Gimme Shelter (In Retirement)
I know what you’re thinking. That this is a blog about whether you should strive to pay off your mortgage before retirement. Really, it’s not about that. Or at least not entirely.
When you (or I) are trying to calculate how much to save for retirement, the obvious starting point is a guesstimate of how much you might spend in retirement. And as your biggest recurring expense right now is likely housing, that seems like a logical place to start the analysis.
Will your present housing costs follow you into retirement?
If not, does that change the calculus of how much you need to save?
Is there anything that you should do now, while you have employment income, to address your retirement housing costs?
Let’s take these questions one by one.
You are a committed renter. Firstly, I have no problem with that; I do not subscribe to the American cult of homeownership as some sort of moral and financial imperative. Owning a home works out wonderfully for some, sucks for others, and is a coin toss for many. But as you approach retirement, I do want you to at least examine whether buying, which may not have been a good choice for you before, may now be worth considering. Hear me out…
The biggest financial disadvantage of renting is that it can be hard to control your rent payment from year to year. Yes, owning a home does not mean that your housing costs remain constant; I get that. But there is a greater level of predictability and control that comes with a mortgage that is absent in a lease agreement. Yes, property insurance and taxes do go up, as do HOA/condo fees. But the bigger part of your monthly payment is fixed, and the remainder does not usually rise dramatically within a single year. (Sorry, Florida.) And while you have the unpredictability of maintenance costs, you don’t (usually) have the unpredictability of having to move at a time not of your choosing.
What’s the biggest difference between being retired and working? The steady paycheck obviously. More specifically, when you are working and your expenses rise, there is at least the possibility that your income may increase as well. You may get a raise. You may change employers. You may take on a second job. When you are retired…well, there is a reason it is called “living on a fixed income.” With the obvious caveats that home ownership needs to make sense for you emotionally as well as financially, I do encourage pre-retirees to at least consider if now is the time to buy in order to bring greater stability to their retirement financial plan. And why now? Because it is a lot easier to qualify for a mortgage when you have an established salary to point your lender to.
You own your “forever home.” As a dedicated viewer of home renovation/real estate television, I absolutely hate that term. This is Baby Boomer-age me talking: It is ridiculous to state unequivocally at the age of 40 where you will live until you die. But I digress…
You own your home and you are close enough to retirement to know that this is where you will remain for the foreseeable future. (Not necessarily forever; retirement lasts a long time.) I know you are chomping at the bit for me to ask the question, and so I shall: Should you pay off your mortgage?
Of course, the answer is “it depends.” For many, it’s a silly question. They do not have nearly enough cash flow to retire the mortgage early without doing serious damage to their liquid savings. That’s my starting point. Yes, not having a monthly mortgage payment will free up cash flow from your aforementioned fixed income. But at what cost? What happens if you need uninsured medical care? Or the pipes (that you own) burst? But yes, if you have extra cash available in your budget, I don’t dislike the idea of seeking to pay off the mortgage before retirement with what I hope are obvious caveats:
You are not redirecting money to an extra mortgage payment that would otherwise pay down high interest debt or complete an emergency fund.
You are not losing sight of the fact that a home is an illiquid, concentrated investment. Are you doubling down on your real estate investment without considering if you would be better off in a more flexible, diversified long term investment?
You are not under-saving in your retirement accounts because of the promise of a mortgage-free retirement. (I have more to say about this below.)
You will note that I did not mention interest rates. You know the argument: “If your mortgage rate is only 3%, you should keep it because you can earn double that in the stock market.” Well, first off, this argument is a relic of COVID-era mortgage rates. The interest rate versus stock market return argument looks a lot different if you are carrying a 6.50% mortgage.
But putting that aside, it really may be the wrong argument altogether. The more proper comparator to your guaranteed mortgage interest rate is a guaranteed savings rate, such as a treasury bond. Yes of course you can potentially earn more than your mortgage rate if you invest in a risky asset, such as equities. But the return is not a given (that’s why they call it a “risky” asset); the comparison between the fixed rate of return earned by paying down your mortgage loan and the S&P 500 is a false one. And as many retirees will tell you, the real goal in paying off the mortgage isn’t the investment arbitrage at all, but the appeal of lower fixed costs in retirement. Which brings me to my next point…
You have a big mortgage payment. Or you have a small mortgage payment. Usually when I project living costs in retirement, I use a client’s present spending as the baseline, only removing a few very specific line items such as school tuition or child daycare. I don’t usually reduce their expected spending by the amount of the mortgage payment, even if it seems likely that the mortgage will be paid off by retirement. The reason is that a modest monthly principal and interest payment can easily be subsumed in retirement by higher medical bills or, more hopefully, travel costs. I am not willing to write a “Save Less for Retirement” hall pass because your expenses will possibly drop $1600 a month in retirement (the COVID-era mortgage average). And don’t forget, that’s stated in today’s dollars; that cash flow savings will be worth less 15 years from now. So, to return to the earlier question, for the purpose of calculating how much to save for retirement, I am not always interested in whether you have paid off your mortgage or not.
On the other hand, if your mortgage payment is quite outsized and you are either on track to pay it off in retirement, or very willing to downsize, then yes, I will consider this in the calculation of how much you need to save for retirement.
You own your intended retirement home, and it needs some TLC. Show it the love now, while you are still working. Nothing about home maintenance is going to be easier or cheaper in the future. AI is not going to patch your roof, okay? The last years of your working career is the time to work through your punch list. This is when you have the cash flow to pay for it or, for the very big projects, the ability to get a home equity line of credit. Consider this as money spent today to buy insurance against at least some of the unexpected maintenance costs of home ownership in the future. (Side note: This is not a license to drain your retirement account for a full-on renovation.)
Planning for housing costs in retirement is not so much about owning versus renting, paying off a mortgage or carrying it into retirement, or moving or staying put. It’s about putting yourself in a situation whereby your housing costs, however they are constituted, are both affordable and, to the greatest extent possible, predictable.
For renters, that may mean buying instead of renting. Or it may mean renting in a city or state that has some level of renter protection, or seeking a rental property with stable ownership and management.
For owners, it means examining the cost of your home holistically, not focusing exclusively on the principal and interest payment. Even if the mortgage goes away, how much will that really impact your cash flow?
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