Viewing Your Home as Part of Your Retirement Portfolio
Courtesy LPL Financial, Akron LIVING WELL Magazine
Reverse Mortgage: Do Your Homework before Committing
Tapping home equity doesn’t necessarily require relocating. A reverse mortgage may be a solution if you have significant home equity and a desire to stay in your existing home. With a reverse mortgage, you receive a source of income by borrowing against your home’s equity. Payouts are tax free and may be taken as a lump sum, a line of credit, or an annuity-like payment schedule.
To qualify, you must be at least 62 years of age, you must own your home outright, or be able to retire an existing mortgage with the proceeds from the reverse mortgage. As long as the reverse mortgage is in effect, you are responsible for maintaining your home, and for paying taxes and insurance. The loan plus accrued interest is due when you die or sell the house.
However, when evaluating whether a reverse mortgage is right for you, be aware of a number of caveats. First, be sure to consider the fees, which may be substantial. Also keep in mind that the amount you owe tends to grow over time, as interest accrues on amounts that are gradually paid out. Should you live in a home with a reverse mortgage for a considerable period of time, your heirs may be left with little or no home equity at the time of your death.
Beware the Sales Pitch
Lastly, be sure to beware of the sales pitch. There are a number of firms who are publicizing the advantages of reverse mortgages with TV commercials and advertisements targeted to seniors.
Reverse mortgages are not for everyone, and they are not as simple as those pitches make them sound. They are highly technical transactions and require a high level of understanding and sophistication. You must conduct appropriate due diligence prior to trusting anyone with this transaction.
Should I Borrow from My Retirement Account to Pay off My Mortgage?
Is there anything your 401(k) plan can’t do? You may be able to borrow money from your account to pay off the mortgage on your home.
Weigh the Pros…
For some, the primary attraction of a 401(k) loan is the simplicity and privacy not generally associated with a bank or finance company. And unlike banks and other sources of loans, there is no need to fear being turned down for the money when borrowing from a 401(k) plan. Another benefit may be competitive interest rates, which are generally tied to the prime rate. Keep in mind; however, that unlike the interest associated with some other types of loans, such as your home mortgage, this interest is not tax deductible.
… And the Cons
While these advantages may make a retirement plan loan appealing, there are several other points you should consider. First, if you are separated from the company through which you took the loan before you fully repay the money, you may be required to pay the balance within 30 days or pay federal income taxes on it. You could also be charged a 10% early withdrawal penalty by the IRS.
Second, be aware of the potential “opportunity cost” of borrowing from a 401(k) plan – the cost of any potential return you’ll miss out on if the interest rate on the loan is lower than the account’s rate of return. For instance, if you borrow money from an account earning 10% and you pay 7% interest on the loan, you miss out on a potential 3% return on the balance of the loan. Over time, the missed earnings can add up and result in a lower balance in retirement savings.
Also take note of any fees charged for retirement plan loans by your company. In addition, some companies set deadlines for applying for loans and may take up to two months to process the application.
Last, but certainly not least, one of the most compelling reasons for not tapping your retirement account, particularly if you are experiencing financial stress, is that current law protects such assets from creditors in bankruptcy proceedings.
So, in the final analysis, even though you may be feeling pressured to pay off your mortgage, think long and hard before turning to your retirement plan. You could end up enhancing one area of your financial life at the expense of another.
Please feel free to contact our offices at anytime.
Spencer Gabriel has more than 20 years of experience helping clients accumulate wealth and implement their retirement plans. For more information contact Spencer at Symphony Financial at 330-434-2000 or Spencer@symphony-financial.com.
Securities offered through LPL Financial, Member FINRA/SIPC. Investment advice offered through Symphony Financial Services, a registered investment advisor and separate entity from LPL Financial. This article was prepared by LPL Financial and is not intended to provide specific investment or tax advice. Consult your financial advisor, tax advisor, or me if you have any questions.