Funding Retirement with Your Home

Retirement isn’t cheap. The average retiree household (led by someone age 65 or older) spends approximately $52,141 per year (or $4,345 per month), based on the most recent data compiled by the U.S. Bureau of Labor Statistics. By comparison, the average across all U.S. households is $66,928 (or 5,577 a month).

Unfortunately, for many elderly Americans, spending $4,345 a month isn’t sustainable: as Social Security fulfills at least 90% of income for over one in four seniors and the most anyone can earn in this manner is $3,267 a month (in 2023). Consequently, many homeowners consider tapping into their home equity to help fund the resulting income gap.

In this post, we’ll discuss various ways in which the equity in your home can help fund retirement and considerations you’ll need to make for each option.

Downsize your home

Selling your home and downsizing is sometimes the best way to unlock any equity you’ve built—especially if you move to a location with a lower cost of living. Just know that many who downsize often reap less than what they had originally anticipated, often due to a lack of planning.

If you do decide to downsize before or during retirement, consider taking the following steps to ensure your expectations are aligned with reality:

Properly assess the value of your home
You can take several approaches to determine your home’s value. For example, an online estimator can give you results in mere minutes; however, the corresponding accuracy isn’t the best. For example, Zillow admits to an almost 8% median error rate for off-market homes, which can over or underestimate the value of your home. Therefore, it’s safe to assume—especially in areas outside of large cities where the turnover rate is lower—the margin of error is pretty significant for these tools.

Thankfully, local real estate agents can provide you with a more accurate appraisal because they consider the assessed value, comparative sales, and any home features and upgrades an online algorithm cannot. You can also ask your realtor for strategies to maximize the value of your home. Nevertheless, an even better option is to hire a professional appraiser. Although this will cost you a few hundred dollars, he or she will make sure to consider each and every property feature that impacts value.

Understand all costs associated with a home sale
After you obtain a realistic home value estimate, you’ll need to assess costs attached to selling your home: including closing costs and taxes.

Following the home inspection, a buyer can request modifications or repairs. Thus, with the exception of cosmetic changes or upgrades, the seller may be on the hook for items such as pest damage or electrical, plumbing, roof, or foundation issues.

Closing costs—which, according to bankrate.com, can range anywhere from 2% to 7% of the home’s sale price—can include payment for the mortgage balance, property transfer taxes, recording fees, and attorney costs. You’ll also need to pay any real estate commissions at closing, ringing in at up to 6% of the home’s sale price.

It’s also important to understand tax implications, knowing that Uncle Sam allows most couples to exclude up to $500,000 in gains from their taxable income (depending on how long they’ve lived in the home).

Take out a home equity loan or line of credit

A home equity loan (also known as a second mortgage) allows homeowners to borrow against the equity in their homes. Loan amounts are based on the difference between the current market value of the home (or appraised value) and the balance of your first mortgage. Home equity loans have a set repayment term, akin to a first mortgage. Alternatively, a home equity line of credit is a revolving credit line you can tap into as needed: which is a great option if you aren’t sure how much money you’ll need.

Either home equity product is a viable solution if executed for the right reasons: such as paying off higher-rate credit card debt, delaying Social Security payments, or remodeling your home with features to help as you age (such as a first-floor bathroom or bedroom).

Cash-out refinances

A cash-out refinance simply involves taking your existing mortgage balance and converting a portion of your existing equity into cash (a loan) and combining both into one larger mortgage. Homeowners often turn to this option when they need a lump sum of money to fund home improvements or college, consolidate high-interest debt, or purchase a second home.

While a cash-out refinance is perhaps a good idea for your own unique situation, keep in mind that only financially disciplined homeowners should utilize this strategy: as your new mortgage will not only extend the amount of time you’re in debt but also increase the interest you’ll pay over the life of the loan.

What’s more, you could end up underwater (e.g., if home values drop, you may owe more than your home is worth). For some, this is a step closer to a never-ending debt cycle. Depending on your need, consider alternatives such as a home equity loan, line of credit, or personal loan—each of which summons zero or few closing costs.

Reverse mortgages

A reverse mortgage is a loan that allows homeowners to convert a portion of their home equity into cash. Unlike a traditional mortgage wherein the borrower makes monthly payments to the lender, the lender actually makes payments to the borrower: which is precisely how these types of loans—reverse mortgages—earned their name.

Payments come in the form of a fixed monthly payment, line of credit, or lump sum and are tax-free to the borrower. The entire loan balance (principal plus interest) is due when the borrower sells the home, the home is no longer his or her primary residence, or the borrower passes away (leaving it for heirs to contend with). If the co-borrower is a spouse, reverse mortgage loans don’t need to be paid back until both parties sell, change primary residences, or pass away.

If you need cash to address financial issues but can’t afford monthly payments that accompany a home equity loan or line of credit (and are comfortable knowing that when you and your spouse pass away, your heirs will receive a smaller inheritance), a reverse mortgage may be worth considering.

In sum: enlisting your home to help fund your retirement

Using the equity in your home to help cover retirement expenses is sometimes not the best choice for everyone, especially if you can enlist the help of other income-boosting strategies or are concerned about leaving an ample inheritance to your heirs. However, for many, relying on this equity can make a significant difference in the quality of their retirement.

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Vision Retirement is an independent registered advisor (RIA) firm headquartered in Ridgewood, New Jersey. Launched in 2006 to better help people prepare for retirement and feel more confident in their decision-making, our firm’s mission is to provide clients with clarity and guidance so they can enjoy a comfortable and stress-free retirement. To schedule a no-obligation consultation with one of our financial advisors, please click here.

Disclosures:
This document is a summary only and is not intended to provide specific advice or recommendations for any individual or business.