75 yr old MIL - Pay off mortgage at 4.0%?

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DA200
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75 yr old MIL - Pay off mortgage at 4.0%?

Post by DA200 » Sat Feb 09, 2019 11:52 am

I have a 75 yr old MIL who has asked me for advice regarding paying off her mortgage.

Situation:
75 yr old MIL in very good health (divorced)
Income: $13K/yr SS* + $32K/yr pension*= $45K/yr
*Pension is eliminated when 75 yr old ex husband dies, but SS would increase to $26K/yr
Investments:
$870K in IRA
$160K in taxable (with $20K in unrealized gains)
$20K checking
Total=$1050K
Asset allocation: 60% stocks / 40% bonds with 25% equities in international
All invested in 3 fund index approach and in tax efficient manner (all bonds in IRA, stocks in taxable)

Mortgage: $850/month (27 yrs remaining at 4.0% interest (approximately a $175K loan, with $160K remaining on loan).
Home value:$250K
No other debt.

Expenses: MIL has been living off of her SS and pension of $45K/yr (expenses include $850 mortgage, all taxes, health care).
She has been reinvesting the ~$37K in RMDs in her taxable account each year. Has not taken RMDs in 2019 yet.

Question: MIL has just enough in taxable to pay off mortgage. This would provide her with $850/month extra cash flow and eliminate a 4% loan. Her taxable account would drop to zero, but would gain $37K this year due to RMDs.
Should she pay off mortgage now?
Thanks!

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by David Jay » Sat Feb 09, 2019 12:06 pm

I would. Reducing demands on cash flow is a stress-reliever at any age. She may actually be inclined to spend more on herself if she didn’t have that mortgage hanging over her head.
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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by willthrill81 » Sat Feb 09, 2019 12:15 pm

I second the recommendation to pay off the mortgage. She has plenty of funds to do so, and a guaranteed 4% after-tax return is solid for anyone but especially for a retiree.

It would make sense to use funds that are currently allocated to bonds to pay off the mortgage since the mortgage is a negative bond.
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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by retiredjg » Sat Feb 09, 2019 12:34 pm

I suggest at least considering doing it over two years.

Her total income (including the RMD) is going to be very near the lowest IRMAA tier which should be $85k if she is single. Going over that limit will raise her Medicare Part B premiums about $600 a year. It may raise other Medicare premiums as well.

If she takes the $20k in capital gains, she will definitely be over the first IRMAA limit. Of course, she will save some in mortgage interest and it may more than pay for that. But she should not get a surprise increase in Medicare costs - she should know it is coming (in 2021 if she goes over in 2019).

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by Silk McCue » Sat Feb 09, 2019 12:41 pm

Side note - if she is giving to charity annually is she taking advantage of Qualified Charitable Distributions to reduce her taxable income.

Cheers

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by chevca » Sat Feb 09, 2019 12:41 pm

I think it matters little in her situation. She can easily afford to carry the mortgage. But, I would probably pay it off for simplicity reasons. I agree with the idea of doing so over a couple or few years. It's likely better tax wise to do it that way.

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BL
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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by BL » Sat Feb 09, 2019 12:43 pm

Be aware that the mortgage may include tax which she would pay separately if home paid off.

Sounds good to me, especially if she is heavy on fixed income vs. equities.

Use her RMD (unless she is doing QCD), sell the lowest gains of taxable, not the last 37k; maybe she can avoid selling highest gain funds.

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by dodecahedron » Sat Feb 09, 2019 1:00 pm

I would definitely pay off that mortgage--a guaranteed 4% risk-free, tax-free return is hard to beat. And it simplifies her life as well.
BL wrote:
Sat Feb 09, 2019 12:43 pm
Use her RMD (unless she is doing QCD), sell the lowest gains of taxable, not the last 37k; maybe she can avoid selling highest gain funds.
Yes, if she would otherwise be reinvesting the RMDs (as indicated above by the OP), then she should stop that reinvestment and use the RMD to help pay off the mortgage and thereby avoid realizing gains on her most appreciated shares.

Depending on how the appreciation is distributed across her holdings in her taxable account, it might make sense to do it over a two calendar year period, with final installment payoff in January 2020, but definitely do it.

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by Grt2bOutdoors » Sat Feb 09, 2019 1:08 pm

retiredjg wrote:
Sat Feb 09, 2019 12:34 pm
I suggest at least considering doing it over two years.

Her total income (including the RMD) is going to be very near the lowest IRMAA tier which should be $85k if she is single. Going over that limit will raise her Medicare Part B premiums about $600 a year. It may raise other Medicare premiums as well.

If she takes the $20k in capital gains, she will definitely be over the first IRMAA limit. Of course, she will save some in mortgage interest and it may more than pay for that. But she should not get a surprise increase in Medicare costs - she should know it is coming (in 2021 if she goes over in 2019).
+1
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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by grabiner » Sat Feb 09, 2019 3:10 pm

Paying off the mortgage is a risk-free 4% return, since she cannot deduct the interest. That is a better deal than the low-risk bonds she has in her IRA. If she doesn't want to change her risk level, she could sell the taxable stocks to pay off the mortgage, and then move an equal amount in the IRA from bonds to stock; she would keep the same stock-market exposure, and sell lower-yielding bonds for higher-yielding "bonds".

The other main argument for not paying off a mortgage is liquidity, but she has plenty of liquidity with the large IRA.
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DA200
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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by DA200 » Sat Feb 09, 2019 3:28 pm

Thanks to all of you for the great responses so far which appear to be in strong favor of paying off the mortgage.
A concern my MIL has (which was not specifically addressed) is if her ex husband were to die tomorrow, which would cause her pension to be eliminated and reduce her yearly income stream down to only $26K/yr (not including rmds). That is part of the reason she has not used taxable to pay off the mortgage yet. I assume that since her rmds can replace potential lost pension stream, she should still be in a comfortable position?

I will respond to some of the specific comments in regards to capital gains and IRMAA in another post.

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by retiredjg » Sat Feb 09, 2019 3:37 pm

DA200 wrote:
Sat Feb 09, 2019 3:28 pm
Thanks to all of you for the great responses so far which appear to be in strong favor of paying off the mortgage.
A concern my MIL has (which was not specifically addressed) is if her ex husband were to die tomorrow, which would cause her pension to be eliminated and reduce her yearly income stream down to only $26K/yr (not including rmds). That is part of the reason she has not used taxable to pay off the mortgage yet. I assume that since her rmds can replace potential lost pension stream, she should still be in a comfortable position?

I will respond to some of the specific comments in regards to capital gains and IRMAA in another post.
I think keeping several thousand dollars in taxable is a good plan to tide her over if/when the ex-husband dies suddenly. She may need something liquid for a few months till things get straight.

Baring expensive long term care, the $870k in IRA can be depended on to keep her comfortable, especially since her expenses appear to be pretty low.

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by delamer » Sat Feb 09, 2019 3:39 pm

As an alternative, if she put her RMD each year toward an extra principal payment then she’d pay off the mortgage in about 4 years. And there’d be no complications with capital gains, taxes, or Medicare.

If her ex-husband died during that time, she could reevaluate her options.

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by willthrill81 » Sat Feb 09, 2019 3:52 pm

DA200 wrote:
Sat Feb 09, 2019 3:28 pm
Thanks to all of you for the great responses so far which appear to be in strong favor of paying off the mortgage.
A concern my MIL has (which was not specifically addressed) is if her ex husband were to die tomorrow, which would cause her pension to be eliminated and reduce her yearly income stream down to only $26K/yr (not including rmds). That is part of the reason she has not used taxable to pay off the mortgage yet. I assume that since her rmds can replace potential lost pension stream, she should still be in a comfortable position?

I will respond to some of the specific comments in regards to capital gains and IRMAA in another post.
Once the mortgage is gone, her spending will drop to about $35k (assuming that taxes and insurance aren't part of the $850 payment you cited). That means that she only needs $9k coming from $870k of assets, about a 1% withdrawal rate. That would probably and literally last forever with her allocation. Yes, her RMDs are more than 1%, but remember that RMDs do not have to be spent; she can reinvest whatever she doesn't need in a taxable account in the same funds as before. At her age, she could probably spend much more than 1% (easily 5%) with prudence.

She's golden.
“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by BL » Sat Feb 09, 2019 4:05 pm

DA200 wrote:
Sat Feb 09, 2019 3:28 pm
Thanks to all of you for the great responses so far which appear to be in strong favor of paying off the mortgage.
A concern my MIL has (which was not specifically addressed) is if her ex husband were to die tomorrow, which would cause her pension to be eliminated and reduce her yearly income stream down to only $26K/yr (not including rmds). That is part of the reason she has not used taxable to pay off the mortgage yet. I assume that since her rmds can replace potential lost pension stream, she should still be in a comfortable position?

I will respond to some of the specific comments in regards to capital gains and IRMAA in another post.
She needs to include the RMD in her income thinking. What she does with it is a different decision, but it is part of her available spending money.

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by DA200 » Sat Feb 09, 2019 4:07 pm

retiredjg wrote:
Sat Feb 09, 2019 12:34 pm
I suggest at least considering doing it over two years.

Her total income (including the RMD) is going to be very near the lowest IRMAA tier which should be $85k if she is single. Going over that limit will raise her Medicare Part B premiums about $600 a year. It may raise other Medicare premiums as well.

If she takes the $20k in capital gains, she will definitely be over the first IRMAA limit. Of course, she will save some in mortgage interest and it may more than pay for that. But she should not get a surprise increase in Medicare costs - she should know it is coming (in 2021 if she goes over in 2019).
retiredj,
Thanks for thinking about the IRMAA implications. I was literally running her numbers to determine if IRMAA was an issue for her when you posted. You are correct that she is very close to jumping over the $85K MAGI IRMAA level with $45K pension/SS, $37K RMDs, and $3K in dividend distributions in taxable which exactly equals $85K...
She did do $3K in tax loss harvesting the first week of 2019, but that won't allow her to sell a significant portion in taxable.
Just checked her tax lots and it looks like she could sell $120K and only realize about $10K in gains.
Based on all of this, I only see 2 ways that she could pay off house relatively soon without jumping over $85K IRMAA level:
1) in 2019 take $37K rmds and sell funds in taxable to top of $85K level AND take RMDs in Jan 2020 plus sell in taxable to top of $85 K level. Might be able to pay off mortage in Jan 2020? For 2 years she would be flirting with the $85K limit and could easily make a mistake taking her over limit.
2) ex husband dies, eliminating pension, which allows for all of taxable to be sold. He is in ok health, so this is not highly likely.

Or sell to top of $107K IRMAA level in 2019 and pay off mortgage in 2019? How to determine if paying extra medicare premium is the wise choice??

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DA200
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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by DA200 » Sat Feb 09, 2019 4:14 pm

delamer wrote:
Sat Feb 09, 2019 3:39 pm
As an alternative, if she put her RMD each year toward an extra principal payment then she’d pay off the mortgage in about 4 years. And there’d be no complications with capital gains, taxes, or Medicare.

If her ex-husband died during that time, she could reevaluate her options.
Good suggestion - running the numbers, it would definitely be easier to avoid IRMAA premium increase if house was paid off over a period of 3 to 4 more years as you suggested.
Last edited by DA200 on Sat Feb 09, 2019 4:27 pm, edited 1 time in total.

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by DA200 » Sat Feb 09, 2019 4:18 pm

willthrill81 wrote:
Sat Feb 09, 2019 3:52 pm
Once the mortgage is gone, her spending will drop to about $35k (assuming that taxes and insurance aren't part of the $850 payment you cited). That means that she only needs $9k coming from $870k of assets, about a 1% withdrawal rate. That would probably and literally last forever with her allocation. Yes, her RMDs are more than 1%, but remember that RMDs do not have to be spent; she can reinvest whatever she doesn't need in a taxable account in the same funds as before. At her age, she could probably spend much more than 1% (easily 5%) with prudence.

She's golden.
willthrill81,
Yes - the mortgage alone is $850/month (does not include tax or insurance). Thus, your analysis is accurate - she would only need about a 1% withdrawal rate to maintain current lifestyle. Thanks!

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by retiredjg » Sat Feb 09, 2019 4:23 pm

DA200 wrote:
Sat Feb 09, 2019 4:07 pm
How to determine if paying extra medicare premium is the wise choice??
I would see how much is saved on the mortgage interest by paying early. Maybe just for one year? It might be a wash.

The unfortunate thing about IRMAA is that it is a cliff. I fell over it once, by just a little, and it really ticked me off. But the increased premiums only last for the 1 year.

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by DA200 » Sat Feb 09, 2019 4:25 pm

BL wrote:
Sat Feb 09, 2019 12:43 pm
Be aware that the mortgage may include tax which she would pay separately if home paid off.

Sounds good to me, especially if she is heavy on fixed income vs. equities.

Use her RMD (unless she is doing QCD), sell the lowest gains of taxable, not the last 37k; maybe she can avoid selling highest gain funds.
BL, Thanks for the reminder about paying property tax when mortgage is paid off. She has never directly paid property tax (since she has always had mortgage/tax combined), so I will show her how to get property tax paid at that time.

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by JBTX » Sun Feb 10, 2019 1:45 am

Normally for a 75 year old,I'd say yes pay off the 4% mortgage. However to pay the whole thing off at once causes capital gains realization and leaves her with no other liquidity unless she wants to pull more out of IRA (which will trigger more income)

I'd probably make additional principal payments over several years in order to manage income realization and maintain some liquidity.

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by JGoneRiding » Sun Feb 10, 2019 12:01 pm

Well I will be the voice of decent. She doesn't need to pay off the loan. She isn't spending all of her cash flow anyway. Is the loan stressful to her? Is it the reason she is resaving so much? If not it's an affordable low rate loan. I would re invest slightly more aggressively then I would otherwise rec and spend all the dividends out of the taxable. I sleep fine knowing I "could" do it. From a financial optimization I don't think it actually makes sense.

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by willthrill81 » Sun Feb 10, 2019 12:04 pm

JGoneRiding wrote:
Sun Feb 10, 2019 12:01 pm
Well I will be the voice of decent. She doesn't need to pay off the loan. She isn't spending all of her cash flow anyway. Is the loan stressful to her? Is it the reason she is resaving so much? If not it's an affordable low rate loan. I would re invest slightly more aggressively then I would otherwise rec and spend all the dividends out of the taxable. I sleep fine knowing I "could" do it. From a financial optimization I don't think it actually makes sense.
She cannot get a guaranteed 4% after-tax return anywhere else these days, so how is it not financially optimal to pay it off?

I agree with others that paying for it in one-fail-swoop is probably not a good idea from a tax perspective, but it could be done over a period of two or three years.
“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by pdavi21 » Sun Feb 10, 2019 12:08 pm

retiredjg wrote:
Sat Feb 09, 2019 12:34 pm
I suggest at least considering doing it over two years.
+1
Make sure she sells taxable FIFO to avoid Short Term Capital Gains.
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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by Ben Mathew » Sun Feb 10, 2019 12:33 pm

Yes, the 40% bonds is earning less than 4.0%. It would be better to pay off mortgage and reduce the bond allocation in portfolio. The fact that she has enough in taxable makes the case particularly compelling.The unrealized gains might be the only sticking point. Prepare a mock tax return, and see if she can take those gains at 0% tax. At her income levels, the marginal tax rates might be tricky because of SS taxation phase-in and medicare premiums. If her marginal tax on gains is 0% or close to 0%, this is a no-brainer.

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by willthrill81 » Sun Feb 10, 2019 12:35 pm

Ben Mathew wrote:
Sun Feb 10, 2019 12:33 pm
The unrealized gains might be the only sticking point. Prepare a mock tax return, and see if she can take those gains at 0% tax. At her income levels, the marginal tax rates might be tricky because of SS taxation phase-in and medicare premiums. If the tax on gains is 0% or close to 0%, this is a no-brainer.
+1

Very good advice. They might need to enlist the help of a CPA, but if they can complete a mock tax return themselves, that will probably not be necessary.
“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by cherijoh » Sun Feb 10, 2019 12:48 pm

DA200 wrote:
Sat Feb 09, 2019 11:52 am
I have a 75 yr old MIL who has asked me for advice regarding paying off her mortgage.

Situation:
75 yr old MIL in very good health (divorced)
Income: $13K/yr SS* + $32K/yr pension*= $45K/yr
*Pension is eliminated when 75 yr old ex husband dies, but SS would increase to $26K/yr
Investments:
$870K in IRA
$160K in taxable (with $20K in unrealized gains)
$20K checking
Total=$1050K
Asset allocation: 60% stocks / 40% bonds with 25% equities in international
All invested in 3 fund index approach and in tax efficient manner (all bonds in IRA, stocks in taxable)

Mortgage: $850/month (27 yrs remaining at 4.0% interest (approximately a $175K loan, with $160K remaining on loan).
Home value:$250K
No other debt.

Expenses: MIL has been living off of her SS and pension of $45K/yr (expenses include $850 mortgage, all taxes, health care).
She has been reinvesting the ~$37K in RMDs in her taxable account each year. Has not taken RMDs in 2019 yet.

Question: MIL has just enough in taxable to pay off mortgage. This would provide her with $850/month extra cash flow and eliminate a 4% loan. Her taxable account would drop to zero, but would gain $37K this year due to RMDs.
Should she pay off mortgage now?
Thanks!
I don't understand why she would sell all of her taxable and then have the RMD to reinvest in something else since she doesn't currently need it for expenses. That just increases the immediate tax burden and the risk of falling over an IRMAA cliff. If she decides to pay of mortgage then definitely use the RMD for part of the payment.

Also is she taking dividends from her taxable account in cash or reinvesting dividends? (They are not mentioned in her available cash to spend, which is why I ask). Definitely turn off reinvested dividends if she is planning to use the taxable account to pay off the house over an extended period of time.

Another option to explore would be to see if she can recast her mortgage by making a partial loan payoff and then reducing the mortgage payment but keeping the 30-yr term and 4% interest rate. Perhaps take her RMD plus a partial sale of taxable investment fund. There may be a fee to do a recast but often the fee is reasonable.

A recast would balance having additional cash flow with having a bunch of money tied up in illiquid home equity. There has to have been a reason your MIL took out a mortgage in the first place since the loan is fairly new. Don't overlook a "peace of mind" dividend which can supercede the best choice by the numbers if there isn't a huge difference in the numbers. Some people get peace of mind by being mortgage free, while other will have it from having a bigger balance in liquid assets.

Another consideration is what is the plan if sometime in the future your MIL can't take care of herself?

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by OAG » Sun Feb 10, 2019 1:14 pm

AFAIK (and hope) IRMAA Base should be increasing in 2020 (estimated by 2%) which will impact 2018 MAGI. 2021 Base should be impacted by COLA going forward.
OAG=Old Army Guy. Retired CW4 USA (US Army) in 1979 21 years of service @ 38.

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by retiredjg » Sun Feb 10, 2019 1:22 pm

Ben Mathew wrote:
Sun Feb 10, 2019 12:33 pm
Prepare a mock tax return, and see if she can take those gains at 0% tax.
This is a great point, but will not help this person. That limit is about $39k (she appears to be single) and her income before the capital gains is higher than that.

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by Ben Mathew » Sun Feb 10, 2019 2:07 pm

retiredjg wrote:
Sat Feb 09, 2019 12:34 pm
I suggest at least considering doing it over two years.

Her total income (including the RMD) is going to be very near the lowest IRMAA tier which should be $85k if she is single. Going over that limit will raise her Medicare Part B premiums about $600 a year. It may raise other Medicare premiums as well.

If she takes the $20k in capital gains, she will definitely be over the first IRMAA limit. Of course, she will save some in mortgage interest and it may more than pay for that. But she should not get a surprise increase in Medicare costs - she should know it is coming (in 2021 if she goes over in 2019).
retiredjg wrote:
Sun Feb 10, 2019 1:22 pm
Ben Mathew wrote:
Sun Feb 10, 2019 12:33 pm
Prepare a mock tax return, and see if she can take those gains at 0% tax.
This is a great point, but will not help this person. That limit is about $39k (she appears to be single) and her income before the capital gains is higher than that.
So then with capital gains tax of 15% of $20,000 = $2,400 + medicare premium increase of $600 would add up to $3,000. Even if there's nothing else, that's already $3,000/$160,000 = 1.88% which is no longer trivial. The optimal solution might well involve selling the parts of taxable that have had less gains, and paying the rest with future RMDs. This still shouldn't take too long given her current income and expenses.

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Re: 75 yr old MIL - Pay off mortgage at 4.0%?

Post by DA200 » Mon Feb 11, 2019 6:10 pm

cherijoh wrote:
Sun Feb 10, 2019 12:48 pm
There has to have been a reason your MIL took out a mortgage in the first place since the loan is fairly new. Don't overlook a "peace of mind" dividend which can supercede the best choice by the numbers if there isn't a huge difference in the numbers. Some people get peace of mind by being mortgage free, while other will have it from having a bigger balance in liquid assets.

Also is she taking dividends from her taxable account in cash or reinvesting dividends? (They are not mentioned in her available cash to spend, which is why I ask). Definitely turn off reinvested dividends if she is planning to use the taxable account to pay off the house over an extended period of time.

Another consideration is what is the plan if sometime in the future your MIL can't take care of herself?
1. MIL divorced several years ago after a lifelong marriage. The settlement left her with lots of tax-deferred and little taxable. Her ex husband ended up with lots of taxable and no tax deferred.... That is a whole story in itself, but bottom line is that she took out a mortgage because she only had cash to pay downpayment and didn't want to pay taxes to remove more from IRA to pay for house. She has been building up taxable account via RMDs since. In retrospect, she probably should have been paying down mortgage with the RMDs each year.

2. Dividend reinvestment has been turned off since the Fido account was created. She has bought more shares a few times with the extra cash in the account (since she did not need the cash). Now that she is considering paying off house, the dividends will go towards the mortgage. The taxable account has 2 of the most tax efficient etfs: ITOT Total Market and IXUS Total International. Neither etf has any capital gain distributions.

3. The plan if she can't take care of herself, which hopefully won't be for sometime (She shovels her own drive, digs holes in yard to plant big trees, etc.), is to sell house and probably move in with one of her children or pay for in home care. No LTCI. She will not enjoy being sent to a facility......

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