Question: I now have saved $50,000 and my husband has saved $40,000 in the bank. We pay mortgage each month about $1,000 and we still have more than $120,000 to pay for 29 years.
My question is: should we pay off our mortgage within the next year? If not, what should we do or invest with our savings? How will we plan for the future? We have no kids. I have a retirement plan, 403 with my employer but my husband has nothing. My husband plans to retire next year but I’ll keep working. Thank you very much. Sue, Grand Fork, North Dakota
Answer: I think in the heart of every homeowner burns an intense desire to say goodbye to the bank for the last time and own a home free and clear. It’s a wonderful moment, and if you have the money there’s nothing wrong with paying off the mortgage to live debt free.
That said, I’d like to throw a couple of cautions against your getting rid of the mortgage right away. For one thing, you’re putting most of your financial eggs in one basket — a home. That’s another way of saying that your financial health is now dependent on how one asset performs in coming years and, as we are witnessing right now, home prices can go down as well as up. I’d prefer that you build up a well-diversified portfolio in cash, stocks, bonds, commercial real estate, commodities, and international equities. Your home will then shrink as a percentage of your net worth. Once you’ve built up a well diversified portfolio, then by all means pay off the mortgage.
What else could you do with the money? I’m glad to see that you’re participating in your retirement plan at work. One idea is to create a long-term portfolio in a taxable account. This way you can access the money without paying the 10% penalty you have to fork over if you tap into your retirement account under the age of 59 1/2. To keep your annual tax bill down, I’d recommend investing a chunk of the money into broad-based equity index funds. For example, with an equity index fund that mirrors the Standard & Poor’s 500 or the Wilshire 5000 you’ll pay very little capital gains tax every year since there isn’t a professional money manager churning the portfolio every couple of weeks. You will, however, pay taxes on dividend payments and when a company is taken out of the index, say, through a merger or acquisition.
Another tax saving tip is to put the fixed income portion of this investment into I-bonds. Inflation is every saver’s nightmare. Even if inflation averages a low annual rate of, say, 2% to 3% over the next quarter century, that’s still enough to depreciate the value of a today dollar by nearly half. The I-bond is a savings bond, and it shares many of the same attractive investment features as its better-known cousin, the Series EE savings bond. There are no commission costs imposed when buying or selling I-bonds. I-bonds are sold at face value (up to $30,000 a year) and earn interest for 30 years, although you can sell after five years with no penalties. You don’t pay any taxes on the investment until you cash in the bonds. There’s no credit risk since the I-bonds are backed by the federal government. Its value adjusts to take into account changes in the Consumer Price Index, and you’re also paid interest on your money. (You can get much more detail about I-bonds at www.savingsbonds.gov.)
A final point: It seems to me that you’re at a major transition point with your husband retiring and you continuing to work. It’s at times like this that a fee-only certified financial planner (CFP) can help you create a financial blueprint for the next stage of life. The planner would help you look at your whole portfolio, your stream of income and savings, and match your finances to your lifestyle goals. And you can run by the CFP the ideas I’ve suggested to see if they will really work for you. Good luck.
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