Q. My wife and I are 62 and 64 respectively. We are fully retired. We own our home free and clear. And we are considering a move in order to downsize and reduce the financial and physical maintenance costs of our current house. We like the idea of renting, though we have always been homeowners in the past, because we don't want to be burdened with the illiquidity of another home.
If we cash out of our current house, we will have at least $200,000 of tax-free funds. We're thinking that this money should be set aside in risk-free or low-risk investments and earmarked for rent payments. In this way, we are paying our rent from the equity in our home. So we won't need to tap into our traditional IRA to boost our income for the rent, thereby avoiding higher income taxes. It will also allow our current budget to be unaffected, even though we will be making rent payments in the future. Is this a sound strategy? If it is, what type of investments would you think to be suitable for the $200,000?
We are also concerned that the folks in Washington, DC may change the tax code to eliminate the $500,000 a couple can keep tax-free of gains from home appreciation. We think that selling our home and cashing out sooner, rather than later, would eliminate this concern. It would also be nice to “beat the rush” if others also decide to cash out of their homes to avoid losing this tax-free benefit. Do you envision a rewrite of the tax code to include the elimination of this source of tax-free cash? —A. M., Dover, DE
A. You may be overthinking this. While reductions in all "tax expenditures" (the label Congress uses to describe any tax breaks people or businesses receive through special tax provisions) are likely to be under consideration for years to come, this is a change that would likely be fought house by house and street by street, as well as by the usual lobbying groups. So a tax change should not be a major consideration in your shelter decision. Also, the tax-free benefit is for appreciation on the house, which is different from home equity.
It's also not clear that avoiding "ownership risk" is a good play since you have to give up the powerful inflation hedge of housing to do it. Finally, it is entirely possible to own a home where virtually all exterior maintenance is taken care of by your homeowner association, e.g. town homes and patio homes.
The real issue here is “right-sizing” not down-sizing: Picking the shelter arrangement that serves you best. So while avoiding or reducing risk is a good idea for your $200,000 of home equity, giving up all return in order to avoid an increase in taxes is pretty close to cutting off your nose to spite your face.
What you could do is (a) establish a cash fund to pay rents for a particular period and (b) invest in a balanced mutual fund that invests in stocks and bonds. Many of these now yield about 3 percent so you would have about $6,000 a year of new income to contribute to your new rental expense. Savings from the lower operating expense of an apartment or condo compared to a house might come close to covering the remaining rental costs.
Q. Social Security benefits change depending on the age when they are begun. Ages 62, 66 and 70 are typically cited. Is there a sliding scale between these benchmark ages? For example, if one retires at 64 are the monthly benefits the same as that realized if one retired at 62? Or are the benefits somewhere between those received at 62 and 66? —J.H., by email
A. Your benefit will be increased for each month of delay from age 62, the earliest age at which you can get benefits. The monthly increases continue to age 70, and then cease. Between your full retirement age (which depends on the year in which you were born) and age 70 your benefit will increase by 2/3rds of 1 percent a month. Between age 62 and full retirement age the increase in benefits depends on your year of birth.
The reduction in benefits for taking them at 62 rather than full retirement age is about 25 percent, a bit more than 6 percent a year. So your benefits will increase somewhat less for the period between age 62 and full retirement age than they will increase for the period between full retirement age and age 70.
Filed Under: Retirement