The Upsides of Downsizing Your Home
Moving to smaller digs frees you from the cost and time commitment of a house you no longer need.
It can happen when the kids leave home or retirement looms or your first grandchild is born hundreds of miles away. You start to think about leaving a house that’s now too big for you and downsizing to a smaller house or condo or a retirement community.
After launching three sons from their home of 23 years, Mike and Patty Denevi, both 61, of Los Gatos, Cal., shared an epiphany. “We realized that we spent all our time in our home’s kitchen and bedroom. We didn’t really need this house anymore. What were we doing here?” says Mike. “We thought, Wouldn’t it be fun to live near downtown?”
The Denevis listed their 2,056-square-foot home with four bedrooms and three bathrooms for just over $1 million in early 2011. (The Bay Area is the most expensive housing market in the U.S.) While they waited for their home to sell, they shopped for their next one. They found a 1,563-square-foot condo with two bedrooms and two baths on a single level that backs up to the high school soccer field. The Denevis paid $669,000 in cash after they sold their home for $950,000. They pay $680 a month in condo fees.
The Denevis are closer to their church and to restaurants and entertainment. The single level is a boon for Patty, who has arthritis. Mike, who works in commercial real estate, has a short commute—on foot—to his gig coaching high school baseball and his senior baseball league.
As the Denevis found, downsizing frees you from the cost and time commitment of maintaining a home that’s simply too large. It allows you to unlock your home equity, buy a new place and maybe even retire your mortgage.
After the real estate bust, many homeowners delayed the decision to downsize until their home regained at least some of its market value. Many more owners are ready to sell now. But clearing out and selling a home, buying a new one and relocating—whether across the street, downtown, out of town or across the country—is a major transition that takes careful planning.
The decision to downsize may come in a flash, as it did for the Denevis, or it may require lengthy consideration. “Downsizing can and should be a fun, memorable time with your friends and family,” says Brian Schwatka, a real estate agent who leads a popular class called “Should I Stay or Should I Go?” in Silicon Valley.
If you research your options, you’re less likely to get locked into a situation that doesn’t meet your expectations and leads to another move, says Skip Frenzel, a financial planner in Campbell, Cal. It often pays to find a real estate agent who works with seniors, such as an agent who has earned the Seniors Real Estate Specialist (SRES) credential.
Less space doesn’t necessarily translate into less money. For example, you may long to live downtown but find that condos are in short supply and priced out of your reach. Seattle agent Greg Bartell says many homeowners sell their homes for, say, $400,000 to $500,000 but find that they will have to spend at least that much for a condo in the city. He suggests that they look at newly redeveloped suburban town centers that offer urban amenities.
Kay Keesee, an agent in Austin, Tex., says downsizing clients often want a smaller home but no less luxury. They want a kitchen with a big island, granite countertops and stainless-steel appliances, and a master suite on the first floor. In newer but smaller homes with those features, the trade-off may be smaller secondary bedrooms and less storage.
You may find the lifestyle you want in an active-adult community or a continuing-care retirement community (CCRC). After Michael Santella, 63, retired from Oak Ridge National Laboratory, he and his wife, Peggy, 62, visited Sun City Mesquite, an active-adult community developed by Del Webb 80 miles from Las Vegas. The Santellas, who lived in Knoxville, Tenn., were avid travelers who loved Las Vegas and visited it a couple of times a year. They signed a contract to build a home in Sun City Mesquite, contingent on the sale of their home in Knoxville. It sold for $385,000 in October 2012, and four months later they moved into their new, 2,100-square-foot home with two bedrooms and two bathrooms. They paid $314,000, and they also pay about $130 a month in homeowners association fees.
“It’s like living in a resort every day, with so many activities,” says Peggy, who calls Knoxville “the allergy capital of the world.” Plus, it’s reassuring to know that if one of them is on his or her own someday, “the other person won’t be left sitting alone,” she says.
Most adult communities provide prospective buyers with the opportunity to visit for a day or stay over a weekend. For example, Sun City Mesquite recently offered a “weekend pass” with hotel accommodations for $99 per couple.
Unlike active-adult communities such as Sun City Mesquite, CCRCs provide assisted-living and skilled-nursing facilities, allowing seniors to age in place. Some also offer memory care. CCRCs are age-restricted (you generally must be at least 55 to buy in). Be sure to check whether a spouse or partner can be younger than the cut-off age.
Continuing-care retirement communities have several financing setups. With a fee-for-service arrangement, you pay less upfront (or nothing beyond monthly rent) and cover care out of pocket if you need it. Some fee-for-service communities require you to buy long-term-care insurance to cover your bases. Contracts that include unlimited, lifetime care in the upfront fee—essentially a form of long-term-care insurance—require the biggest deposits, along with monthly fees. A modified-care agreement requires a smaller entrance fee but limits care to a specified number of days a month, after which residents must pay more. But you generally have to meet financial requirements and be healthy when you arrive. (For more information on choosing a CCRC, see Risks and Rewards of Moving to a CCRC.)
Follow the grandkids
Linda Blomquist, 62, and her husband, Gary, 65, did a different sort of downsizing. They found a house the same size as their old one on more land but slashed their living costs by leaving the pricey Bay Area and moving to Whitehouse, Ohio, near Toledo. Why Ohio? Family. In January 2012, Linda was laid off from her job as an executive assistant with the city of Fremont (Gary was retired due to disability), and the Blomquists decided to sell their home of almost three decades to move near a son’s family.
Real estate agent Brian Schwatka helped them create a plan with deadlines for purging their stuff, packing up and listing their 1,500-square-foot home. In Ohio, they found a home with three bedrooms and two bathrooms, on an acre of land. They paid $154,000 in cash after their Bay Area home sold for $655,000.
The couple have cut their cost of living by two-thirds. Linda says that if they had stayed in the Bay Area, she isn’t sure she could ever have afforded to retire. They love the uncongested highways, the short lines at the local Costco and the “thoughtful and considerate” people, says Linda. And they love their new job: providing day care for their grandchildren.
Your shopping strategy
You’ll have the most leverage if you make a purchase offer on your next home unencumbered by a contingency for the sale of your current home. If that means you have to sell first, consider renting for a while in your new location and leaving your stuff in storage. You’ll have more time to explore and find the right place.
If you find your next home before your current one sells and want to make an offer without a contingency, you’ll need an alternative source of funds for a down payment and closing costs. Bridge loans are hard to find. You may do best by tapping an existing home-equity line of credit, using a margin loan against investments or borrowing from your 401(k). An IRA can also be a source of a very short-term “loan.” The rollover rules let you use IRA funds as long as the money is back in the account within 60 days. Miss that deadline and a withdrawal from a traditional IRA is considered a taxable distribution, and you’ll be penalized if you’re younger than 59½. Money taken from a Roth may not be taxed, but in neither case can the money go back into the tax shelter after the 60-day window closes. If you have a mortgage on your current home, figure that you’ll have to make two mortgage payments until it sells.
If you sell before you’re ready to move and don’t want to move twice, negotiate with your buyers for a “lease back.” You’ll be allowed to stay in your home for, say, 30 to 60 days after closing the sale.
Mortgage or not? Freeing yourself from the ball and chain of a mortgage and monthly payments is an exciting prospect. But “don’t let emotions trump financial logic,” says Paul King, a certified financial planner in Campbell, Cal. Paying cash for your next home isn’t necessarily your best choice if the rate of return you can earn on that money by investing it beats the after-tax cost of a mortgage. “It’s all about living a better lifestyle in the long run, as long as the risks are reasonable,” says King.
You don’t have to commit to a 30-year mortgage. You could take out a 15-year fixed-rate loan, which usually has a lower interest rate than a 30-year mortgage but will carry a higher monthly payment. Or you could take out a hybrid adjustable-rate mortgage (ARM), with an initial fixed-rate period of three, five, seven or ten years, and pay it off before the first interest-rate adjustment. (In late January, the national average rate for a 30-year fixed-rate mortgage was 4.3%; a 15-year mortgage, 3.4%; and a 5/1 ARM, 3.1%.)
If you haven’t applied for a mortgage in years, be prepared to produce heaps of documentation of your income and assets. However, it’s easier for retirees with limited income but substantial financial assets to qualify for a mortgage than it was a few years ago.
If you’re buying a condo and you need a mortgage, you may have to jump through more hoops than if you were buying a house. You could be liable for special assessments to cover improvements or unexpected repairs. And because the association of owners shares responsibility for the building’s exterior and common areas, you’ll pay a monthly condo fee. Lenders add in the fee when figuring how much loan you can qualify for.
Buy with a reverse mortgage? A reverse mortgage can be a good option for people who want to move to a smaller home but who don’t want to sink all the proceeds from selling their old home into a new one. You can use a Home Equity Conversion Mortgage for Purchase to buy a new home, rolling the purchase and reverse mortgage into one transaction. You must be 62 or older to qualify, and you must make a down payment of about half of the purchase price for a home that will be your primary residence.
Say you sell your home for $500,000 and you want to downsize to a $400,000 house. If you put down, say, $200,000 and take a $200,000 reverse mortgage, you could bank $300,000. You’ll still have to pay for repairs, property taxes and homeowners insurance, but no mortgage payment. Instead, interest on the $200,000 loan accrues, eating into the $200,000 of equity created by your down payment. The loan and accrued interest come due when you die, sell or move out for 12 months or more. Live long enough and the interest could wipe out all your equity, but your estate will never have to pay back more than the house is worth.
Watch out for the capital-gains tax. If you’ve lived in your home for a long time in a high-cost housing market, you could see a chunk of your equity go to federal and state capital-gains taxes. You can exclude up to $500,000 of profit from the sale of your home if you’re married filing jointly, or $250,000 if you’re single (see 35 Tax Breaks to Save You a Bundle). Your profit is the sale price of your home minus selling expenses and its tax basis—that is, what you paid for it originally plus the cost of any improvements you made. If you think you’ll have more than $500,000 in profit, dig out your records of home improvements. (See Tax Planning for Selling Your Home.)