|The equity in your home can be tapped to help pay for retirement.
By Rachel Hartman, Contributor
IF YOU’VE PAID OFF YOUR mortgage or most of it, the home you live in could become a retirement asset. Part of the property’s value might be used to partially fund your retirement. However, tapping home equity for retirement isn’t always a simple decision. Consider how much equity you have in your home and your overall portfolio to determine whether to use home equity for retirement income.
What Is Equity in Your Home?
Equity refers to the market value of your home, minus what you owe. If you have a remaining mortgage loan of $100,000, and your house is worth $200,000, your home equity would be $100,000. If your home is valued at $250,000 on the real estate market, and you’ve paid off your mortgage, you would have $250,000 of home equity.
The amount of equity in your home belongs to you. If you have $50,000 of home equity, for instance, that figure isn’t owned by another party, like a bank or lender. You might be able to use this home equity to help fund retirement costs. “Home equity can be an untapped resource of funds,” says Juan Carlos Cruz, founder of Britewater Financial Group in Brooklyn, New York. However, it is not as easy to access home equity as it is to get other funds, such as cash you might have in a checking account.
Ways to Use Home Equity for Retirement
1. Downsize and invest the remaining funds.
You could sell your home and purchase a smaller, less expensive house or apartment in the same area. “Your new home hopefully costs less to maintain than the larger home you sold,” says Joseph Alexopoulos, a fiduciary financial advisor and managing director at Miracle Mile Advisors in Los Angeles. You could place the extra proceeds from the sale into an investment that will lead to additional income.
2. Sell your place and move to a cheaper location.
Relocating to a city with a lower cost of living could reduce your monthly expenses. You could then invest the freed-up equity from the sale of your home.
3. Take out a reverse mortgage.
A reverse mortgage is a loan that allows homeowners age 62 and older to borrow against the value of their home. “With a reverse mortgage, you can either take all the equity out in a lump sum or choose to take small disbursements monthly for a long period of time,” says Ralph DiBugnara, president of Home Qualified and senior vice president at Cardinal Financial in the New York City area. When the homeowner dies or moves, the proceeds from the home’s sale will be used to repay the loan balance, interest and fees.
Reverse mortgages can be complex and aren’t always a good fit. “Be sure to do your research and understand that certain terms and conditions apply that may consume more equity than you had planned to use,” Cruz says. “Speak with a loan specialist in regards to the details of how reverse mortgages work.” Taking out a reverse mortgage may mean that you won’t be able to leave your home to heirs.
4. Take out a home equity line of credit.
A HELOC allows you to borrow against the amount of equity you have in your home, and the home is used as collateral. “HELOCs are probably the easiest way to access your equity,” Cruz says. With this arrangement, you can use the funds toward certain purchases, such as home repairs or purchasing a vehicle. Home equity lines of credit generally have variable interest rates, which could make budgeting for repayment difficult for retirees on a fixed income.
Should You Use Home Equity for Retirement?
Some retirees find themselves short on savings and tap into home equity to cover essential costs. “They have to face the realization of having to reduce their lifestyle or to look for other sources to help fill in retirement income gaps,” Cruz says. Those in need of more funds might find accessing home equity to be beneficial to maintain their current standard of living.
Using home equity comes with certain tax benefits that retirees might appreciate. “For your retirement, your home can be your biggest tax-free asset,” DiBugnara says. When you sell your home, you won’t have to pay taxes on the proceeds, up to a certain amount. For individuals who file taxes as a single person, the IRS limit is $250,000. If you file jointly, you won’t have to pay taxes on the first $500,000. For those who have paid off their mortgage, the sale of a home could free up funds and avoid some taxes on the gain from the transaction.
However, using home equity for retirement may not be the best choice for everyone. It could mean that children won’t inherit the home you currently live in. “The biggest objection to using home equity in retirement often comes from heirs,” says David Dye, the owner of GoldView Realty in Los Angeles. “Sadly, it is often hard to convince some heirs that a retiree’s comfort in their advanced years should come before any inheritance.”
In addition, you may prefer to increase income in different ways, such as through a side job or by starting a business. If you have a substantial nest egg or want to remain in your home and pass it on to your beneficiaries, you might choose not to use home equity in retirement.