Sell the house, or stay?
Retired senior considers taking a reverse mortgage, renting suite
The person
Laurie is a single retired senior who lives in the heart of Toronto. In simple terms, she is house rich and cash poor, and has no workplace pension. Her income comes from tenants who rent the upstairs apartment in her home, and the usual government entitlements of Canada Pension Plan, Old Age Security and Guaranteed Income Supplement. She is currently taking courses at a local university toward a graduate degree.
The problem
Laurie has been using debt to maintain her current lifestyle. She has a sizable home equity line of credit of $346,000 where she’s only able to pay off the interest each month. All options are on the table. Is it time to sell the house? Her bank keeps recommending a reverse mortgage, is that a good idea? Or should she keep the house and rent out her unit? She notes that the stairs in her house have been giving her difficulty lately as she has weakening knees. Well into her golden years, Laurie worries about how she’ll maintain a retirement lifestyle for another 25 years, until age 90.
The particulars
Assets Home: $1 million RRSP: $ 28,000 Rent from tenant: $2,280 a month Liabilities Home equity line of credit: $346,000
The plan
Laurie’s instincts are correct: she needs to use her home to her advantage to pay down debt or cut spending in the short term by $13,000 a year, says Liisa Tatem, a CPA and money coach at Money Coaches Canada in Toronto.
Since Laurie is already thinking about options for her house, Tatem did calculations for three scenarios. The first would see Laurie renting out her main floor/basement unit to a tenant for $3,200 a month — with the upstairs rent of $2,280 that income would total $5,480 — and then finding another apartment to rent for herself. She can pay rent of up to $2,000 per month. “This is also a good option if she is attached to her house,” Tatem says.
But there are tax considerations with this scenario. Tatem notes that if Laurie makes her home a complete rental property, she’ll accrue capital gain taxes from the time the house is fully rented until its ultimate sale. Other possible issues for Laurie in this scenario include the rental income possibly reducing her GIS, having to manage more tenants and ongoing repairs, and not having the ability to pay down her line of credit right away.
But the big negative in this scenario is that Laurie would still need another $9,000 a year in today’s dollars to manage her lifestyle until age 90, Tatem notes.
The second option is to simply sell the current house and downsize to a smaller home for no more than $450,000. Tatem calculates that if Laurie sells her house for $1.15 million in 2021, after paying transaction costs, all her debts and buying another place, she would net $250,000 in proceeds that she could invest. The challenge in this scenario would be finding a smaller house in her same neighbourhood for the $500,000 price point.
Tatem also notes there would still be a potential capital gains tax on the sale of the current house due to partial rental.
The final — and best — option for Laurie is to sell her house, rent an apartment (up to $2,000 a month) and invest the proceeds. Tatem calculates that she would net around $700,000 to invest after selling the house and paying off debts. This option would give her an extra $7,500 a year to travel or enjoy other hobbies. Some older seniors may have to eventually move to an assisted living facility in the future and renting makes the transition much easier.
Tatem recommends that Laurie consult a tax accountant about all of these scenarios before she makes a decision about how to proceed. There are a lot of nuances around the principal residence designation, for example, Tatem says. “The principal residence designation shelters capital gains on the sale of your home but the ability to use the principal residence designation can be impacted by the partial or total rental of a principal residence,” she notes.
Tax planning opportunities are possible if Laurie sold the house. For example, Tatem notes that she has $40,000 in unused Registered Retirement Savings Plan contribution room. If she had a capital gain on the sale of her house, she could make an RRSP contribution to help offset the capital gain (up to the end of the year she turns 71).
As for how to invest any proceeds from a possible house sale, Tatem recommends Laurie interview a few advisers. “She needs to define her risk tolerances, goals and time horizon before investing,” Tatem says.
The level of investment advice available to her can range from none (self-directed investing) to fullservice investment advisers who manage your investments for you. “Laurie needs to identify the level of advice she is comfortable with and understand the fees related to each level of advice,” she says.
As a good start, Laurie should maximize her Tax Free Savings Account contributions each year to reduce taxes and maximize her net cash available. She has never contributed to a TFSA and has the full contribution room available in 2017 of $52,000, Tatem says.