THE BASIS POINT

How Can Your Home Help You Save For Retirement?

 

Last month, the Washington DC-based Employee Benefit Research Institute (EBRI) released their annual retirement confidence survey. It showed that 68% of workers are confident about having adequate funds for a comfortable retirement. Yet it also showed that more than half of all workers say they’ve saved less than $25,000 toward retirement.

It doesn’t take a statistician to realize these two figures don’t correlate. And it doesn’t take a doomsayer to be worried about the implications. Especially when you consider that 40% of workers over 55 are in that sub-$25,000 savings category.

So we wanted to take a look at the retirement savings issue through the lens of home ownership. There are countless ways to save for retirement, but property investment is different because there is some tangible benefit along the way – you get your own place to live in right now, and you also get a built-in savings plan for the future.

Home Appreciation Vs. Saving Your Paychecks
Let’s use the example of a couple. Both partners are 25, they earn a total of $125,000 per year, and they want to retire at 60. To do this they’d need to save 15% of their income according to Principal Financial, a retirement planning firm that funded the EBRI study. At their current income level, this means the couple should set aside $18,750 this year; and 15% of their income every year after.

But what if they don’t want to part with that 15% for the first five years until they get a few promotions? Often, people early in their careers are too busy pursuing promotions to think about retiring. They’re often more interested in establishing a certain level of comfort for their daily lives. So let’s say this couple buys a $500,000 home instead of saving 15% of their paychecks.

If we assume an appreciation rate of 4% per year, that home’s value will have increased by $108,326 in the first 5 years. This averages out to $21,665 per year, which is more than the 15% of their paychecks they’d need to save for retirement.

By buying a home, they achieve their retirement savings goal and they achieve the goal of having their own home while they build their career and their family.

The Fine Print
Even if this couple bought their home with 100% financing (at a 6.25% 30yr fixed rate), their fully amortized mortgage payments plus taxes plus insurance would cost them about $3678 per month. Clearly more than a rental payment, but it was $0 out-of-pocket to get into the home, and they’ll also save about $11,175 per year after their mortgage interest and property tax deductions (at a 30% tax rate).

Relative to their current income, this is a 35% debt-to-income level, or if you include an extra $800 per month for cars and credit cards, it’s about 43% debt-to-income ratio. This is considered normal for a young couple, and it’s also being calculated before tax benefit.

After the couple gets a few promotions at work, this couple could start allocating 15% of their incomes to tax-deferred investments like 401(k)s or IRAs. As their income grew, they would also need decide whether it makes sense to pay down home equity more aggressively with the extra money or convert home equity into IRA investments.

But in those initial years, the home ownership would get their desired reprieve from giving up 15% of their income, and they would still exceed their 15%-of-income savings target.

Part of a Broader Plan
Of course, the scenario above is specific to one situation, but it helps make the point that home appreciation often exceeds what most people are able to save on their own for retirement. It is then up to the individual on how to access and/or leverage that equity for retirement – whether it’s downsizing their home later in life and taking profits, establishing a reverse mortgage that pays out cash monthly, or doing a conventional cash-out refinance in order to invest those funds in a tax-deferred, retirement account that provides safety of initial principal invested.

These are decisions you can make with advice from a properly qualified mortgage consultant and financial planner. They can help you understand the role of property in your retirement plan.

Property is a critical piece in the retirement puzzle. And as the sobering findings of the EBRI study show, people need to take action and plan for retirement in some way. See the bottom of our contact page if you need a recommendation for a mortgage planner or financial planner.

 

READ OUR NEWSLETTER

YOUR COMPETITORS ALREADY DO

Comments [ 0 ]

WHAT DID WE MISS? COMMENT BELOW.

All comments reviewed before publishing.

seventeen + nine =

NEED CLARITY IN ALL THIS CONFUSION?

GET OUR NEWSLETTER.

x