Should you pay off your mort­gage be­fore re­tir­ing?

The Denver Post - - BUSINESS - Char­lie Far­rell is chief ex­ec­u­tive of North­star In­vest­ment Ad­vi­sors LLC and guides the firm’s in­vest­ment phi­los­o­phy. He is the au­thor of “Your Money Ra­tios: 8 Sim­ple Tools for Fi­nan­cial Se­cu­rity.” This ar­ti­cle is for in­for­ma­tion and ed­u­ca­tion pur­poses onl

Many peo­ple who are pre­par­ing for re­tire­ment ask us if they should pay off their mort­gage. In an ideal world, you should pay off your mort­gage. But for many peo­ple, their fi­nances aren’t ideal. If that’s your sit­u­a­tion, then there are times when it may not make sense to pay off the mort­gage. I’m go­ing to quickly take you through both sides of this strat­egy.

If you’re a good plan­ner, saver and have been for­tu­nate to live squarely within your means dur­ing your work­ing career, then you’re prob­a­bly on track to pay off your mort­gage prior to re­tire­ment. If you’re debt free, it gives you sub­stan­tially more flex­i­bil­ity to weather dif­fi­cult fi­nan­cial mar­kets once you start liv­ing off the re­turns from your re­tire­ment port­fo­lio.

With no mort­gage, you don’t need to with­draw as much to main­tain your lifestyle. Our re­search on port­fo­lio dis­tri­bu­tion rates in­di­cates that in many sit­u­a­tions re­duc­ing your an­nual with­drawals by just 1 per­cent of your port­fo­lio value, for in­stance go­ing from a 5 per­cent to a 4 per­cent dis­tri­bu­tion, can in­crease the odds by 20 per­cent of mak­ing your money last 30 years.

Here’s a sim­ple ex­am­ple. Let’s as­sume your mort­gage pay­ment is $2,000 per month, or $24,000 per year. If you’ve got $1 mil­lion of re­tire­ment sav­ings, you’ll need dis­tri­bu­tions of 2.4 per­cent just to pay the mort­gage. That puts a lot of ad­di­tional pres­sure on the port­fo­lio. If you don’t have a mort­gage, you don’t need to take these dis­tri­bu­tions and your odds of mak­ing your money last rise sub­stan­tially.

But what if you still have a mort­gage? Should you rush to pay it off? Prob­a­bly not if your re­main­ing mort­gage bal­ance is more than 5 per­cent of your re­tire­ment sav­ings. If you pull a big chunk of dough out of your re­tire­ment plan to pay off the mort­gage, you may do more harm than good. That’s be­cause you’ll be sig­nif­i­cantly re­duc­ing the size of your re­tire­ment port­fo­lio at the start of your re­tire­ment cy­cle, which is the worst time to suf­fer a de­cline. If that big with­drawal hap­pens to co­in­cide with the start of a bear mar­ket, your first 10 years of re­tire­ment will be pretty tough.

If you carry a mort­gage, the real is­sue in re­tire­ment be­comes not how much debt you carry, but how low you can get your monthly pay­ment. Here’s an ex­am­ple, and to high­light the point I’ve sim­pli­fied the math by as­sum­ing you don’t pay any in­ter­est on your loan. Let’s say you have a $300,000 mort­gage at age 65 and you want to pay it off in 15 years. Even with no in­ter­est charges, that will cost $1,660 per month or about $20,000 a year for the next 15 years. But what if your bank gave you a 100-year mort­gage with no in­ter­est? Then the pay­ment is only $250 a month or $3,000 a year — no big deal prob­a­bly.

The point is that if you carry a mort­gage into re­tire­ment, you should con­sider stretch­ing it out as long as pos­si­ble and get­ting the monthly pay­ment as low as pos­si­ble. This ba­si­cally gives you op­tions. If the mar­kets are bad your first 10 years of re­tire­ment (which is the most crit­i­cal time), then you aren’t putting as much pres­sure on your dis­tri­bu­tions.

Con­versely, if the mar­kets are good your first 10 years, then you can take out some ad­di­tional dis­tri­bu­tions and ei­ther pay down or pay off the mort­gage. The point is to get time on your side to re­act to what­ever the mar­ket presents. If in­ter­est rates are fa­vor­able, as they are to­day, and you’re go­ing to re­tire with a mort­gage, it may make sense to re­fi­nance to the long­est term with the low­est monthly pay­ment.

If you think you may want to re­fi­nance, it’s a good idea to do it while still work­ing be­cause it’s gen­er­ally eas­ier to qual­ify for a mort­gage if you have a steady in­come. Al­though it sounds odd to con­sider a 30- or even 40-year mort­gage when you’re 65, it just may make the dif­fer­ence be­tween a more se­cure or more stress­ful re­tire­ment.

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