A mortgage-free home is the cornerstone of a solid retirement plan. In fact, retiring a mortgage would have been considered a major financial sin decades ago. But times are changing. The proportion of senior citizens with mortgage debt has almost doubled from 8% to 14% (from 1999-2016). Seniors also have the highest mortgage loan rate.
What’s going on here?
Take a mortgage into retirement
As you prepare for retirement, a useful hack in financial planning is to match your mortgage amortization with your retirement date so you can retire with a clean balance sheet, so to speak. This is especially helpful for those who bought a home (or upgraded their home) later in their careers when, with a typical 25-year payback, the mortgage doesn’t pay off well past retirement age.
However, in my paid financial planning practice, several clients have asked me if they want to retire a mortgage balance. You’re wondering if it makes sense to repay the mortgage faster when interest rates are at record lows (some had mortgage rates below 2%). Wouldn’t this money be better suited to investing in a diversified portfolio of ETFs – especially if there is still unused RRSP contribution space?
connected: Increase in old-age provision during your last years of work
To be fair, retiring a mortgage balance isn’t necessarily a bad thing if it’s done for well-considered reasons (like prioritizing investments in a low interest rate environment). However, this assumes that you have the cash flow available to add to your mortgage or investment. It is also assumed that your retirement results do not depend on a paid home and that you have sufficient sources of income to pay your bills.
There is much evidence to suggest that this is not the case for many seniors today. A study by Statistics Canada found that working seniors are more likely to be in debt than non-working seniors, suggesting that they may stay on the workforce longer to pay off debts.
Older immigrant families had twice as much debt as Canadian-born families (but 1.5x more wealth). Single seniors had lower levels of debt and wealth than couples and other family types.
Worryingly, those over 55 to 74 were the only age group where the number of mortgages held increased year over year:
Mortgage debt growth in retirement
I reached out to mortgage expert Rob McLister at Prices approx for his thoughts on the growing trend in retired mortgage debt. He said that carrying a mortgage or HELOC balance into retirement is obviously not what most seniors aspire to be.
“As housing prices continue to outgrow income gains, poor retirement savings and the incessant cost of living, the reality grows,” said McLister.
There is also a greater propensity for parents to help their children get started in the housing market, as nearly half of millennial homebuyers receive financial assistance from mom & dad’s bank.
Mr McLister says parents who do not have 20 years of retirement savings should think very carefully about how much to give to their children.
“I worry that people are so dependent on home equity to survive their golden years.”
There’s also the notion that rising home values (especially in Toronto and Vancouver) give people the illusion that they don’t need to save as much, which McLister says is almost guaranteed to be a problem for people who are past normal life expectancy.
House prices may not outperform inflation for an extended period of time. Depending on where you live in Canada, you may not have kept up with inflation in the past 10 years.
The rise in house prices has fueled the growth of another trend – reverse mortgages. Once considered a last resort for retirees, these products are now growing 3-4 times the year-over-year growth of regular mortgages. This is partly because many seniors have very little savings and investment and instead rely on rising home prices to grow their wealth.
The problem is, you have to live somewhere. Therefore, unlocking your home equity becomes a huge challenge if you don’t want to downsize or sell your home and rent it in retirement.
According to McLister, the growth of the reverse mortgage market has been mainly driven by falling interest rates, growing senior debt burdens, more aggressive marketing and the increasing adoption of “equity release” (as they now call it) as a retirement planning strategy.
Keep that in mind when you have to Being able to borrow and qualify, the most cost-effective option for additional cash flow in retirement is a HELOC at Prime to Prime + 0.60%. This option allows you to pay up to 40% less interest over a 10 year period, but you still make monthly interest payments all the time.
Avoid pitfalls in retirement
Given this growing reality of seniors carrying debt into retirement, I asked Mr. McLister to share some tips on using a HELOC.
Tips for getting a HELOC as a retirement plan:
- Keep the limit at 75-80% of what you would qualify for with a reverse mortgage. That way, in the worst case scenario, you can pay off the HELOC with a reverse mortgage to eliminate the monthly interest payments.
- Apply for a HELOC before you retire if your income is higher
- Monthly interest payments can affect your cash flow, so many seniors with HELOCs borrow from the HELOC to pay the interest (i.e., capitalize the interest).
- When you do, you will deposit your paycheck into the HELOC and use it as your checking account. This way, the lender sees that you are still making regular principal payments, and not just running into debt. The Manulife One is certainly the best of its kind for this purpose, but I would suggest trying to negotiate the Prime + 0.60% HELOC rate.
It is difficult to pinpoint exactly why so many seniors carry mortgage debt into retirement. One reason for this is that interest rates have long been extremely low and as a result many seniors have given investment priority over repaying their mortgage. As long as they have enough income to cover their monthly payments, everything should be fine and the mortgage will eventually be paid back.
More worrisome, however, is the growing debt – either from excessive borrowing or a later home purchase where the repayment schedule does not match a typical retirement age. This is forcing more seniors to work over 65 to make their monthly payments. Not ideal.
I made a conscious choice to prioritize my RRSP, TFSA, and even unregistered investments before I start aggressively repaying my mortgage. But I’m 41 and still in the accumulation phase. I’d rather invest now than repay my 1.45% mortgage debt.
I am A lot of my clients have focused on paying back their mortgage and telling me they are glad they did. More than just numbers on a table, it is the psychological effect of being debt free that increases happiness. I’ll keep that in mind as I get closer to early retirement.
What do you think of retiring a mortgage: cardinal sin or new reality?
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