Moving Somewhere New When You Retire? Deciding on a Mortgage is a Big Deal
/in NewsMoving to a new location upon retirement is not uncommon, but deciding whether to take out a new mortgage to buy a home is a significant decision. Transitioning from a steady paycheck to a mix of fixed and variable income, along with a new lifestyle, complicates the picture, especially when adding substantial debt.
Mortgage rates currently hover around 7%, and home prices are rising, making this decision even more challenging. “Any time you take on debt, you increase risk in your situation,” says Jim Stork, a certified financial planner based in Illinois.
Who’s Taking on New Mortgages?
Data from the National Association of Realtors reveals that more than a third (35%) of homebuyers last year were between the ages of 59 and 98, with most of them financing their purchases. The decision to take out a new mortgage depends on various factors, including proving creditworthiness and managing the costs of maintaining a home.
Age Isn’t a Factor, But Income Is
While age discrimination in mortgage lending is illegal, lenders focus on your ability to repay your mortgage with non-paycheck income sources. “When you qualify for a mortgage, it’s all based on your income,” says Melissa Cohn, regional vice president at William Raveis Mortgage.
Lenders consider various income sources such as Social Security benefits, pensions, annuities, spousal benefits, disability payments, interest, dividends, and 401(k) or IRA distributions. If a portion of your income is tax-free, lenders may treat it as worth 25% more.
For example, Fannie Mae explains that if 15% of a $1,500 monthly Social Security benefit is tax-free, $225 of it will not be taxed. Adding 25% of that amount ($56) to the qualifying Social Security income results in $1,556 ($1,500 + $56).
Using Your Nest Egg
Different methods can be used to calculate the income your nest egg could provide. One method is asset depletion, dividing eligible assets by your loan term. For instance, a $700,000 IRA divided by 360 months (30-year mortgage) translates to $1,944 per month. “You don’t ever have to take the money out — but you can use your assets [to qualify for a mortgage] as if you were going to take the distribution,” says Cohn.
Alternatively, if you are at least 59-1/2, you can start taking monthly distributions from an IRA or 401(k) without penalty, and the lender will count this as income if you show you have sufficient funds for three years of distributions. This flexibility allows you to adjust distributions after closing, assuming you are not yet required to take minimum distributions by the IRS.
Assessing Debt and Income
Lenders will assess your debt-to-income ratio, which includes your expected mortgage payment and other debts like credit card, student loan, and car loan payments. For conventional loans, your DTI ratio can be up to 50%, and between 43% and 45% for jumbo loans.
Preparing for a Mortgage
Before seeking a mortgage, understand your expected monthly income and expenses in retirement. “Most (new retirees) see a decrease in income,” says certified financial planner Lori Trawinski, director of finance and employment at AARP. While some expenses decrease, others like medical costs, property taxes, home insurance, and utilities may increase.
Consider what will happen to your household income when one spouse dies, as this can significantly impact your comfort level in carrying a mortgage.
Renting First
If moving to a new state or region, consider renting first to gauge the cost of living and fit for your lifestyle. As Jim Stork notes, “Florida in August is not as fun as Florida in January.”
Balancing Debt and Investments
Avoid taking on more debt than necessary, as mortgage costs are fixed, but returns on investments, the housing market, and health needs are variable. Putting down at least 20% to avoid private mortgage insurance and being comfortable with home maintenance costs, which might be 2% of your home’s value annually, are also crucial considerations.
Comparing Interest Rates
Compare your mortgage interest rate to the return on your investments. With current rates around 7%, it’s a harder calculation, especially for conservative investors. If your CDs earn 4% and a mortgage costs 7%, you lose money daily on that decision, explains Stork.
In conclusion, moving somewhere new in retirement and deciding on a mortgage involves careful consideration of income, debt, and overall financial health. It’s essential to weigh all factors and perhaps consult with a financial advisor to make the best decision for your situation.