Why I Didn’t Pay Off My Mortgage Before Retirement

Mortgage payments can be a part of a sound retirement strategy.

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I have a confession to make. I retired with a mortgage. Most retirement planning professionals say this is a big no-no. I’m not so sure.

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I’m not going to try to convince you that the tax deduction makes it worthwhile (it doesn’t), or that your money is more wisely invested in the stock market (it isn’t). I will tell you that cash in your bank account will put food on the table, and that equity in your home won’t pay the electricity bill. But that’s not the reason I haven’t paid off my mortgage. It’s because of inflation.

Thirty years ago, a large pizza cost $6, a pound of ground beef was $1.51, and a bottle of whiskey ran you $5.99. Today the pizza will set you back $10.30, the homemade burgers, $2.27, and it will cost you $12.99 to drown your sorrows in that bottle of whiskey. And yet, after adjusting for inflation, each of these items is actually cheaper now than each was back then.

To put this all in perspective, the average household income was $17,710 in 1980. By 2009 it had nearly tripled to $49,777. We don’t notice the 30-year creep in prices all that much because we continue to earn inflated dollars as well. That means we can afford the $172,600 price tag of the average home in 2010, even though the average home was only $64,200 three decades ago.

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Inflation has been mild the last couple of years. Most experts expect that to change in the not-too-distant future, and some fear that when inflation does come back it won’t creep but sprint. Inflation erodes the purchasing power of a dollar. If you have $100,000 in the bank today, an annual inflation rate of 3.5 percent would effectively snatch about $30,000 over ten years. Yes, you’d still have $100,000 in the bank a decade later, but it would only buy you what $70,000 buys you today. That’s how inflation hurts.

Inflation actually helps you, though, when it comes to debt. A mortgage enables you to lock in today’s home price, but pay for it with tomorrow’s inflated dollars. To illustrate simply how this works, let’s assume you bought a home back in 1980 for $64,000 and borrowed 100 percent of the purchase price. Assume you just now had to pay back that loan. It would cost you over $170,000 to buy that home again today, so writing a check for $64,000 would feel like a real bargain. That’s because you get to use today’s inflated dollars to pay back money you borrowed all those years ago, when $64,000 had a lot more purchasing power than it does today. With interest rates so low right now, a mortgage can be an excellent hedge against inflation.

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If you are worried about runaway inflation, you’re better off taking the money you would have used to pay off your mortgage and investing it instead in Treasury Inflation-Protected Securities (TIPS). Assuming you have a $100,000 balance on your 5 percent fixed-rate mortgage, you’d save about $47,000 in interest over the next ten years if you paid off that mortgage today. But if inflation averages 3.5 percent each year over the coming decade, you’ll come out ahead if you park your money in TIPS instead of your mortgage. Even with current 10-year TIPS rates hovering around 1 percent, the interest and principal on your bond in 10 years would produce enough to pay off the mortgage, the interest, and put an extra $5,000 in your pocket. If inflation charges even harder, you’ll walk away with even more.

Sydney Lagier is a former certified public accountant. Since retiring in 2008 at the age of 44, she has been writing about the transition from productive member of society to gal of leisure at her blog, Retirement: A Full-Time Job.