The Decision to Pay Off Your Mortgage in Retirement

For many homeowners, paying off a mortgage is a financial milestone. This is especially true when you are retired. Not having the burden of a monthly mortgage payment during retirement can free up money to help you live the retirement lifestyle you’ve always wanted.

To pay off, or not to pay off: that is the question
NRT-payoffmortgageQ413_02Some retirees are lucky enough to have paid off their mortgage before they reach retirement. For others, however, that monthly obligation continues. If you are retired, you may be wondering whether you should pay off your mortgage. Unfortunately, there’s no one answer that’s right for everyone. Instead, the answer will depend upon a variety of factors and how they relate to your individual situation.

Return on retirement investments vs. mortgage interest rate
One way many retirees pay off their mortgage is by using funds from their retirement investments. To determine whether this is a good option for you, you’ll need to consider the current and anticipated rate of return on your retirement investments versus your current mortgage interest rate. In other words, do you expect to earn a higher after-tax rate of return on your current retirement investments than the after-tax interest rate you currently pay on your mortgage (i.e., the interest rate that you’re paying, factoring in any mortgage interest deduction you’re entitled to)?

For example, assume you pay an after-tax mortgage interest rate of 4%. You are considering withdrawing funds from your retirement investments to pay off your mortgage balance. In general, you would need to earn an after-tax return of greater than 4% on your retirement investments to make keeping your money invested for retirement the smarter choice.

On the other hand, if your retirement funds are primarily held in investments that typically offer a lower rate of return than the interest rate you pay on your mortgage, you may be better off withdrawing your retirement funds to pay off your mortgage.

Additional considerations
As you weigh your options, you’ll also want to consider these additional points:

— Effect on retirement nest egg: If you rely on your retirement savings for most of your income during retirement, you should generally avoid paying off your mortgage if it will end up depleting a significant portion of your retirement savings. Ideally, you should pay off your mortgage only if you have a small mortgage balance in comparison to your overall retirement nest egg.

file00032137357— Tax consequences: Keep in mind that if you are going to withdraw funds from a retirement account to pay off your mortgage, there are some potential tax consequences you should be aware of. First, if you withdraw pretax funds from a retirement account, the amount you withdraw is generally taxable. As a result, you’ll want to be sure to account for the taxes you’ll have to pay on the amount you withdraw from pretax funds. Depending on your tax bracket, that could be a significant amount.

In addition, if you take a large enough distribution from your retirement account, you could end up pushing yourself into a higher income tax bracket. Finally, unless you are 59½ or older, you may pay a penalty for early withdrawal.

— Comfort with mortgage debt: For many retirees, a monthly mortgage obligation can be a heavy burden. If no longer having a mortgage would give you greater peace of mind, give the emotional benefits of paying off your mortgage some extra consideration.

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. The tax information provided is not intended to be a substitute for specific individualized tax planning advice. We suggest that you consult with a qualified tax advisor.

Prepared by Broadridge Investor Communication Solutions, Inc. Copyright 2014

I recently incurred a significant amount of credit card debt. How should I begin to pay it off?

creditcardsThe best way to pay off credit card debt is with a single lump-sum payment, which would allow you to get back on solid financial ground quickly, without having to pay additional interest. Sources of funds that can be used for a lump-sum payoff include any substantial windfall, such as an inheritance or employment bonus. However, most individuals find themselves getting into credit card debt due to a lack of funds in the first place, so this may not be an option for everyone.

If you have multiple credit cards that carry outstanding balances, the next best strategy is to prioritize your repayment and systematically pay off your credit card debt. Start by making a list of your credit cards, and prioritizing them according to their interest rates. Send the largest payment possible to the card with the highest interest rate. Be sure to continue making payments on your other cards until the card with the highest interest rate is paid off. You can then focus your repayment efforts on the card with the next highest interest rate, and so on, until they’re all paid off.

Another option is to transfer your balances to a card that carries a lower interest rate. Balance transfers can allow you to reduce interest fees and pay more against your existing balance. One of the dangers with this method lies in the fact that an excessive amount of balance transfers can end up having a negative impact on your credit score.

Mortgage CalculatorIf you own a home and have enough equity, you may be able to use a home equity loan to pay off your credit card debt. The interest on home equity loans is typically lower than credit card interest rates and is usually tax deductible. While home equity loans can be an effective way to pay off debt, you’ll need to be careful not to incur additional debt, particularly if you end up having an available line of credit.

Finally, whenever you’re attempting to tackle a significant amount of credit card debt, always be sure to pay more than the required minimum payments. Otherwise, you’ll continue to carry the bulk of your balance forward for many years without actually reducing your overall balance. You can refer to your monthly statement for more detailed information on the impact minimum payments will have on your credit card balance.

Prepared by Broadridge Investor Communication Solutions, Inc. Copyright 2013

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and cannot be invested into directly. The tax information provided is not intended to be a substitute for specific individualized tax planning advice. We suggest that you consult with a qualified tax advisor.

Should You Pay Off Your Mortgage?

Owning a home outright is a dream that many Americans share. Having a mortgage can be a huge burden, and paying it off may be the first item on your financial to-do list. But competing with the desire to own your home free and clear is your need to invest for retirement, your child’s college education, or some other goal. Putting extra cash toward one of these goals may mean sacrificing another. So how do you choose?

Evaluating the Opportunity Cost
Deciding between prepaying your mortgage and investing your extra cash isn’t easy, because each option has advantages and disadvantages. But you can start by weighing what you’ll gain financially by choosing one option against what you’ll give up. In economic terms, this is known as evaluating the opportunity cost.

Here’s an example. Let’s assume that you have a $300,000 balance and 20 years remaining on your 30-year mortgage, and you’re paying 6.25% interest. If you were to put an extra $400 toward your mortgage each month, you would save approximately $62,000 in interest, and pay off your loan almost 6 years early.

By making extra payments and saving all of that interest, you’ll clearly be gaining a lot of financial ground. But before you opt to prepay your mortgage, you still have to consider what you might be giving up by doing so–the opportunity to potentially profit even more from investing.

To determine if you would come out ahead if you invested your extra cash, start by looking at the after-tax rate of return you can expect from prepaying your mortgage. This is generally less than the interest rate you’re paying on your mortgage, once you take into account any tax deduction you receive for mortgage interest. Once you’ve calculated that figure, compare it to the after-tax return you could receive by investing your extra cash.

For example, the after-tax cost of a 6.25% mortgage would be approximately 4.5% if you were in the 28% tax bracket and were able to deduct mortgage interest on your federal income tax return (the after-tax cost might be even lower if you were also able to deduct mortgage interest on your state income tax return). Could you receive a higher after-tax rate of return if you invested your money instead of prepaying your mortgage? Keep in mind that the rate of return you’ll receive is directly related to the investments you choose. Investments with the potential for higher returns may expose you to more risk, so take this into account when making your decision.

Other Points to Consider
While evaluating the opportunity cost is important, you’ll also need to weigh many other factors. The following list of questions may help you decide which option is best for you.

• What’s your mortgage interest rate? The lower the rate on your mortgage, the greater the potential to receive a better return through investing.

• Does your mortgage have a prepayment penalty? Most mortgages don’t, but check before making extra payments.

• How long do you plan to stay in your home? The main benefit of prepaying your mortgage is the amount of interest you save over the long term; if you plan to move soon, there’s less value in putting more money toward your mortgage.

• Will you have the discipline to invest your extra cash rather than spend it? If not, you might be better off making extra mortgage payments.

• Do you have an emergency account to cover unexpected expenses? It doesn’t make sense to make extra mortgage payments now if you’ll be forced to borrow money at a higher interest rate later. And keep in mind that if your financial circumstances change–if you lose your job or suffer a disability, for example–you may have more trouble borrowing against your home equity.

• How comfortable are you with debt? If you worry endlessly about it, give the emotional benefits of paying off your mortgage extra consideration.

• Are you saddled with high balances on credit cards or personal loans? If so, it’s often better to pay off those debts first. The interest rate on consumer debt isn’t tax deductible, and is often far higher than either your mortgage interest rate or the rate of return you’re likely to receive on your investments.

• Are you currently paying mortgage insurance? If you are, putting extra toward your mortgage until you’ve gained at least 20% equity in your home may make sense.

• How will prepaying your mortgage affect your overall tax situation? For example, prepaying your mortgage (thus reducing your mortgage interest) could affect your ability to itemize deductions (this is especially true in the early years of your mortgage, when you’re likely to be paying more in interest).

• Have you saved enough for retirement? If you haven’t, consider contributing the maximum allowable each year to tax-advantaged retirement accounts before prepaying your mortgage. This is especially important if you are receiving a generous employer match. For example, if you save 6% of your income, an employer match of 50% of what you contribute (i.e., 3% of your income) could potentially add thousands of extra dollars to your retirement account each year. Prepaying your mortgage may not be the savviest financial move if it means forgoing that match or shortchanging your retirement fund.

• How much time do you have before you reach retirement or until your children go off to college? The longer your timeframe, the more time you have to potentially grow your money by investing. Alternatively, if paying off your mortgage before reaching a financial goal will make you feel much more secure, factor that into your decision.

The Middle Ground
If you need to invest for an important goal, but you also want the satisfaction of paying down your mortgage, there’s no reason you can’t do both. It’s as simple as allocating part of your available cash toward one goal, and putting the rest toward the other. Even small adjustments can make a difference.

For example, you could potentially shave years off your mortgage by consistently making biweekly, instead of monthly, mortgage payments, or by putting any year-end bonuses or tax refunds toward your mortgage principal. And remember, no matter what you decide now, you can always reprioritize your goals later to keep up with changes to your circumstances, market conditions, and interest rates.

Prepared by Broadridge Investor Communication Solutions, Inc. Copyright 2013

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. All performance referenced is historical and is no guarantee of future results. All indices are unmanaged and cannot be invested into directly. The tax information provided is not intended to be a substitute for specific individualized tax planning advice. We suggest that you consult with a qualified tax advisor.