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Retiring Without a Home Loan

It has long been an element of the American dream for a homeowner to burn the mortgage note and celebrate, as soon as he or she is able to pay it off. Conventional wisdom held that this would help pave the way for a debt-free retirement.

But in today’s shaky economy, many financial advisers are suggesting that homeowners wait.

“I think paying off the mortgage would probably be a poor decision financially right now,” said Gibran Nicholas, the chairman and chief executive of the Certified Mortgage Planning Specialist Institute, which trains and certifies financial planners who provide mortgage and real estate equity advice.

The decision, he says, depends upon cash flow and returns.

Debra Shultz, a managing director of the Manhattan Mortgage Company, says that homeowners approaching retirement must ensure that they have enough cash flow to cover daily expenses. Once the mortgage is paid off, she noted, “you can’t take it back unless you refinance and cash out again.”

And refinancing as a retiree could be difficult. “Their qualified income might drop, which might inhibit them from refinancing and qualifying,” she said.

In some cases, homeowners might receive a better return by investing the money they would have used to retire the mortgage. “Why pay off a mortgage and save maybe 3 percent after tax when you could be putting that money into a muni bond earning 4.5 percent after tax right now?” Mr. Nicholas said.

Returns could potentially be even greater if the retiree bought a vacation or retirement home on the cheap. “I think there’s going to be fire sales and they’ll have opportunities to grab assets at fire-sale values,” said DaRayl Davis, a money manager and the author of “Economic Secrets of the New Retirement Environment” (Xlibris, 2009).

Financial advisers also contend that it makes little sense to pay off the mortgage on an asset whose value is still depreciating. Indeed, home prices in the country’s top 20 markets have fallen more than 30 percent, on average, from their peak in June 2006, with those in Las Vegas, for instance, tumbling 60 percent, according to Alex Barron, the founder and president of the Housing Research Center.

Prices in New York City are off 22 percent from their peak, he said, adding that he expected home prices to fall another 5 percent before bottoming out in the next one to two years.

Mr. Davis is even more bearish, predicting that prices could slide another 30 percent. “That bubble has burst,” he said, “and it’s not done deflating yet.”

Mr. Nicholas recommends that any homeowner with a mortgage rate above 7 percent try to refinance to a lower rate if the refinancing costs are not too high.

Then there are the tax implications of losing the mortgage deduction. These are only relevant, Ms. Shultz noted, to owners whose principal is less than two-thirds paid off. Once the two-thirds threshold has been reached, the interest deduction, if any, is small and doesn’t justify keeping the mortgage.

Of course, the good feeling of owning a home debt-free should not be minimized. “Trading off a known 4 percent interest rate for an unknown market return may leave some retirees jittery,” said Drew Denning, the vice president for retiree services of the Principal Financial Group.

For those who do opt to pay off a mortgage early — perhaps they want to eliminate debts to pay for their children’s college — the experts suggest that they have at least 12 months of living expenses in cash available outside their retirement accounts after the home is paid off. That is double the amount normally recommended in good times.

Mr. Denning recommends as much as two years’ worth of living costs. “The ability to find another job that pays a comparable amount of money is very challenging in today’s environment,” he said. “And going to your bank to take out a loan when you’re unemployed would not be one of the more friendly visits you’ll have.”