Advertisement
real estate

If Downsizing, Consider How You'll Finance a New Home

Should you pay cash for your new house? Your money may earn more in other investments.

diversified emfs

The kids are safely out on their own and retirement is at hand. If you're planning to sell your now oversized home for something smaller and easier to maintain, the first issue you'll need to tackle is how you'll finance the new house.

Take Our Quiz: How Smart of a Home Buyer Are You?

Most downsizers no longer need to worry about taxes. For couples filing jointly who have lived in their home for at least two of the five years leading up to the sale, $500,000 in profit is tax-free. Many downsizers who are flush with cash from the sale of their old home, choose to buy their new home outright, freeing themselves from monthly mortgage payments. Although this might sound attractive, it may not be your best option, especially if you consider the tax benefits.

Crunching the Numbers

Let's compare the Smiths and the Joneses. Both couples, comfortably in the 25% tax bracket, collected a cool $80,000 on the sale of their old homes and have their eyes on a tony little lake community with houses in the $200,000 range.

Advertisement - Article continues below

Both couples took 15-year fixed-rate mortgages at 5% interest. (You may be able to get a 15-year mortgage for as little as 3%.)

The Smiths decided to put the full $80,000 down on the house, believing that they'd save more by having a lower monthly payment ($949 for principal, interest).

Advertisement
Advertisement - Article continues below

The Jones opted to put only 20% (or $40,000) down to avoid paying private mortgage insurance. They invested the other $40,000 in a balanced portfolio of stocks and bonds earning an average 6% annually. Their monthly payment is higher -- $1,265 for principal, interest -- but by the end of the loan term they actually have about $2,000 more than the Smiths because of higher tax deductions and earnings from their investments.

See Also Home Buyer's Survival Kit

If your investment returns are higher or the mortgage rate lower, the returns would be even greater. And that's not even counting the home's appreciation and the power of leverage (using borrowed money to generate a return).

In addition to a bigger bottom line, mortgagers like the Jones enjoy increased liquidity by not tying up cash in real estate, which could be hard to sell in an emergency.

Keep in mind, though, that qualifying for a mortgage as a retiree can be more difficult than qualifying during your working days. And your estate-planning goals may also influence how you decide to pay for your new home.

Before you make a commitment to pay cash or borrow, run your proposal by an estate lawyer to make sure it complements your overall plan and doesn't create problems for your heirs.

Advertisement

Most Popular

What Are the Income Tax Brackets for 2020 vs. 2019?
tax brackets

What Are the Income Tax Brackets for 2020 vs. 2019?

The IRS unveiled the 2020 tax brackets, and it's never too early to start planning to minimize your future tax bill.
June 20, 2020
Tax Changes and Key Amounts for the 2020 Tax Year
tax law

Tax Changes and Key Amounts for the 2020 Tax Year

Americans are facing a long list of tax changes for the 2020 tax year...and it's never too early to start thinking about next year's return.
June 22, 2020
10 Tax Breaks for the Middle Class
tax deductions

10 Tax Breaks for the Middle Class

Tax breaks aren't just for the rich. There are plenty of them that are only available to middle- and low-income Americans.
June 30, 2020

Recommended

13 Tax Breaks for Homeowners and Home Buyers
income tax

13 Tax Breaks for Homeowners and Home Buyers

Owning (or buying) a home is expensive. But at least there are some tax deductions, credits, and exclusions that can help you recoup some of those cos…
June 22, 2020
12 Things Every Home Buyer Should Do
real estate

12 Things Every Home Buyer Should Do

Buying a home may be one of the biggest purchases you will ever make.
June 12, 2020
11 Things Every Home Seller Should Do
real estate

11 Things Every Home Seller Should Do

As a home seller, your goal is to sell your property quickly for the most money possible.
June 12, 2020
13 Reasons You Will Regret an RV in Retirement
retirement

13 Reasons You Will Regret an RV in Retirement

RV-loving retirees talk about the downsides of spending retirement in a motorhome, travel trailer, fifth wheel or other recreational vehicle.
June 8, 2020