2023 EP0325 | Financial Updates | Should You Pay off Your #mortgage Before You Retire?

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Peter, good to see you. This question comes up a lot. Should I pay off my mortgage before I retire? I think a lot of people want to go into retirement debt-free, but of course it's not just a financial, but also an emotional decision. So before you go and pay off the debt, there are a few things to consider. And first and foremost is simply, what is your mortgage rate? Right.

Yeah. And you specified there before retirement, which does put some wrinkle on this question because retirement's really about cash flow, right? Is, can I create a sustainable, livable cash flow for myself? And knocking out a mortgage payment certainly is beneficial there because there's two sides. There's the income and the expenses. If we can eliminate what is, for most people, one of our larger expenses, then that cash flow definitely is benefited. However, you are also correct in stating that this is financial and psychological, right?

There's the mental, emotional side, and then there's the money side. Nothing is better than being debt-free, and I will say that. However, banks generally have some of the biggest buildings in the skyline of any city that you drive into, and they don't create any widgets.

They don't sell any products. They provide the service of storage, and they take advantage of a concept called arbitrage. If I walk in there with $10,000, I want to keep safe and liquid, and I give it to the bank, they say, fantastic.

Thank you, Mr. Rashawn. We'll pay you one and a half percent. And if the next person walks in and says, I need to borrow $100,000 to buy a house to get a mortgage, they say, fantastic. We've got it right here, and they charge them six and a half percent, right?

They just made a five percent spread on my money. That's arbitrage. And we're in a pretty unique set of circumstances where we can actually reverse that arbitrage in our own personal financial situation, and if the numbers and the math work out right, we might be able to create positive cash flow from borrowed money. So, again, kind of just looking at it from both sides, and it is a very individual kind of feeling on does paying off the mortgage make you feel better about your money in your financial situation? Does it make your cash flow that much better? Or does it make sense, even if you've got the ability to pay it off, does it make sense that we could actually make more money from those dollars elsewhere?

Right. And now just to pull up current mortgage rates today, Peter, this is a look at the 30-year fixed, 6.73 right now. And I mean, I think a lot of us either bought or refinanced when we were in the twos or threes. But as we look at those numbers, I want to ask about the next question, which is specific to your tax consequences if you pay off your mortgage or the question of using money from your retirement accounts to pay down your mortgage. Yeah, well, I probably wouldn't use money from retirement accounts to do it in a large amount. And, you know, if you're pulling from retirement accounts to make the base payments to create cash flow, that's one thing for your regular monthly mortgage payments. But if you've got a balance, I wouldn't take a huge balance out all at once because we've got a progressive tax system and taking out a large chunk of yet to be taxed dollars could push you into higher and higher brackets, whereas just paying the minimum monthly payment might not. Again, crunch the numbers on that. But in general, that's what I have seen, is that those who have taken larger chunks of retirement dollars out end up paying more in tax on them than they otherwise would.

So, you know, should should you pay off that mortgage if you've got savings? Maybe, maybe not. Six point seven three seems high with recency biased in mind, meaning, you know, for the past 10 years, we haven't seen rates like that. But if you look back historically, that's kind of an average rate.

Now, if I locked in as I did, as it sounds like you did, and many, many viewers and listeners probably did, Aaron, when rates were, you know, in the threes or maybe even lower. And now we can turn around the same bank that loaned us that money, give it back to them, and they're paying us more on that. Then then maybe we don't pay that off. Now, as far as the tax implications of doing so with regular money. Well, most people don't even take the mortgage interest tax deduction any longer. And even when they did, it really didn't make a whole lot of sense to me because the amount of interest that you paid on the loan was was proportional to the tax rate of what you would save in taxes. So if I paid ten thousand dollars in interest to the bank on the loan and I'm in a 22 percent tax bracket, that that would mean that I would only get to write off two thousand two hundred dollars, the proportional to my bracket. Right. If I hate paying taxes so much that I'd rather pay the bank four times the amount in interest than pay the IRS anything.

That's kind of one thing. But the truth of the matter is that most people don't itemize any longer. And so they don't get the benefit of that mortgage interest tax deduction anyway. They just take the standard deduction and that mortgage interest isn't really a deduction regardless any longer. So that that we'll we'll see if in twenty twenty six that standard deduction changes and goes back down.

And we could have to have a very different conversation about it at that point in time. But for right now, that's not really a key indicator deciding factor of what someone should or shouldn't do from from a tax benefit standpoint. OK, next consideration, of course, is prioritizing your debt as interest rates climb. That will make paying down certain debt more expensive.

So how do we prioritize where we're putting that money? Yeah, well, I'm not a big fan of consumer debt. I'm not a big fan of vehicle debt. I don't think going into debt on an asset that depreciates is a great idea. I don't think that putting day to day kind of expenses on debt that carries over at significantly high interest rates. I mean, I'm seeing credit card rates in the twenty two to twenty six percent range. That is a lot of money to simply service your your purchases.

Right. And so we want to pay off those debts. But I do put paying off the mortgage generally behind several other priorities in the line and the order of operation.

Number one being saving 15 percent of your income toward traditional retirement investments. I would even put it behind if you've got kids or grandkids helping them with college and educational expenses. But if if you're satisfying those two things, if you've paid off all the consumer debt, everything except the mortgage, if you're saving 15 percent, if you're funding those educational expenses at that point in time, you've got a lot of leeway of financial freedom. So if you want to pay off your mortgage early, by all means, go ahead and do it. But again, I think under our current scenario and interest rate environment, the changes that we've seen over the last couple of years and what's now available, it really does make sense to sit down and crunch the numbers.

I'm running through this with several of my clients right now. They've got the assets available to pay off the mortgage, but we could also turn around and earn more on a guaranteed fixed basis on those assets over the next five years than what the mortgage payment is costing them. And then, you know, in five years, we've created a bit of additional wealth for their nest egg to help them fund retirement. Right. Right.

Last consideration, of course, if you've paid down the high interest debt, then do you focus on the mortgage payment or should we be putting the savings somewhere else? You mentioned the retirement accounts. What else? Yeah, well, I mean, there there are a number of options there.

Right. Retirement accounts is a great place to go. It depends on your timeline, though. But, you know, I would make sure that you have done done the job that needs to be done in funding retirement accounts. Sit down, really crunch the numbers on that.

Most people have not. You know, that's why do I have enough and will I run out of money in retirement is such a common question. But if we can confidently answer that question again, it gives you a lot of of leeway and freedom with what to do next. And paying off a home or a vacation home certainly is going to help to improve the the cash flow in retirement, which is really what it's all about. But it depends on the rates that you have on that long term debt. You've locked the bank into accepting the same payment, you know, 15, 20, 30 years from now that they're accepting today.

Right. Your dollars are worth more today than they're going to be worth down the road that far. And there's no inflation adjustment on those payments. So you really got to look at the time value of money because the bank's on the hook to continue accepting the same amount.

And your dollars are worth more now and can probably grow more now than what the loan on the mortgage is costing you. So you've got to weigh the financial side, the math side with the mental and emotional side of it and just decide what's best for you. We walk through that all the time with clients. Perfect. Well, if somebody would like to walk through it with you, what's the best way to get a hold of you?

Yeah. Give us a call at Roshan Planning 919-300-5886. You can visit online Roshan planning dot com.

You can email me Peter at Roshan planning dot com. And I always appreciate you giving me the opportunity to throw that out there. I always enjoy it. Peter, thank you. This has been Planning Matters Radio. We'll be right back.