Are you within a year or two of an early retirement, or whatever you want to call the next chapter of your life? Before you decide which of your investment accounts you’ll withdraw from to replace your income, you may want to try an alternative strategy and get some cash out of your home while you still have a verifiable source of income and still qualify to borrow. It could have a huge impact on the taxes you pay in your 60s.
Your House or Your Portfolio
If you end your main career by age 60, you could have a full decade until you choose to receive Social Security and have to start your IRA required minimum distributions (RMD). Until then, you may have several choices about where your cash will come from. If you pull from traditional investment accounts (trust, joint, individual), a portion of every withdrawal may be subject to capital gains rates. If you pull from your IRA, you’ll be subject to ordinary income taxes on every dollar you take out. But there’s a tax-free alternative: tapping the equity in your house.
If you want to refinance in order to get some cash from your house (and perhaps lower your interest rate), do it while your income is current, high and verifiable – not after you retire from your current career. This is also a good rule of thumb for buying property you plan to move into when you retire. If you’re curious how much income you’ll need to qualify, here’s a calculator you can play with. If you don’t believe me, just ask Ben Bernanke, whose application was denied for a refinance in 2014 because of tougher lending standards.
Home Equity Line of Credit (HELOC)
You can also establish a HELOC (again, while you’re still working and would qualify), but don’t have to touch it. I tend to view a HELOC as an emergency fund – a place to get cash in the event of a large surprise expense or essential home repair. Having a HELOC gives you the flexibility of leaving your investment portfolio alone and borrowing at a (currently) low rate.
Borrowing from your home in your early retirement years in order to avoid making portfolio withdrawals during retirement may sound counterintuitive. Conventional wisdom tells us that we should be debt free during our retirement years, but that’s not necessarily true. This strategy is intended for the tax-sensitive person who intends to eventually sell or downsize his home. In short, this strategy is not for everyone and should be carefully discussed with a financial advisor before taking any action.