Your Home As Retirement Fund The Pros And Cons
New research suggests that homeowners are saving less into pensions than people who rent their properties. Some are clearly banking on their house as a source of money in later life but when it comes to retirement, is property or a pension your best friend?
Heres a new one: if you own your own home, you could end up poorer in retirement than those who dont. At least, thats the extraordinary suggestion from the National Institute for Economic and Social Research . Based on their latest data, people with a mortgage to pay off are saving less into their pensions, resulting in an average 15 per cent less pension income in retirement.
Yes, but hang on a minute
The obvious riposte to this is that property is itself an investment. The homeowner may indeed be paying less money into their pension, but thats because theyre putting that money into their home. Aside from the interest on the mortgage, the money is still theirs just locked away in bricks and mortar. And given that property prices tend to increase over time, the homeowner could argue that their investment is just as good, if not better.
So whos right?
Historically, property has indeed proved a relatively sound investment. House prices tend to grow for long periods between each crash, feeding the perception that property always increases in value. Nevertheless, it would be a mistake to think, My house is my pension and rely mostly on its value to support you in retirement. Heres why.
Eggs + = error
You Have Greater Financial Resources To Handle Unplanned Expenses
The longer you live in a house, the better you get to know its creaks, quirks and requirements. Youll grow to know how soon your home will need a new roof, or a replacement water heaterand you can budget accordingly.
However, pricey problems are known to crop up unexpectedly within the first few years that you own a property. Those high dollar expenses may force you to dip into your retirement savingsand replacing those funds may be difficult if youre no longer earning a salary.
Theres always going to be unanticipated expenses whenever you buy a property, even if its new construction. Its easier to handle unanticipated costs that come up when you purchase a property while youre still working, says Lewis.
These unforeseen financial burdens can also arise during the sale of your existing home. For example, while most seller closing costs are laid out up front, you could be on the hook to make repairs mandated by your buyers lender before theyll approve the loan.
Buying A House With A Mortgage After Retirement
When purchasing a retirement home, many older people think that they cannot be eligible for mortgages. However, you can still get a mortgage rather easily after retirement. The federal Equal Credit Opportunity Act prevents lenders from denying retired people home loans.
Of course, you have to qualify for these loans like any other person. Here are a few things that lenders look at before approving a loan.
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Financing A Home In Retirement
While there is no maximum age for applying for a mortgage, you may find it is tougher to qualify for certain mortgage products.
Discrimination based on age is illegal due to the Equal Credit Opportunity Act.
However, when lenders underwrite a loan, they have to ascertain their risk. Therefore, the proof of income you have to submit when youare retired will be evaluated differently.
Lenders need to confirm that you have access to any assets that you might be using as a down payment â meaning theyâre not locked into a retirement fund. For those in retirement, lenders consider 401s, IRAs,and other retirement account distributions. These assets donât qualify if theyâre currently being used as your only source of income.
This can make things difficult, especially for borrowers whose assets are in retirement vehicles that may be subject to withdrawal penalties.
If youâre a veteran, be sure to check if you qualify for a VA loan. Another avenue to check if you are having a tough time qualifying with conventional lenders are FHA loans .
Before applying for financing, make sure your credit is exceptional and that your debt-to-income ratio is low. Youâll have an advantage if you consult a financial advisor and an experienced buyerâs agent who knows the lending procedures inyour local market before you apply for financing.
What Happens If I Choose To Save For Retirement
Putting your money into a 401k or IRA instead of investing in a home is a great way to see larger returns on your investment. According to Millionacres, the average annual return from stocks over time is about 7 percent. That same $10,000 over 10 years could come out to about $19,672. Add several more decades, and you can see how retirement investments outpace real estate.
The biggest difference between retirement savings investments and buying a home is that the money you invest in a home goes into material goods, which you may not see a return on for many, many years or not at all. But, youll also be building equity and strengthening your credit score by making your mortgage payments on time. Retirement investment funds are simply money and not tied up in anything as complicated as a house and will help set up your post-career life to be as comfortable as possible.
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Buying A House At 65 Years Old: Major Pros And Cons
Buying a house is a large investment, no matter how old you are.
If you’re considering buying a house at 65 years old, you should first look at your financial portfolio and perhaps even speak with a financial advisor to determine whether an investment of this size makes sense for you.
Next, you should find an experienced realtor who knows the local market and can help you negotiate a winning offer on the perfect house for your retirement goals.
With an expert buyerâs agent at your side, thereâs nothing stopping you from finding the house of your dreams at any age.
Ready to find a great realtor? Clever offers a free, no-obligation service that matches you with top-rated agents from trusted brokerages like Berkshire Hathaway and Century 21. And, on eligible purchases, you could also get a cash-back refund of 0.5%that keeps more money in your pocket!
How Much Can You Take Out Without Penalty
With a few exceptions, account holders will be expected to pay an additional 10% early withdrawal tax on early or premature distributions . In addition to the 10% penalty, the money taken out will be taxed as income for the year its withdrawn. Therefore, no money can be taken out before the age of retirement without penalty, unless the reason correlates to the exceptions above.
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Dont Get Lured By Your Dream Location
Have you painted yourself an idyllic picture of your retirement life? Maybe you see yourself lounging on the porch of a tropical beachside bungalow, or tending the gardens of a quaint little historic farmhouse in the countryside.
If you buy one of these dream homes without ever experiencing the lifestyle it provides, you may find a nightmare waiting for you instead.
I had a client who wanted to retire on a lot of on acreage out in the country where they could just relax by themselves. But buying that dream property didnt live up to their expectations, says Lewis.
My clients found that they didnt enjoy paying the massive water bill or spending one full day a week on a riding lawn mower. Plus, they didnt want to be tied to maintaining all that acreage when they could spend that time traveling.
Establishing Your Income To Qualify For A Mortgage After Retirement
If you’ve retired, your income likely comes from a variety of sources including Social Security, a 401k, Roth IRA account or a pension. While all these provide income, some of them are consider finite income sources because theyre depreciating assets. Most lenders will ask you to prove theres enough money in these accounts to provide a stable income for at least three years. Most lenders will allow you to use the income from social security, trust distributions and other assets to calculate your qualifying income.
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Question No : Where Will I Get The Money For A Down Payment
Before you delve any further, you need to first make sure that you have enough cash for the down payment. Most financial planners recommend that home buyers strive to make a down payment amounting to 20% of the price of the home in order to avoid paying private mortgage insurance, or PMI, a premium that protects your lender in case you default on the loan. With the national median home price currently around $235,000, according to the National Association of Realtors®), the average 20% down payment costs $47,000.
If you dont have enough cash to make a down payment, you might be considering dipping into other savings accountslike your retirement fund. However, making early withdrawals from an IRA or 401 might be a big mistake for two reasons. If you borrow from either plan before age 59½, youll get slapped with a 10% excise tax on the amount you withdraw, on top of the regular income tax you pay on withdrawals from traditional defined contribution plans. Also, withdrawing funds prematurely prevents the money from accruing interest in these accountsa mistake that can have a huge negative impact on your retirement plans, says Craig Jaffe, a financial planner at United Capital in Boca Raton, FL.
Basically, if you need to tap retirement savings to scrape together enough money for a down payment, youre better off waiting a few years until you save more cash.
You May Face A Tax Penalty
It may sound appealing to dip into money you’ve already saved, but you’ll probably end up paying more for it later. For example, if you’re not of age to tap your retirement account, you’ll have to pay taxes on the amount you took out. Pirri says you will also face a tax penalty for withdrawing from your retirement savings early. “The government doesn’t want people taking funds out early, and they will hit you with a 10% fee for doing so,” he says.
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A Note About The Cares Act
Signed into law on March 27, 2020, the $2 trillion dollar Coronavirus Aid, Relief and Economic Security Act emergency stimulus bill was drafted to help those affected by the coronavirus pandemic. Under the act, 401 account owners can make a hardship withdrawal of up to $100,000 without paying the 10% penalty. The bill also grants the account holder 3 years to pay the income tax, rather than it being due within that same year.
Benefits Of Using An Ira To Buy A Home
Using your IRA may not be the perfect solution. But it can help you or someone in your family purchase their first home. And that is a valuable investment to many Americans.
Also, if youre young, you still have time to rebuild your savings. So, you may not necessarily feel the loss in your retirement fund. You can put the $10,000 toward your first home and still live out your golden years comfortably. It helps if you plan to contribute the maximum amount to your IRA each year, too.
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Before You Buy A House At 65
Once youâve decided to buy, your next step is to contract the services of an expert real estate agent who is familiar with the lenders in your local area and knows what their qualification procedures are for retirees or those nearing retirement.
This will give you the best chance of educating yourself and getting a better mortgage product with terms that are favorable to you.
Your agent should help you find properties that:
Have great potential for appreciation.
Need little to no repairs and minimal ongoing maintenance.
If you’re looking for a great realtor, Clever can help you find the best agents in your area, from the top local brokerages!
And, with Clever Cash Back, you can earn HUGE savings â up to 0.5% of your home price back as cash! On an eligible $400,000 house, you could get a $2,000 check after closing!
How Much Can You Take Out Of Your Ira To Buy A Home
Account holders can take out as much money from their IRA as they want to fund a home purchase. However, to discourage premature withdrawals, the IRS will tax any money thats taken out as income in the year it is withdrawn. There is, however, a provision for first-time home buyers. Anyone looking to buy a home who hasnt owned in the last two years may take out up to $10,000 without incurring the 10% penalty which usually accompanies early withdrawals.
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Question No : If I Buy A Home Will I Still Be On Pace To Retire On Time
For most people, Social Security alone is not going to foot the entire bill for retirement, says Wright. One reason thats the case is because people are living longer. Also, if you overextend yourself and need to use the money you would put in your retirement fund to make your mortgage payments, youll be in a serious bind.
Using Your 401 For A First
If youre still thinking that you might want to go this route, its important to consider all the costs that will be part of owning a home, to make sure that youre not using your 401 as a way to fund a purchase that might be difficult to maintain. Looking at your retirement account balance might make you feel as though you have more money than you actually have coming in on a regular basis.
Buying a home might be the biggest purchase you make, but its important to remember that its not a one-time expense. Owning a home means regular costs for maintenance, upkeep, insurance, property taxes and much more. Its easy to get caught up in the excitement of house hunting and inadvertently make a first-time home buyer mistake that leaves you without sufficient funds to pay the ongoing expenses a home requires.
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Tips For Buying A Home
- Buying a home is complicated and costly, especially if you make any mistakes. You may want to talk to a financial advisor before you start. Finding a qualified financial advisor doesnt have to be hard. SmartAssets free tool matches you with up to three financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If youre ready to find an advisor who can help you achieve your financial goals, get started now.
- You shouldnt necessarily bank on your retirement account funds to afford a home. You should budget and research your mortgage options far ahead so you know how much house you can afford.
What Are The Requirements To Buy A Property With An Ira
Most IRAs are set up in a way that allows people to invest in stocks, bonds, mutual funds, and the like. But it is also possible to buy a property with an IRA. The key here is using whats called a self-directed IRA.
Pursuant to the Employee Retirement Income Security Act of 1974 , the custodian of a self-directed IRA is free to invest however he or she pleases. If your IRA is managed by a third-party, the custodian may not allow you to invest in real estate. But theres no legal reason why you cant. A growing number of financial firms are offering self-directed IRA plans that make it easier to invest in real estate through your IRA.
The rules around buying real estate through your IRA are somewhat complicated. The government wants you to have at least an arms length distance from the investment. As such, if you purchase real estate through an IRA, you cannot live in or actively manage the property. Technically, the title to the property is held by a custodian for the benefit of the IRA . You must also hire a third party to handle all operations. Any revenue generated by the property whether it be rental income or sales proceeds must flow back to the IRA to protect the tax-deferred status of the account.
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Financing A Home With Debt Creates Both Leverage And Risk
A mortgage is inherently neither right nor wrong. However, it amplifies your risk, for better or worse. You’ll be controlling a large asset with the help of other people’s money, which is great if the asset appreciates, but can be disastrous if the opposite happens. Even someone with a high net worth can lose big by borrowing too muchor in financial terms, being too highly leveraged.
For simplicity, let’s say you have a net worth of $100,000 and you invest it all in the down payment on a $500,000 house. If the home’s value drops 20% the next day, you suddenly have a zero net worth and your life’s savings is gone .
On the other hand, if the home appreciates 20%, you’ll have doubled your net worth in one daya 100% return overnight.
Such is the nature of leverage.
The ultimate question is “How certain do I want to be to achieve a particular financial outcome?” The more certainty you require, the less leverage you’ll want to use. If you’re like most people, you’ll want to use less leverage as you age, because your appetite for uncertainty and extreme outcomes has diminished. This isn’t exactly the point in your life when you want to find a new job in another city and start over.
However, some people are comfortable with a large mortgage, even in retirement. It allows them to invest more outside the walls of their home. And it’s a strategy that worksuntil it doesn’t.