I am a late starter to retirement planning. Should I count my house or the equity in my house as an asset in my retirement plan?
If you are playing catch-up on your retirement planning, you need to maximize every asset you have to make retirement a reality.
In general, financial planners don’t count the equity in your home when constructing a retirement income plan. Practically speaking, you need a place to live! So financial planners count it as a personal asset, even though it’s a large part of your net worth.
Late starters to retirement planning need to think differently. Your home can be leveraged to help enhance your retirement plan.
Home equity can be tax-free
Your home is a special asset in the eyes of the IRS. According to IRS Tax topic 701, as of February 2018 (which means this remained under the new tax law), if you are married filing jointly, you can exclude up to $500,000 in gains from income taxes on the sale of your residence. (If you file as an individual, you can exclude up to $250,000 in gains.)
That’s right. You can buy a house, live in it, sell it, and pay no taxes on up to half a million dollars. You just have to pass an “ownership test” and a “use test.” In other words, you have to own the home and have lived there two out of the past five years.
For example, if you bought a home for $250K, lived in it for at least 24 months out of a five year period, and sold it for $750K, the gain of $500K would be free from income tax. Pretty sweet!
How to turn home equity into retirement income:
1. When you retire, you can downsize and invest the proceeds.
Once you stop working, sell your home, buy something smaller and less expensive, then take your gains from the sale and invest them to provide an income stream.
A smaller place can be less expensive to maintain, too. Property taxes may be lower on a less expensive home, since they are usually based on a percentage of the value of the property. Heating or cooling a smaller space can be cheaper, too.
Alternatively, you could rent! The downside of renting is having to write a check to your landlord every month. The upside is you invest the entire proceeds of your home sale to work for you.
2. Sell your house and move to an inexpensive place.
Check out the Forbes 2018 Best Places To Retire list and find your bliss. Don’t just look for tax benefits — for example, states such as Nevada and Texas have no income taxes — but also pick a place where you can live well on the cheap. College towns, for example, can bring a whole host of benefits to retirees nearby.
Whether you buy a smaller place or rent, your money can go further in less expensive areas. Check out a cost-of-living calculator to determine how a move would benefit you. For example, if you live in Los Angeles and currently make $100,000 per year, you’d only need $64,000 per year in Lincoln, Nebraska to afford the same lifestyle. Of course, you’d have to buy a few sweaters and some snow tires, but it may be worth it so you can retire.
3. Sell your house and move abroad.
According to Rick Eisenberg of NextAvenue, Costa Rica is top of the list of best places to retire internationally. You can rent a two-bedroom home for $500 a month, and medical care is very affordable.
The good news about moving to an exotic place is your family will want to come to visit regularly. With the help of technology like Skype, you can also keep in touch with your kids and grandkids on a regular basis.
It’s not set in stone, either. You can always move back!
4. Sell your home, invest the proceeds, and live for reduced rent.
Manage the onsite and day-to-day operations of an apartment or condo complex you move to and live for free or reduced rent for part-time work.
5. Sell your house and move in with your kids.
Families all over the world live in multi-generational homes. Today, multi-generational housing is still a niche, and it’s driven mainly by grown kids moving in with their parents. But it’s a rising trend.
Whether you live in a completed basement, mother-in-law quarters, or in the extra bedroom, living together as one big family can work.
Young parents appreciate a second set of hands with the kids. Grandparents can be handy for picking up the kids at soccer or dance class. If you love to cook, you can promote regular family dinners that are often missing in today’s busy world.
There may be other emotional benefits, such as bringing your family closer together, but it certainly works financially.
6. Rent out space.
If you love where you live and don’t want to downsize, stay in your house and rent out a room or your basement. You could rent to a graduate student or medical resident who is quiet and focused on their studies. Rent to a retiree who sold their home and now wants to rent!
Use technology to expand your reach. AirBnb and VRBO are great for short-term rentals. If you’re looking for a more long-term situation, try something like SilverNest, a site for seniors looking to share space.
7. Stay in your home and take out a reverse mortgage to tap into your equity.
A reverse mortgage is a loan that allows you to tap into your home equity, either as a lump sum or a line of credit, while still owning our home. You can use that money to supplement other retirement income that you have.
A Home Equity Conversion Mortgage is a type of reverse mortgage that is insured by the US government. You must be over the age of 62 to qualify for it.
Since the property is still yours, you’ll need to maintain your home and pay the taxes and insurance. When you sell (or your heirs eventually sell), the loan is paid off and any remaining equity in the home is yours to keep. If the value of the home is less than the loan value for some reason, since it’s a non-recourse loan, the heirs aren’t liable for the difference.
The downside of a reverse mortgage is that there are closing costs which can be high. But if you want to stay in your home and want to use home equity for retirement expenses, it’s a way to tap into the equity for retirement income so it’s worth exploring.
There are pros and cons to any money move. Selling your home and buying another involves costs of the transaction and the move. Renting out a room to a student, a senior, or on AirBnb can be a hassle. A lender charges fees for a reverse mortgage. Nothing is perfect.
But if you haven’t saved as much as you wish you had, but you own your home, you have options. Consider ways to turn your home into a retirement income stream. Talk with a financial advisor and tax professional to get personalized advice before making any financial moves.
A few sacrifices can make the difference between being able to retire or working until you are 80.