Q: I retired this year and my mortgage is coming due soon. My advisor said to keep the mortgage as rates are low and keep the money invested to keep making me money.
I’m not sure this is wise, and my advisor works for the bank who holds my mortgage.
What do you think?
A: Ideally, retirees should strive to have their debts paid off by retirement. Practically, I can appreciate that doesn’t always happen due to a variety of factors.
In much the same way you should aim to debt-free by retirement, retirement is also a good time to evaluate the ways in which you can pay off any existing debts.
For some retirees, that may include a home downsize, which may or may not be a necessary or even a practical component of a retirement plan.
In your case, Liz, it sounds like you have investments with which you can pay off your mortgage. The question is: what are these investments?
If the investments in question are in a Registered Retirement Savings Plan (RRSP) or a similar tax-deferred account, you need to consider the tax implications of using these investments to pay off your mortgage. Taking a large, lump-sum withdrawal may result in significant tax payable and a much smaller after-tax amount that can be used to repay debt.
In this instance, you may in fact be better off taking withdrawals over several years to supplement your cash flow and debt repayment
If the investments in question are in a Tax Free Savings Account (TFSA), it may be that much more of a toss-up as to whether you should use the investments to pay off your mortgage. Paying off your mortgage results in a guaranteed return, like buying a Guaranteed Investment Certificate (GIC), compared to your TFSA, which may be a riskier investment in stocks and bonds.
The interest rate on your mortgage may be low now. Let’s say it’s in the 3.5 per cent range. If you think you can earn a higher return on your TFSA, that may be one reason to stay invested. But mortgage rates will rise, so it’s not necessarily today’s rates you should be worried about – it’s also the future interest costs as rates normalize.
Stock market returns may also be lower over the next 10 years than they have been over the past 10 years, simply because stocks have had a good 10-year run.
If the investments in question are in a non-registered, taxable account, I may be that much more inclined to consider paying off your debt, Liz. The investments in this case would generate taxable investment income, and your required rate of return would need to be higher to account for taxes payable and justify staying invested over paying off your mortgage.
If your investments are non-registered investments, by choosing not to pay off your debt, you are effectively borrowing to invest, and need a moderate to high risk tolerance and a medium to long-term time horizon to increase your chances of coming out ahead.
I would also consider in this case, if you decided you didn’t want to pay off your mortgage, to at least pay off the mortgage initially with your investments, and then borrow the money back to invest. By tying the debt to your investments, rather than just your house, the interest will at least be tax-deductible.
This approach comes with a huge asterisk though, as I’m not a big fan of borrowing to invest at the best of times, much less in retirement. But if you’re going to do it, at least consider making the interest tax-deductible.
Another consideration, Liz, if the investments are non-registered, is that you may have capital gains tax to pay on liquidation. Unless the gain is significant and your income is high, the capital gains tax may not really matter much compared to becoming debt-free.
I can’t help but be skeptical that your advisor’s advice is to “keep the money invested to keep making you money”. Unfortunately, the Canadian financial advice industry is such that you need to take your advisor’s advice with a grain of salt, however disconcerting it is for me to say that.
In this case, your choice to keep the money invested keeps making them money. You staying invested ensures the bank gets paid twice – from your investment fees and from your mortgage interest.
In summary, Liz, the more conservative an investor you are, the more inclined I would be to consider using your investments to pay off your mortgage. If the investments you would use are non-registered investments, I’d be most inclined, and if they are RRSP investments, I’d be least inclined.
Consider your risk tolerance and the tax implications primarily, Liz, while taking your advisor’s advice with a grain of salt.
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.