Should Retirees Pay Off Their Mortgage?

Paying off the mortgage after 30 years followed by retirement used to be a rite of passage for many. But paying off the mortgage isn’t always the best strategy. Whether or not it makes financial sense depends on specific circumstances and a variety of factors that need to be considered. Income, mortgage size, savings and the tax advantage of being able to deduct mortgage interest all come into play. The impact of the new tax law also must be examined in this regard.

Sometimes, it is better to keep that money available for other purposes, such as building retirement savings or paying down higher-interest debt. In other cases, paying off a mortgage makes sense, especially when you have ample retirement savings and plan to stay in the home for a while.

Baby boomers are swelling the ranks of retirees and more retired homeowners are carrying mortgage debt than in past years as they are less debt averse than their parents and have a mortgage with a low interest rate.

For retirees or those just about to retire with a low interest rate mortgage (below 5%) who are in a high-income bracket, it may make sense to keep making monthly payments. This is particularly true if paying off a mortgage would mean not having a healthy savings cushion to pay for unexpected costs or emergencies such as medical expenses.

Generally speaking, it is not a good idea to withdraw money from a retirement plan such as an individual retirement account or 401(k) to pay off a mortgage. Those who do will be subject to taxes and tax penalties if they withdraw before age 59 ½. In addition, taking a large distribution from a retirement plan could potentially push them into a higher tax bracket in the year it is withdrawn.

The new tax law (the Tax Cuts and Job Act of 2017) has added a bit more complexity to this issue. The near-doubling of the “standard deduction” to $12,000 for most single filers and $24,000 for most married couples will result in many filers no longer benefiting from breaking out mortgage interest and other deductions on Schedule A. For example, in 2017 a couple needed write-offs greater than $12,700 to benefit from listing deductions on Schedule A. With the new $10,000 limit on state and local tax deductions (SALT), a married couple will need more than $14,000 in other write-offs of mortgage interest, charity donations, etc. to benefit from using Schedule A. As many couples will not make it over this new hurdle on mortgage interest and SALT alone, a strategy to consider is bunching tax deductions (charitable gifts, medical expenses, property taxes) every other year to meet the threshold for itemizing.

You should also keep in mind how much does that mortgage interest really cost you. A mortgage is often one of the cheapest types of long-term debt you can have. If you are able to deduct the mortgage interest, it gets even cheaper after considering the after-tax cost. If you have a 4% mortgage rate, are in the 25% tax bracket, and have enough deductions to itemize the interest, that mortgage will only cost you 3% per year to keep. Do you think you can earn more than 3% per year from your investments? If you said yes, you would do better investing the money rather than paying down the mortgage.

If you are saving enough for all of your other financial goals, then you should look at paying down your mortgage. That means you have an emergency fund and are putting away enough to retire comfortably. If you are planning on helping your kids with college you should be saving money for that as well. Once all of that is taken care of, consider paying down your mortgage faster. This is especially true for those just taking the standard deduction.

This is obviously a very individualized issue to consider. We are happy to help you consider your options in order to help you make the decision that is right for you.


Presented by Mary Moore, CFP®