For many U.S. adults, homeownership represents the pinnacle of the American dream. This sentiment is particularly strong among baby boomers (born between 1946 and 1964), with 88% affirming its importance, compared to 78% of the general adult population.1 However, the prospect of a home mortgage can be intimidating, especially as individuals approach or enter retirement. This likely explains why nearly 63% of homeowners aged 65 and older have successfully paid off their mortgages.2
But should you pay off your mortgage after you’ve already retired? The answer depends on various personal factors, including your cash flow, mortgage interest rates, and retirement assets. With the average U.S. homeowner paying around $1,400 per month on their mortgage, it’s natural to want to eliminate this expense.3 However, it’s crucial to balance immediate cash needs with long-term savings goals in retirement. Financial advisors might caution against becoming “house rich and cash poor.”
Here are some considerations if you’re retired and asking yourself, “Should I pay off my mortgage?”
Cash flow situation
If you haven’t already, establish a method to regularly monitor your cash flow, tracking income sources and fixed, variable, and infrequent expenses. This can be done using a spreadsheet, software, or an app. You might discover areas to cut back or find extra cash to put towards your mortgage, ultimately reducing a substantial part of your monthly expenses. Be sure to check if your mortgage terms include prepayment penalties. Additionally, ensure you’ve saved enough for long-term retirement and paid off other debts, such as credit cards. Consider increasing your emergency savings to cover six or more months of living expenses or setting aside additional funds for large future expenses. Paying off your house without having enough cash in retirement isn’t ideal. If you need to access money by getting a home equity line of credit (HELOC), it can take weeks or months and involves costs.
Return on investment
Is your mortgage rate higher than the interest rate on your investment assets? If so, you might consider using your extra cash to pay off your mortgage. Conversely, if your mortgage rate is lower than the current interest rate on investment assets, you might want to invest more in low-risk options with similar terms. For example, a highly rated 10-year municipal bond could yield over 2.5%.4 However, like all investments, this comes with risks. It’s worthwhile to consult with a financial advisor to develop a sound investment strategy if this is the desired action for you. Another factor to consider is whether you owe a higher mortgage than the value of your home. If you do, you’re among the 23% of American homeowners in this situation.5 In which case, it may be prudent to continue paying your regular mortgage amount.
Risk tolerance
Putting all your money into a single investment, rather than diversifying, can be risky. Like the stock market, the housing market offers no guaranteed returns. Historically, the stock market has outperformed real estate, with average real estate returns generally between 4% to 8%, while the S&P 500 stock index has an annualized return of around 10%.6 Diversification is crucial for managing risk, so evaluate all investment options to determine if prioritizing your house is the best strategy. If your risk tolerance is high for paying off your mortgage because you don’t have other debt, your retirement plan is appropriately funded, and you have adequate emergency savings, it could be the right choice.
Retirement savings
Withdrawing money from your retirement savings plan to pay off your mortgage is generally not a sound financial decision. Doing so reduces the opportunity to earn compounded return potential on your investments. For example, a 30-year 401(k) account with $100,000 could lose over 16% if withdrawn 20 years into the term, or 26% if withdrawn 10 years into the term.7 Additionally, there may be tax penalties, and the returns might be lower than expected. However, if you’re confident you can pay off your mortgage with extra cash on-hand and won’t significantly impact your long-term retirement income, making extra payments each month could save you money in interest.
Tax implications
Before the Tax Cuts and Jobs Act (TCJA) of 2017, many homeowners deducted their mortgage interest on tax returns through itemization. However, the TCJA doubled the standard deduction, reducing the value of itemizing for many taxpayers. For 2024, the standard deduction is $14,600 for single filers and $29,200 for married couples filing jointly. Therefore, carrying a mortgage may not offer the same tax advantage as before, at least until 2026 when the TCJA provision is set to expire. For 2024, you can deduct mortgage interest on the first $750,000 of your mortgage debt, or $375,000 if married filing separately.8 If you bought your house before Dec. 16, 2017, you could generally deduct interest on the first $1 million of the mortgage ($500,000 if married filing separately), provided you signed a contract before that date and closed before April 1, 2018. After 2025, revisit this area to see if the mortgage interest deduction becomes advantageous again. Also, keep an eye on the state and local tax (SALT) deduction provision of the TCJA, which could potentially reduce taxable income if you live in a state with higher taxes.
Personal satisfaction
As mentioned at the beginning of this article, home ownership brings a sense of pride, especially for those of retirement age. However, 59% of Americans worry about having enough money for retirement, and 55% are concerned about maintaining their current standard of living.9 Downsizing or relocating might address both concerns, helping to reduce worry and increasing ownership fulfillment. Are you in a position to enjoy long-term financial security while also feeling the comfort and stability of owning your home outright? If so, answering the question, “Should you pay off your mortgage?” becomes easier. Nevertheless, this is a very personal decision for you and your family, and consulting a financial advisor could be beneficial.
Conclusion
Retirees spend an average of seven hours a day enjoying leisure time,10 much of it at home. Your house should be a place of safety, both emotionally and financially. There are ways to help avoid being house rich and cash poor, and effective strategies to help achieve both the ultimate American dream and financial security.
If you’re a retiree and not sure if paying off a mortgage early is right for you, we can help. At Mercer Advisors, we connect the dots of your financial life by unifying financial planning, investment management, tax, estate, insurance, and more. Through understanding the complete picture of your and your family’s financial needs and goals, we can advise on strategies such as whether to pay off your mortgage in retirement. If you’re interested in learning more, let’s talk.
- “Bankrate’s 2024 Home Affordability Report,” Bankrate, May 22, 2024.
- “This Is the Average Age Most Americans Become Mortgage-Free,” GoBankingRates, Feb. 7, 2024.
- “Report on the Economic Well-Being of U.S. Households in 2022,” The Federal Reserve, May 2023.
- “Tradeweb AAA Municipal Yield Curve,” Tradeweb, Oct. 16, 2024.
- “How Many Homeowners Have Paid Off Their Mortgage?”, Jan. 3, 2024.
- “Has Real Estate or the Stock Market Performed Better Historically?”, Investopedia, June 22, 2024.
- “How to Handle a 401(k) Hardship Withdrawal,” Morningstar, Aug. 30, 2024.
- “Mortgage Interest Tax Deduction: Definition, What Qualifies,” NerdWallet, April 17, 2024.
- “Americans Continue to Name Inflation as Top Financial Problem,” May 2, 2024.
- “12 Ways Retirees Spend Their Newfound Free Time,” U.S. News & World Report, Sept. 6, 2024.
