Do you need to pay off your mortgage before you retire?. In general, lower income households with total investable assets of less than a million are best served working to pay off the mortgage by retirement. Higher income households with over $1 million of invested financial assets may want to think about debt more strategically — in much the way a corporation would. "You are a lot better off if you can bring more money to the table through the strategic use of debt and then target a lower, less-volatile return," says Thomas J. Anderson, in his book “The Value of Debt in Building Wealth,” which discusses the appropriate use of debt for high net worth households. If you itemize deductions, mortgage debt can help reduce taxable income in retirement. Very high-income households may not see all the tax benefits, but the appropriate use of debt can provide creditor protection. Florida's homestead exemption provision allows a virtually unlimited amount of equity to be protected (subject to certain requirements) which is why you see many wealthy folks purchase property there. If you own a business or work in a high-risk profession, it may not make sense for you have more equity than the amount of the homestead exemption in your state. In cases where I advise higher net worth retirees to keep the mortgage, it's because if they pay it off, the only financial assets they'll have left are the funds that are in retirement accounts ) — which means each time they take a withdrawal it's all taxable income. In my more than 20 years of helping folks plan for retirement, I've advised many to pay off the mortgage, and many not to.
While nobody likes paying taxes, they can be a particular burden for retirees. If you’re looking for a way to generate some tax-free income in retirement, here are three ways to get started.
1. Open a Roth IRA
Roth IRAs offer a number of benefits, but the one that many savers find most appealing is the ability to collect tax-free income in retirement. Though Roth IRA contributions aren’t tax-deductible (meaning, you won’t get a tax break up front), once the time comes to take withdrawals, you won’t owe the IRS a dime. Furthermore, while money placed in a traditional retirement savings account gets to grow on a tax-deferred basis, your Roth dollars get to grow completely tax-free. And, because Roth IRAs don’t impose required minimum distributions, you’ll get the option to leave that money in your account indefinitely, where it can continue to generate tax-free earnings.
While Roth IRAs do come with annual income limits (single filers earning $132,000 or more and joint filers earning $194,000 or more can’t contribute directly), if you’re a higher earner, you can get around these restrictions by funding a traditional IRA and then converting it to a Roth. Similarly, if you have a 401(k) plan through your employer, that, too, is eligible for a Roth conversion. Though you will need to pay taxes on the contributions you move over to a Roth once you shift those assets, doing so will buy you far more financial flexibility in retirement.
2. Invest in municipal bonds
Municipal bonds differ from corporate bonds in that the interest income they pay is always exempt at the federal level, and if you buy bonds issued by the state in which you reside, you’ll avoid state and local taxes as well. If you’re looking for a way to generate a steady stream of tax-free retirement income, municipal bonds are a good way to go. Not only are…