SHOULD I PAY OFF MY MORTGAGE BEFORE I RETIRE?

If you’re approaching retirement, heading into the next chapter of your life without the stress of mortgage debt may seem very appealing. After all, you’ve been working hard to make payments on what is likely to have been your largest monthly expense for the last 20 or 30 years.

Paying off your mortgage may feel like a significant – and maybe even emotional – life event, and it’s definitely a huge accomplishment. But is it the best financial decision? Does it always make sense to pay off your mortgage before you retire?

This may surprise you but, in most situations, the answer to “Should I pay off my mortgage before I retire?” is “No.”

Keep reading to find out how your monthly mortgage payment might actually benefit your retirement plan.

When Should You Pay Off Your Mortgage?

Before we dive into the reasons to keep your monthly payment, it’s important to understand why you might want to pay off your mortgage in the first place. Typically, there are three main reasons for this financial goal:

1. You have little to no other debt, you’ve saved enough in an emergency fund to cover three to 24 months and you have enough cash flow to retire comfortably
2. You are on a limited retirement income and really need to reduce your monthly expenses
3. Your mortgage interest rate is higher than your expected investment return rate

For example, if your mortgage rate is 5% and your investments are earning you 4%, you may wish to clear those payments off the table. But bear in mind that you may not be able to take a mortgage interest deduction. Depending on your circumstances, it may make more sense to get another, less expensive mortgage or refinance if a lower interest rate is available.

In any case, if you choose to take a lump sum out of a retirement savings account to pay off your mortgage, it should be from a taxable account rather than a tax-deferred retirement account like a 401k or an IRA. However, your IRA distribution will be included in your taxable income and it may be subject to additional tax if you're under age 59½,¹ which could get very expensive and offset any savings you would gain from not having a mortgage payment.¹

The bottom line? Be sure to talk to a financial advisor and a tax professional before making any decisions.

That said, there is a compelling case to be made for holding onto your mortgage debt. While it might seem counterintuitive, here are four reasons to continue paying each month:

1. IT INCREASES YOUR CASH RESERVES AND LIQUIDITY

When you pay off the debt early, you’re handing over potentially tens of thousands of dollars to your mortgage lender, and you lose access to funds that could otherwise be invested in a retirement or investment account. The only way to get it back would be to sell the house – or get another mortgage.
 

2. IT’S A LOW-COST LOAN

A mortgage is one of the least expensive loans available – and as a loan, it’s included as part of your credit history, which means removing it from your debt report could affect your credit score. So, if you have high-interest debt from a credit card or another lender, it might not be a wise move to pay off a mortgage with a 2.5% interest rate, for example.

And keep in mind you may face a penalty for paying off the mortgage early, especially if you’ve had it for less than five years. Check with your mortgage lender to learn if any early payment penalties would apply.
 

3. THERE ARE TAX BENEFITS

You can receive a tax deduction for your mortgage interest. More specifically, the interest you pay on loans to buy, build or substantially improve a qualified residence (up to $750,000) is tax deductible if you itemize your deductions.²
 

4. IT CAN CONTRIBUTE TO WEALTH CREATION

We’ve reached the final reason, and yet we’ve ignored a simple yet important question you need to answer before deciding whether to pay off your mortgage before you retire: What will you do with the money you save?

While you will have to pay the mortgage off eventually, putting that money into an effective investment plan now can help it grow for the future.

If you have no particular plan or urgent need to pay off your mortgage, it would most likely help you to keep the debt for now.

Need Help With Retirement Planning?

These are just a few of the many reasons we think it’s a good idea to have a mortgage in retirement. Remember, when it comes to your retirement, it’s all about wealth creation, not debt elimination.

So, while paying off your mortgage early may seem appealing, we believe your focus should be on creating wealth so that you can comfortably afford the cost of living in and owning your home.

Of course, whether or not you decide to keep your mortgage debt, you will need to consider a lot of factors, including your age, risk tolerance and financial situation. As always, it’s best to speak with a financial advisor to discuss your options.

At Edelman Financial Engines, our financial advisors use an integrated wealth management approach that takes all aspects of your life into account – from investment management to retirement planning. Connect with our team today to find out what your best option may be when it comes to paying off your mortgage early.

¹ IRS (2024, July 30). IRA FAQs – Distributions (withdrawals). Retrieved September 24, 2024, from https://www.irs.gov/retirement-plans/retirement-plans-faqs-regarding-iras-distributions-withdrawals

² IRS (2024, March 25). Publication 936 (2023), Home Mortgage Interest Deduction. Retrieved June 17, 2024, from https://www.irs.gov/publications/p936