Should my wife and I deplete our cash reserves, withdraw from my 401(k), or use a HELOC to finance home improvements?
I am a 61 year old retired married man. My pension is $3,723 per month. I plan to start collecting Social Security ($2,048 a month before taxes) at age 62. I have $300,000 in a 401(k) account which is invested in a fixed-interest fund. My wife is 51 years old and will retire in nine years with a pension of approximately $3,460 per month. She will have approximately $900,000 in her 401(k) at retirement and plans to collect a similar amount of Social Security at age 62.
We borrowed $115,000 from a relative to purchase a house worth $265,000 and are in the process of securing a mortgage to pay it back. We are currently debating the length of the mortgage (input on this would be appreciated). We plan on updating and improving the house over the course of the next two to three years and plan to spend around $80,000. We have no other outstanding debt and have $70,000 in cash and a vacant lot currently for sale worth $85,000 as our only liquid assets. Should we deplete our cash reserves, withdraw from my 401(k), or use a HELOC to finance home improvements?
Get as big a first mortgage as you can (more than $115,000 if possible; 70% LTV would get you $185,000). With over $7,000 in monthly pension income plus her salary, you should easily qualify. A HELOC is a good fallback but rates on HELOCs are higher so try for the first mortgage. A 30-year mortgage will have a much lower payment than a 15-year so go for the lowest payment. Don't touch your savings.
I am really writing to tell you to wait on collecting Social Security. You are much better off not taking the smaller payout at 62, and waiting until 66 for the bigger check. The difference is about 8% per year. Sell the land and live on the proceeds for the next four years.
If you do this, also invest the $70,000 ($155,000 if you sell the land) in something that pays a higher rate than your mortgage. You can do this with relatively low risk if you own REITs or a preferred-stock fund. Good luck.
Happy retirement to you! Looks like you both have a bright future, especially considering the steady pension for both of you. However, a few things I want you to consider:
1. If your pension plus your wife’s earning can cover the living expenses, I would suggest you wait to file social security. It’s not an easy call as many people fear they miss the boat. The truth is if you have a longevity gene in either or both sides of the family, your postponement can generate a bigger paycheck from the SSA, and it’s for a lifetime. That’s a wonderful thing.
2. I’m concerned about your fixed-interest 401k account; sounds a little too conservative for me. It needs a review from a pro to better assist you and design an appropriate portfolio for both growth and income.
3. I don’t recommend depleting your cash unless you have an emergency fund somewhere. Tally up your annual living expense, and that should be the amount for your emergency. I would even suggest putting the fund in a checking account for the quick access without any penalty.
4. Ideally I urge all my clients to be deb free before the retirement, but everyone ‘s situation is different. In your case, you’re already retired. Let’s not postpone the debt further. Thus, a 10-year or 15-year loan is highly recommended. You may apply HELOC at the time of filing your mortgage application.
5. Lastly, to answer your question, using the proceeds from the vacant lot to finance your home improvement sounds sensible. Best!
I agree with Joshua's thoughtful response. I would underscore his comment about not taking Social Security until later.
There are two main risks to evaluate in long term financial planning: The first risk is having enough money for current living expenses and lifestyle. With your pension and your wife's income, plus your cash reserves and lot for sale, it sounds like you have enough to live on now. So, the risk for your current lifestyle is low.
The second risk is running out of money in the distant future. This risk should be considered carefully. If you outlive the life expectancy tables, the extra money you would receive every month from Social Security (by delaying receipt until age 70) would be like wind at your back no matter how long you live. A further advantage of delaying Social Security is that with your wife working now, you might be in a higher tax bracket than you will be at age 70 (or at age 72 when your wife plans to retire).
Aside from the risks and tax considerations, a good reason to take Social Security early would be a medical condition that is likely to cut short one's life. I hope this is not the case.
Good luck with your decisions.
I agree with the previous answers...
You and your wife have plenty of guaranteed income in the form of pensions and Social Security (as well as $1MM+ in assets).
- I would NOT liquidate your retirement account to pay for it, as this will create a huge tax liability for you (only based on what you have told us, I would guess it would cost you 25%+ in taxes).
- I would also not liquidate your cash account, as it is always important to have plenty of cash on hand for several reasons.
- My suggestion would be either a home equity LOAN (not a Line of Credit/HELOC, as rates are only going to climb from here) or a mortgage to cover the loan to your relative and the home remodel.
Here's the thing with the length of the mortgage...a 30-year mortgage gives you much more flexibility. The payments are much lower than a 15, AND if you decide eventually that you want to pay it off quicker, you can simply make additional principle payments. The difference between 30 and 15 year mortgages are so small today (0.35 - 0.65% difference), that it barely makes a difference. But the flexibility can make all the difference for you.
I know this answer is rather redundent (as it echos much of what's already been said), but I think it's important to know when there are multiple financial planners all in agreement.
Congratulations on being set up so well for retirement. I'll answer your question first, but I also want to offer some additional advice which will be important to your long-term financial security. I would not recommend withdrawing from either retirement account for the improvements, nor would I recommend getting a HELOC. Both options will increase your risk and harm your ability to enjoy a comfortable retirement over the long-term.
If you can wait on the home improvements, I recommend using the proceeds from the sale of the vacant lot. This preserves your retirement accounts, avoids unnecessary taxes, and leaves you with plenty of cash for an emergency fund. Another option would be to get a first mortgage of $195,000 instead of $115,000. You would then have enough money to pay your relative back, and another $80,000 for the home improvements. Because you will still be well above 20% equity in the home, you will avoid primary mortgage insurance. This reduces the interest costs verses the HELOC and will provide a fixed interest rate.
For the mortgage term, I recommend a 30-year mortgage. The payments will be smaller, which will allow you to avoid drawing down your retirement funds (and paying extra taxes) just to pay a low-interest loan. Because you and your wife's pension income far exceed the mortgage payment, you shouldn't have a concern about making a mortgage payment for the next 30 years. Conversely, a 15-year mortgage will have a much higher payment and will reduce your income during the early part of your retirement when you will be most healthy and able to enjoy the money.
I also recommend talking with a financial adviser before you and your wife collect Social Security. Based on the information you provided, you don't need to take Social Security at age 62. Depending on your health and other factors, waiting to claim Social Security until a later age could significantly increase your retirement income. Waiting until age 70, for example, would increase your Social Security checks to approximately $3,600. Over a 30-year retirement, this difference would be hundreds of thousands of dollars.
A good financial planner can run the numbers of your retirement income over a 30-year retirement to show you how the different retirement options play out mathematically. Then you can make a more informed decision.