Many American savers are caught between paying off their mortgage before retirement or taking that money and putting it towards growing their retirement savings. Sure, having more money during your golden years could help provide you with more financial security when you’re not working anymore, but carrying long-term debt can be a cost burden and quickly drain a person’s savings.
Unfortunately, there isn’t some magical formula for deciding which option would suit you best. Each person’s financial situation is different, and it is important to remember that not everyone shares the same financial objectives when building retirement savings.
Making the right decision would ultimately boil to several important factors that every person needs to consider before taking the plunge. On one hand, paying off your mortgage could mean you have less debt burden when you’re older. However, you might miss key moments to generate substantial financial security for your nest egg.
Consider your current financial position and long-term obligations when making this decision. You should be able to draw an answer based on your current situation, such as age, career prospects, and time until retirement.
The facts about retirement savings in America.
Saving for retirement has become much harder for many people in the U.S. as the cost of living continues to burden many consumers, and taking on new debt has become increasingly expensive.
In a recent survey of more than 4,500 adults, the magical number to have saved up before stepping out of the workforce sits around $1.46 million to have a comfortable retirement. This figure is roughly $1 million more than the average survey participant saved in the nest egg.
According to data from the Federal Reserve, American households between the ages of 65 and 74 had about $609,000 in retirement savings as of 2022. Similarly, in 2022, the average American had saved about $333,940 for retirement—a far cry from the millions many said they would need to live comfortably once they retired.
The cost of carrying a mortgage in retirement.
Anyone currently on the market looking to purchase a new house would know how expensive it has become to buy real estate or take out a mortgage loan.
In December 2023 house prices increased by 6.4 percent year-over-year, after increasing 5.6 percent in the quarter before. Other data sources suggest that in 10 years, house prices in the U.S. have increased by more than 48 percent.
Considering the staggering cost of housing and the fact that taking out a mortgage loan will most likely be the average consumer’s most significant financial obligation throughout their life, carrying this debt into their senior years can become a long-term financial burden.
Some American retirees and adults will carry their mortgage well into their senior years and beyond, with some estimates suggesting that 17 percent of retired Americans will never completely pay off their mortgage.
Similarly, a study from 2022 found that 40 percent of homeowners older than 64 had a mortgage, which is an increase of 25 percent from a generation ago. One dynamic factor that has been driving these historically high percentages includes the size of a typical retired household’s mortgage and the increasing cost of taking on debt.
The typical retired household’s mortgage has increased by $108,500 in inflation-adjusted dollars compared to their parents, who were most likely born during the early years of the Baby Boomer generation.
When you are younger—say in your 20s and early 30s—these are all things to start thinking about as you begin to plan for your retirement. You might also consider clearing a low-interest home loan before or during the early years of stepping into your golden years.
When to pay off your mortgage early.
Depending on your financial situation, you may want to consider paying off your mortgage early when:
Trying to reduce debt-based expenses: Your mortgage payment might represent a large percentage of your monthly expenses. However, if you’re trying to reduce these expenses to live more comfortably, this might be a helpful consideration.
Trying to secure asset liquidity: Having liquidity during retirement can provide peace of mind and further strengthen your financial safety net. By paying off your mortgage before retirement, you can have full ownership of your home and increase your rate of return when you want to sell it again or downsize your lifestyle during retirement.
Trying to save on interest: Depending on the size of your home loan, interest rate, and repayment term, you might be paying thousands in interest each month. Over the long term, you can use this money towards your retirement savings by reducing interest payments as quickly as possible.
Trying to decrease your mortgage for a higher rate of return: Many people realize too late into homeownership that their mortgage is often higher than the predictable rate of return on their home. This would mean that their rate of return is equivalent to the interest rate they’re paying on top of the balance they must pay.
When not to pay off your mortgage early.
Sometimes, it may be better to play it safe and carry long-term debt, allowing you to divest your cash into your retirement savings.
Trying to catch up on retirement savings: You might find that you still have time left to catch up on your retirement savings, such as contributing to your 401(k) or IRA. By allowing yourself the opportunity to increase contributions towards these accounts, you can grow your tax-deferred savings until your retirement age.
Trying to reduce higher-interest debt: If you’re carrying higher-interest debt, you should consider paying that off first before making additional payments towards your mortgage loan. Credit cards carry a higher interest rate, which can be burdensome over the near and long term.
Trying to increase your savings or reserve cash: Having enough cash reserves can help pay for unexpected expenses such as health care or even home maintenance. Ensure you have at least three to six months’ worth of cash in reserves for unsuspected expenses.
Trying to increase investment returns: Some investment opportunities might give you a higher return than your mortgage payment rate. However, this isn’t always the case, and you should consult with a financial planner or broker beforehand. Nevertheless, where financially possible, you can seek better investment opportunities with your cash to potentially increase your returns depending on your risk exposure.
Why it’s better to pay off your mortgage before retirement.
For individuals with enough financial leverage, there could be some benefit in paying off a mortgage before entering retirement.
Lower your long-term debt.
One of the main advantages of paying off your mortgage loan before retirement is that you can decrease your long-term debt burden. A mortgage is one of the largest and perhaps most expensive loans a person will carry throughout life. By eliminating long-term debt you save over the long run, you can direct your savings towards growing your nest egg or capitalizing your 401(k) before withdrawing it.
Gain ownership over a tangible asset.
Having full ownership of your house or any other property helps to create a more robust asset portfolio. Sure, you might only own one property, however owning a home or some form of real estate is considered a tangible asset. Having tangible assets during your retirement allows you to sell and potentially make a profit from the sale. Remember that taxes are involved when selling a house, but with tangible assets, you slightly increase your financial safety net.
Decrease retirement expenses.
Many people downsize during retirement, and this can be for personal, health, or financial reasons. From a financial standpoint, reducing any unnecessary expenses you might need to carry during retirement will help you have more bang for your buck. This could mean that you will not need to use your retirement savings on additional expenses but rather use that money on things you feel may be a priority for you and your partner.
Reduces mortgage loan obligations.
By repaying your mortgage loan, you gain full ownership of your home. This would mean that you no longer have to stress about having to meet repayment obligations, including making monthly payments on time, and the possibility of foreclosure which can occur due to a loan default or fluctuations in interest rates. Being the sole owner of your home will help give you some peace of mind and provide you with a sense of security throughout your senior years.
Less need to continue working in retirement.
Many American retirees are working past retirement age due to financial obligations. One study by the Pew Research Center found that 19 percent of those aged 65 and older are currently working, totaling more than 11 million American adults working during their retirement. Many retirees continue working to meet their financial obligations, such as paying their mortgage loans or covering healthcare expenses.
Without a mortgage to pay for, the chances that you will need to hold down full-time employment during retirement are slightly less, meaning that you will have more time to enjoy your golden years without still having to complete a nine-to-five each day.
Why it’s not better to pay off your mortgage before retirement.
Paying off your mortgage loan in full can come with the financial drawback of not fully leveraging retirement savings or investments.
You need more capital to build your retirement savings.
Paying off your mortgage before retirement could mean that you are allocating less capital towards your retirement savings. This is often considered one of the most significant drawbacks of clearing long-term debt, especially if you’re already close to retirement. Deciding to pay off your mortgage could mean you can lose out on high-income earning potential for your retirement savings or miss the opportunity to max out your 401(k).
You are close to retirement.
Individuals who are close to retirement could run the risk of decreasing their savings should they decide to repay their mortgage loan. Being further in your career could mean you have less time to plan for your financial future. In this case, consulting with a financial advisor or broker might be better to consider all your possible options. Having less time to save for retirement could mean that you can run out of cash during your senior years, which could place you at more risk of not having financial security.
Capitalize on tax deductions.
Having a mortgage loan isn’t all bad. For example, you might be eligible for a tax incentive depending on your financial situation, including your income, the size of your mortgage loan, and how much your monthly mortgage repayments are. This incentive allows you to deduct the interest paid on a home loan from your taxable income. By capitalizing on these incentives, you decrease your taxes owed and can potentially use your rebate to invest in your retirement savings.
Build better financial security through investment.
American savers who have already started planning for their future can use their capital to invest in high-yielding investments such as stocks, bonds, or mutual funds. While it’s always important to consult with a financial planner or expert beforehand, using your capital to grow your nest egg could provide you with a more attractive income during your retirement.
You first want to decrease high-interest debt.
Paying your mortgage could be a priority at the moment. However, other high-interest debt, such as credit cards and personal loans, can be a short-term financial burden. By reducing these payments, you strategically free up more of your capital, allowing you to direct these funds toward your savings or other retirement investment accounts.
What are some alternatives to paying off your mortgage loan before retirement?
You might find that it’s not possible to repay your mortgage before retirement. Fortunately, there are some alternative options that you can consider. However, this is largely dependent on your financial situation and the maturity of your mortgage loan.
Opt for short-term refinancing.
On average, home buyers will opt for a 30-year fixed-rate mortgage. This allows them enough time and capital planning to repay their mortgage over three decades and further lowers their monthly payments. A long-term fixed mortgage rate isn’t the only option, as some lenders may allow you to refinance your mortgage loan for a shorter period.
Depending on your financial obligations and the loan maturity, you could opt to refinance your loan to a 15-year fixed rate, which will cut the time it takes to repay by half. Keep in mind that when refinancing to a short term, your monthly payments will be higher, but the benefit is that you will have less interest to pay throughout the loan.
Considering refinancing for a lower interest rate.
Interest rates are continuously changing, and fixed mortgage interest rates are at their highest in nearly two decades. Fortunately, this is temporary, and we may see interest rates declining over the coming months, which could mean you can refinance your loan for a lower interest rate.
Refinancing for a lower interest rate will decrease the amount you will be spending on paying interest on the loan, allowing you a bit more capital leverage to boost your savings or put toward your retirement accounts.
Increase your monthly payments.
Where possible, consider increasing your monthly payments, allowing you to cover more of your interest within a shorter time. Not all lenders might have this option, but asking whether you can make additional payments towards your mortgage or increase the current monthly amount is recommended. Adding a few extra dollars to your payment each month, or even increasing the monthly payment amount you could gradually lower your mortgage obligations.
Consider a mortgage recast.
Another option would be to request a mortgage recast, which involves paying a lump sum toward your mortgage’s principal balance. Depending on the amount, your lender may recalculate your remaining balance, which might help reduce the interest balance. This helps reduce the time spent on paying your mortgage and further decreases your monthly payment obligations.
Finding a middle ground.
By paying off your mortgage loan before retirement, you potentially free up additional capital that you can direct toward your retirement savings account, which can help lower your expenses during your senior years.
On the other hand, the option not to repay your mortgage before you step out of the workforce could mean that you may be sitting with a repayment well into your retirement, even long after you have stopped working. This could mean that although you have more time and capital to boost your savings, you increase the expense burden of long-term debt during retirement.
Having the option to pay off your mortgage before retirement helps to free up more capital. It will also give you peace of mind, knowing that you have full ownership of your home, solidifying the ability to own a tangible asset you can sell at any given time.
Fortunately, it’s possible to make better and more informed financial decisions now that can help you in the long run. By potentially refinancing your mortgage loan or lowering the interest owed, you can decrease your monthly repayments and strategically bolster your retirement accounts while still having a mortgage.
While there are various options to consider, it is advised to consult with a financial advisor beforehand. Making the right decision could help decrease your long-term debt burden, boost your retirement savings, and give you peace of mind for much of your senior years.
The main point is to save and buy your home in your early years. All of the retirement advice in the world isn’t going to help you if you start too late. Do yourself a favor — plan well for your retirement and get start on it now.
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