But if you haven’t planned ahead, those golden years could be full of stress—fraught with unknowns and major decisions to be made. And one of the biggest, most stressful aspects of retirement is, you guessed it, real estate.
Do you downsize? Buy a second property so you can make like snowbirds and fly south for the winter? Keep the home where all your family’s memories were made? While there’s no one-size-fits-all solution, there are some general pitfalls to avoid.
5 Major Mistakes That Retirees Make With Real Estate
1. Failing to ‘audit’ the situation
It might come as a surprise, but many retirees forget to assess their current real estate situation to make sure it meets their future needs, according to David Reiss, professor of law at Brooklyn Law School.
“Most people are on autopilot when it comes to their home: ‘It has worked for me up to now, so I assume that it will work for me going forward,'” Reiss says. “The mistake they make is that they do not realize that their future selves are very different from their current selves.
“As we age, our ability to do all sorts of physical things worsen—shoveling, climbing ladders—decreases,” he adds. “So it makes sense to assess your housing situation at regular intervals.”
Even if you plan on keeping your home, there are questions you should ask yourself: Should you make adjustments to your home so you can age in place? Does it make sense to refinance into a 15-year mortgage in order to pay off what you owe more quickly while paying a lower interest rate? Should you access some of the equity that’s built up in the house in order to supplement your retirement income?
“All of these options have pros and cons,” Reiss says. “It’s worth talking them through with someone whose financial judgment you trust.”
2. Waiting too long to make a move
Don’t wait until you officially retire to buy or sell property—especially a second property, says Jon Sakalas, CPA, Realtor®, and co-founder of 5280 Colorado Property Management. “I recommend purchasing a second property in your 30s, or—worst-case scenario—early to mid-40s,” he says.
Of course, that’s an ambitious goal, especially if you’re still struggling to purchase your first home. But if you can make it happen, you’ll reap the rewards, Sakalas says.
It all comes down to equity. You could use the second home as a vacation property, or rent it out for 15 to 20 years, if you buy early enough. The renter pays down the principal each month, and any profit can be used to build equity in the place. Plus, any price appreciation will expand the profit margin. You’ll also receive tax breaks on the mortgage interest, property tax, and rental property manager fees to offset any rental income.
Then when you’re ready to retire, you can sell that house and take that equity (in addition to your original down payment and any equity in your primary residence) and buy what you want—where you want. Or, if it’s the right place, you can move there.
3. Making snap judgments about where to buy
While heading to Florida might seem like the natural thing to do, the fact is the Sunshine State is a big place with vastly differing communities—some of which might suit your needs and some of which might not. Heck, Florida in general might not be right for you.
Too often, retirees make snap judgments about where to buy, says Michael Kelczewski, a Realtor with Brandywine Fine Properties Sotheby’s International Realty.
“I typically spend an entire day touring specific areas with prospective buyers,” Kelczewski says. “We meet potential neighbors, visit restaurants, review commuting times and travel routes.”
Take your time in deliberating when moving to a new state, city, or town, he recommends. That means investigating everything from local taxes to the activities, transportation, and health care options available.
4. Using retirement funds to pay off your mortgage
In an ideal situation, homeowners will go into retirement with no mortgage debt. But speeding up that process at the expense of your retirement account isn’t the way to go.
“This can be troublesome if people are using pretax money, such as IRAs, to pay a monthly mortgage bill,” says Pedro Silva, a financial adviser with Provo Financial Services in Shrewsbury, MA. “That means they pay tax on every dollar coming from these accounts and use the net amount to pay the mortgage. This can be a significant percentage of someone’s monthly cash flow.”
If you’re carrying a mortgage into retirement, don’t panic. Just consider refinancing into lower rates (pro tip: Rates are on the rise, so if you’re retiring in the near future, lock in rates before they climb higher).
5. Deeding property to children
Downsizing in retirement, but want your kids to hang on to the family home? You might be tempted to deed the property to your children as a gift rather than selling it to them. But beware—you could miss out on a huge tax break and saddle your children with an unnecessary tax bill, according to Michael Hottman, associate broker and Realtor with Keller Williams in Richmond, VA.
First, if you decide not to sell your home (to your kids or anyone else), you’ll miss out on any potential profits. You’ll also miss out on the $250,000 capital gains exclusion on your property ($500,000 for a married couple filing jointly). In other words, up to $500,000 profit could be tax-free if you sell the property (assuming you’ve lived in it two of the past five years). But not if you deed it to your kids.
Maybe you just want to do a nice thing for your loving children. That’s great! But your generous gift could end up costing them, big-time.
You see, when you deed property to your kids, they inherit the “basis”—or original price. That’s what’s used as the starting point to calculate capital gains. When they sell the home, they’ll be taxed on the difference between the current value of the home and its basis. If it appreciated in value, your spawn will likely face a hefty tax bill. (Although, if they’ve lived in the home as their primary residence for two of the five years before they sell, they’re also eligible for that capital gains exclusion.)
We won’t tell you that you should never deed property to your children. But make sure to consult with a tax specialist who can help you navigate the process and come up with a solution that works best for you and your family.
“Don’t try to walk around the rules,” Hottman says. “Make the rules work for you.”