Q. I divorced five years ago at age 55 and am now trying to decide when to retire. I’d like it to be sooner rather than later, but I need to determine whether I should continue paying a $300,000 mortgage into retirement, or sell my townhouse and pay out monthly rent that exceeds my current combined monthly mortgage and property tax payment. Are there any guidelines for making this decision?
A. Everyone knows that you “should” try to avoid going into retirement with debt. It’s a good goal, but sometimes, life throws you a curveball. Things like disability or death can be insured against, but a third “d”—divorce—can make it tough to recalibrate in the late stages of your career.
Sometimes, monthly rent can exceed the mortgage payment on a similar home. But that’s not the best way to decide whether renting would be better than continuing to own or not.
Those who criticize renting over home ownership often ignore some costs of owning a home. Beyond a mortgage payment and property tax, home insurance is higher when owning versus renting. Condo fees may also apply. There are maintenance costs, repairs and renovations. If mortgage rates rise to more normal levels, you can expect your mortgage payment to be higher in the future. Home ownership has costs as well as benefits.
An owner does get the benefit of some of their mortgage payment going towards principal repayment, reducing their mortgage balance. Their home is also hopefully appreciating in value as they own it.
In your case, Karen, selling would enable you to pay off your mortgage, avoid the ongoing interest costs, and have additional cash to top up your Tax-Free Savings Account (TFSA*), Registered Retirement Savings Plan (RRSP*) and invest.
Those investments may generate a better rate of return than your home value appreciation and mortgage repayment. Some cities across Canada have seen great returns for homeowners and real estate investors, but I think it’s important to consider how real estate prices have grown historically.
Canadian real estate has grown by about 2.5% in excess of inflation over the past 30 years. But if we look at long-run data from the U.S., home prices over the past 130 years have risen by less than 0.5% in excess of inflation. Given an inflation rate target of 2% for the Bank of Canada, you may not realize 5% plus real estate price growth over the next 30 years. Canadians have been spoiled over the past generation.
I’m hesitant to use rules of thumb with financial decisions. You should consider all the factors, Karen.
I have a client who has been renting a home in Stouffville for $2,016 per month. The home is worth about $850,000. I have another client who just bought a condo in Toronto for $545,000. Rents in the building are about $2,200 per month, and condo fees are modest due to limited amenities. The Stouffville renter is paying 2.85% of the market value in rent. The Toronto landlord is hoping to get 4.84% of the market value in rent.
One could say that Stouffville, in this case, may be a renter’s market, and Toronto may be more balanced. Looking around the Greater Toronto Area, or elsewhere across the country, I am always amazed to see what the range in rents relative to market values of real estate. Some areas may favour renting over owning from a strictly financial perspective.
I’m biased as a financial planner who builds retirement plans, but I think a comparison of two scenarios—owning versus renting—would help provide some perspective. That’s the only way I know to answer a question like this unequivocally that factors all implications. Whether you do so on your own or with a professional, a thorough analysis could help answer your question, at least from a financial perspective, Karen.
Modelling home ownership versus renting is not an easy, back-of-the-napkin analysis. If you sell, you have selling costs, debt repayment, money to invest and tax implications from how you invest that money.
If you continue to own, you may have a higher interest rate on your debt at renewal compared to current rates, varying maintenance costs from year to year, and may still need to sell at some point in retirement.
There are lifestyle considerations with renting. You may not have the same stability as owning if your landlord decides to sell or move in or do a renovation. But you may have less stress than having debt payments. Owning may be forced saving. Selling and having investments may cause you to overspend.
Even a thorough retirement plan is only good the moment it is completed, and then the hundred variables held constant for the calculations change immediately as real life continues to unfold. But it is better than a rule of thumb or quick answer to your question, Karen.
I would start by checking out places in your neighbourhood to get a sense of potential rental costs. From there, doing some retirement planning on your own or with someone else could help you determine how close you are to being financially independent, what retiring with debt means for you, and if and when you might need to consider a potential downsize or home sale.
Jason Heath is a fee-only, advice-only Certified Financial Planner (CFP) at Objective Financial Partners Inc. in Toronto, Ontario. He does not sell any financial products whatsoever.
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