Question: I plan to move out West sometime next year. I am 63 years old and semi-retired. My home is valued at about $300,000. I have a 15-year mortgage and the principal balance is about $46,000. I believe I can purchase a small house for under $200,000 in the area where I plan to live. Does it make sense to buy the new home with no mortgage? What if I find the new house before I sell here?
Answer: Many people — whether they are retiring or not — face this same dilemma. Should I buy the new home first, or sell my present home before buying something else?
The most important factor in making this decision is whether you can raise sufficient funds to buy the new place without first selling your house. You state that you have approximately $254,000 in equity in your home ($300,000 – 46,000). Assuming that your home will in fact appraise at $300,000, you should inquire whether you can tap into some of that equity now, so as to be able to raise money for the new house. Most lenders will be willing to lend you up to 80 percent of your equity. In your case, you may be able to borrow as much as $200,000 by way of a home equity loan (or a second mortgage). Since you suggest that you can buy a new home for approximately $200,000, this should be sufficient to allow you to complete the transaction on the new property.
When you ultimately sell your current home, the sales proceeds will pay off both your existing loan as well as the home equity loan.
You should also talk to some local lenders in the area where you want to buy your new home. Interest rates are still comfortably low, and you may be able to get a decent loan on the new place so that you will not have to go through the process of borrowing money on your present home.
Once you have determined that you will be able to purchase that new property even before you sell your current home, I definitely recommend that you should start looking for that replacement property as soon as possible. In my opinion, so long as you can afford to purchase another house without having to sell your existing property, it makes sense to buy the new place first.
There are several reasons for this opinion. First, when you buy a new home, you may want to do some renovation/remodeling, and it is always easier to do this in an empty home. Second, when you sell your current home, you can arrange to move your furniture and other belongings directly to the new place. Otherwise, you may find that you have to put everything in storage, which will cost you a lot of money for the double move. Also, there are too many incidents where things have been lost or stolen from these moving and storage companies.
A third reason is that interest rates are going to move up in the months to come. Why wait to purchase and possibly get hit with higher monthly mortgage payments?
Finally, you ask if it makes sense to buy the new house with no mortgage? That’s not an easy question to answer, since much depends on your own personal financial situation. Let’s look at the numbers.
Assuming that you will sell your property for $300,000, it is doubtful that you will have to pay any capital gains tax. Under current law, you can exclude up to $250,000 of any profit you have made on the sale of your house (if you are married and file a joint income tax return, you can exclude up to $500,000 of your gain).
Thus, when you sell your present home, and if you use a real estate broker, you will have to pay a commission of approximately $18,000. You will also have to pay some closing costs, in the amount of $4000. Your current mortgage is $46,000. You will net $232,000 from the sale.
If you use these sales proceeds to purchase the new property, you will have very little money left. Do you have a current income? What is the status of your retirement funds? Will you have any spending money so that you can enjoy your retirement life, or will you be “house rich and cash poor?” Will you be able to take any tax deductions for the mortgage interest you will be paying to your new lender?
All of these questions must be considered in order for you to make a decision as to whether or not you should pay all cash for your new house.
Many people get concerned that they will not be able to make the monthly payments if they obtain a new loan. But don’t forget: if you get a new loan on your new home, you will have some $232,000 in the bank from the sales proceeds of your present home. These funds are more than enough to enable you to make those new monthly payments, and still have enough money in which to live comfortably in the years to come.
Accordingly, in your situation, I believe you would be better off obtaining a new loan on your new home, and keeping your sales proceeds for that rainy day.
Written by Benny L. Kass