But if priorities are enjoying retirement, liquidity may take precedence.
Making the Best Decision for You
There are great arguments on both sides of this cash vs. mortgage decision. Each retiree’s personal financial picture must be evaluated. But given home purchases are illiquid, tying up too much cash has risks. A balanced approach of putting down a sizable down payment while financing a portion may optimize liquidity and avoided interest.
Seeking input from financial advisors and family can provide an invaluable outside perspective when weighing such a major financial commitment. Being strategic with any real estate purchase and not overextending limited retirement resources is key.
While handing over a briefcase of cash seems idyllic, the reality is more nuanced. With thoughtful planning around retirement time horizons, income sources, and asset allocation, retirees can make the optimal decision on how to best structure their home purchase in alignment with long-term financial security.
When to Continue Making Mortgage Payments
Making monthly mortgage payments makes sense for retirees who can do so comfortably without sacrificing their standard of living. It’s often a good choice for retirees or those who are just about to retire and who are in a high-income tax bracket, have a low-interest mortgage under 5%, and can benefit from the deduction on mortgage interest.
This is particularly true if paying off a mortgage would mean not having a savings cushion for unexpected costs or emergencies such as medical expenses.
At What Age Should You Pay Off Your Mortgage?
There is no specific age to pay off your mortgage, but a common rule of thumb is to be debt-free by your early to mid-60s.
If you plan to retire soon and have the money to pay off your mortgage, it might make sense to do so. This is especially true if your money is in a savings account with low interest. Again, this only works for people who have a good retirement plan and enough extra money saved for emergencies.
Paying off the mortgage ahead of retirement can be a real stress reducer. Your monthly costs will go down, making you less vulnerable to things like a sudden rise in property taxes, an unexpected repair, or the effects of inflation. You’ll save on the interest you would owe by keeping the mortgage.
Entering your retirement years without monthly mortgage payments means you won’t have to use your retirement funds to pay for them.
Continuing to make monthly mortgage payments makes sense for retirees who can do it comfortably and benefit from the interest tax deduction.
Should I Finance or Pay Cash for a Home in Retirement?
FAQ
What is the downside of paying cash for a house?
1) Capital gains tax: One of the worst things about paying cash for a house is having to pay capital gains tax on the things you sell to get the cash.
How much money should a retiree keep in cash?
Some experts recommend retirees keep one to two years’ worth of living expenses in cash. This means money in a checking or savings account — not invested in stocks, bonds, or similar assets. For example, if your annual expenses are $50,000, you should have between $50,000 and $100,000 in cash.
At what age do most people pay off their house?
There is no specific age to pay off your mortgage, but a common rule of thumb is to be debt-free by your early to mid-60s.