Homing in on what's right for you
To repay the mortgage or not to repay: that is the question facing many of our clients at retirement.
At Reeves our philosophy is that investment has to be an active process and action has to be taken as necessary when circumstances and markets change.
We have described elsewhere how this informs our approach to asset allocation in our portfolio, but it should also apply to everyone. Stay flexible, keep your financial arrangements under constant review and be prepared to changed them when circumstances change.
This is particularly the case when it comes to handling mortgages in retirement.
Commonly our clients enter retirement and still have mortgages and they regularly come to us to discuss their options.
Dave Smith retired with a mortgage of £120,000. He had a healthy pension fund as well as other savings and investments. He and his wife Shirley were both only children and were confident of being the beneficiaries of significant inheritances.
Dave was aware that they had significant capital tied up in their property, and that at some point the equity in the house could be used to support their retirement.
We discussed the following options:
Option 1. Pensions/Savings/Investments
The first decision was whether to use savings/investments or his pension to pay off the mortgage. We addressed the complex issues of using pensions in our article last month.
To summarise, we generally do not think this is a good idea.
Using savings and other investments is a serious option. There are a number of factors involved, the most important being the relationship between the cost of the mortgage, set against the likelihood of the investment outperforming that cost, also taking into account the client's attitude to risk.
In Dave's case, his mortgage has a 2% annual interest payment and he has an adventurous approach to his investments. Therefore, it's appropriate to estimate he will potentially earn more in the longer term by maintaining his investment position. This can be reviewed on a regular basis.
His neighbour, John, on the other hand, has a cautious attitude to risk and, in a similar situation, decided to use his savings/investments to repay his mortgage. This was because he wasn't comfortable with the investment risk involved.
Option 2. Downsizing
The home is often a person's largest asset and should not be excluded from your retirement planning. Selling a large house with excess room to purchase a more suitable sized property can release an additional pot of money that can be used for your retirement.
Dave's parents had downsized when they left their family home to move into their retirement home. Dave expects to sell his own house at some point, clear his mortgage and use any additional balance ('Equity') from the sale to boost his retirement savings.
Option 3. Inheritance
Dave doesn't have a timescale on when he wants to downsize, therefore, it may be he receives the inheritance from his parents before the time comes to sell. In this case, he would use this to pay off the mortgage.
Option 4. Equity release
If Dave's circumstances change, in that he fails to get his inheritance or decides against downsizing, then his fall-back position in the longer term is to use the facility of equity release to clear his mortgage and reduce the costs associated.
Equity release is a way to benefit from the value built up in your home to provide you money in retirement. This option can often be overlooked as people are sentimental about the family home. However- it is becoming more and more relevant for people who want to enjoy their retirement more.
Dave's position is typical of many of our clients when they enter retirement. Keeping your options open and maintaining flexibility is key to a good plan. What seems like a good idea today might not be in three year's time and what isn't a good idea today might be in three year's time. Your health changes, your mind-set changes, your children's situation changes, all of which can reasonably affect your decisions.
Once you've made your investment arrangments, don't sit back and forget about them. Keep them under constant review and keep talking to us.
At Reeves, we're very keen on hearing from our clients when making these decisions. Please get in touch as this is a key service.
Each decision comes with its own risks and opportunities that need to be considered when making any recommendation.
It is important that no actions should be taken without first taking advice. Personal circumstances and an individual's appetite for risk means that the advice for one person may not be the same for everyone. The information in this blog or any response to comments should not be regarded as financial advice. Reeves do not advise on Defined Benefit pension schemes. Reeves do introduce a third party specialists in areas of work we do not cover. Please note: This article has been published with the use of a fictional character to outline a case study.