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I've long been a proponent of being debt free in retirement: paid off house, cars, etc. However, there is a situation wherein deductible interest costs (mortgage) can be very useful to folks of modest retirement income levels.
It occurs when one is at or close to the tax bracket threshold for taxable income (married filing jointly) between the 15% and 25% brackets ($68,000 currently, note: TAXABLE income, not gross) and when you have IRA or 401k funds available.
Currently, an 800ish FICO score will get you mortgage rates in the low 5% area, the interest is deductible and if your taxable income is otherwise at the threshold, it makes sense to take out a mortgage loan and likewise withdraw IRA funds equivalent to the interest deduction at a 15% rate as opposed to the 25% rate.
Yes, you then have the burden of doing something with the proceeds but the tax advantage seems quite clear to me. Am I remiss in this scenario?
Last edited by Pilgrim21784; 05-06-2010 at 10:03 PM..
depending on your tax bracket you may be spending 3 bucks in interest to write off 1 dollar against income plus closing costs . its most likly not going to be a saving anything since even if you went over into the next bracket most of your money would still be taxed at 15%
we need the exact figures you were going to borrow and offset in ira withdrawls... the way i see it the deductions are to small to offest anything. if you were at 65,0000 in income and had 35,000 in ira money to withdraw bringing you to 100,000 in income so you take a 35,000 mortgage for that amount only gives you 2500 a year in mortgage interest. over 30 years you would pay 40,000 in interest to take 35,000 in ira,s . how much were you going to withdraw each year?
Last edited by mathjak107; 05-07-2010 at 03:29 AM..
i ran it for 100,000 dollar mortgage too. it looks like you would spend about 7,000 in interest at 5.5% your first year on a 30 year. it was 567.00 a month . the first payment has no principal in it to speak of so its pure interest.
dont forget the way mortgages are amortized you pay more up front then the end so your 5.5% mortgage actually starts off with payments that reflect almost 7%
theyv are done that way because most people move every 5-7 years and dont hold a mortgage full term.. they collect more up front and generally give you free use of the money towards the end of the mortgage term
going back to the first example if you only withdrew 2500 a year from your ira i think closing costs would be high on a small mortgage like that and each year the write off diminishes so you will be back in the 25% bracket again down the road anyway.
then what do you with the balance of the mortgage money? if you do anything other then put it in tax free municipals you would bounce your income back up by that income.
you also need enough to take itemized deductions... you may not have enough to itemize in which case all bets are off on this. as well as you can only really count the interest that takes you over the 11,600 standard deduction as even if you had no mortgage you would still get the 11,600 standard deduction.
if you were at 10,000 in deductions before the mortgage and now you had 2500 in mortgage interest you really only see less then 1,000 bucks in deductions from your 2500.00 in interest.
im not sure the whole thing would be worth the effort of taking a payed off house in retirement and slapping a mortgage on it. especially because if your talking just going over the limit with your income maybe you are talking on 3,000 bucks an extra 10% in taxes or 300 bucks... hardley worth the effort.
Last edited by mathjak107; 05-07-2010 at 04:39 AM..
something just occured to me, im not sure if im right or wrong but paying the mortgage is with after tax dollars. lets look at borrowing 35,000 . so if you spend 2500 in interest your actually paying in 4 dollars to get just 1 back in the 25% bracket....
that means all you see is 625.00 bucks out of 2500 actually coming back to you plus whatever you get in interest on the mortgage money you are holding.. i dont see the slight difference in the marginal tax rate covering that much.
i think the issue is your paying 5.5% a year on the full amount of the outstanding mortgage while only utilizing the tax write off of 2500.00 so all you save on the 35,000 in your ira by going from 25% marginal rate to 15% is about 350 bucks a year while not getting back 1875.00 of the 2500 in interest you paid out.
this is making my hair hurt so you math geniuses can run the numbers to see whats going on
Last edited by mathjak107; 05-07-2010 at 05:47 AM..
I think what you are saying is the tax savings from sheltering your income from the 25% bracket by having a mortgage will save you money. I haven't run any numbers, but I can't see saving enough to offset the interest payment. You only shelter the money over the $68,000, of which you pay a 25% tax. You could pay 100% of the money in interest or 25% in taxes. Seems like a no brainer.
i ran it for 100,000 dollar mortgage too. it looks like you would spend about 7,000 in interest at 5.5% your first year on a 30 year. it was 567.00 a month . the first payment has no principal in it to speak of so its pure interest.
dont forget the way mortgages are amortized you pay more up front then the end so your 5.5% mortgage actually starts off with payments that reflect almost 7%
theyv are done that way because most people move every 5-7 years and dont hold a mortgage full term.. they collect more up front and generally give you free use of the money towards the end of the mortgage term.
Quote:
Originally Posted by mathjak107
Thats what im seeing too..... your paying interest on the entire amount each year and only counting using the tax deduction......
100,000.00 at 5.5% cost you 6800 a year.......
taking withdrawls of 6800.00 from an ira at 25% is only 1700 in taxes
at 15% its 1020........
so to spend 6800 in interest to only pay 750 bucks less tax is crazy....... yes you have the 100k but even 4% on tax free municipals wont come close
Whoa!
Mathjak, you've provided a lot of useful advice on this board, but you are way, way, off on your thinking here. In fact, I'm sorry to say that what you've written makes absolutely no sense whatsoever.
If you look at it logically, there is no conceivable way that you can pay more than $5500/year in interest on a $100k loan at 5.5%. And that would only be on an interest-only mortgage. Banks don't (and can't) frontload mortgages as you suggest. The reason that mortgage payments are mostly interest the first few years is because the principal is so high at that point. In fact, the very first month of a mortgage is the only time that you even pay 5.5% on the whole $100k. After the first month, you are paying 5.5% on approximately $99,890 because you've paid about $110 in principal that first month.
Take a look at an amortization schedule. The first year you end up paying $5,466.36 in interest, not $6800. The rest is principal. And as you can see, $5,466.36 is just under 5.5% on the whole $100k for the year, not close to 7% as you were suggesting.
Here is the interest payment schedule for the first year:
i just looked at the monthly amount but didnt check the amortization .even so using your numbers did you feel this worked out in favor of doing it?
No, in fact, I saw no sense whatsoever in doing what the OP proposed. Perhaps, the OP will give an example or even a hypothetical of what he is trying to accomplish.
But I was not really responding to his post, but to your misunderstanding of how mortgage interest in calculated. I think many people are under the erroneous impression that mortgage interest is "front-loaded."
also not all lenders use the same amortizaion method...
most lenders use declining balance amortization , a few use linear amoritization although not nearly enough .....
they pay down very differently.
when i said mortgages are front loaded what im refering to is the method of amoritization thats used..... most work off your declining balance because it works out great for them with alot of people moving or refinancing in the first 7 years.... but why couldnt they take the interest due on your loan and divide it equally over the number of payments......? you would pay off more principal in the early years and have more interest in the later years .
they could but most dont...... its not to their advantage,.
Last edited by mathjak107; 05-07-2010 at 11:08 AM..
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