Debt Management in the Years Before Retirement

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Leading into retirement, you want to set yourself up for a financially secure and long-lasting future. Now’s the time to buckle down on your savings strategy, address potential gaps, and work with an advisor to build a tax-efficient withdrawal strategy.

One area that poses a big challenge for retirees is managing debt in retirement, which can often be more complicated than during their working years. If you’re concerned about how your ongoing debt repayment obligations will impact your lifestyle in retirement, now’s the time to reduce those obligations as much as possible. The less you owe in retirement, the more you have to support your desired lifestyle and bucket list goals (like traveling or starting a business). 

Let’s look at what you can do to manage your debt before transitioning to retirement.

Assess Your Current Financial Situation

To identify opportunities for debt reduction, you first need to start with a full assessment of your current financial picture. Identify all debts you’re currently paying on, how much is left on each, and your expected timeline to pay them off.

Common debts include:

  • Mortgage
  • Car loan
  • Personal loan
  • Home equity line of credit (HELOC)
  • Credit card debt
  • Student loan debt (for a child or grandchild)

Then, compare your spending and saving habits to your monthly income. While you still want to prioritize retirement savings, are there opportunities to spend more of your discretionary income on paying down debt? You and your advisor should review your budget and cash flow together, as they can help you prioritize and plan based on your unique financial circumstances.

Feel Overwhelmed? Try This

No matter who you are or how much you make, debt comes in many forms — and it can overwhelm anyone. Here are two tips for anyone who feels stressed about their debt.

Debt Consolidation Loan

If you feel like you’re juggling different types of debt, you may benefit from consolidating them all into one simple loan. By consolidating debt, you eliminate multiple monthly payments with varying interest rates and bring everything together under one roof with one interest rate. 

If you’re prone to missing payments, having one consolidated loan can help you keep track and avoid late payment fees or added interest.

Negotiate Interest Rates

Did you know that you can actually negotiate or renegotiate your interest rate in some cases? The great thing about negotiating rates is that you don’t have much to lose! If the lender says “no,” you can either take their rate or move on to the next one.

If you plan on negotiating a mortgage, credit card rate, or other loan, ensure you’re coming to the table prepared. Check-in with your credit score (the higher the score, the more power you hold), and start obtaining quotes from multiple lenders. If there’s one lender you’d like to work with but their rate isn’t the lowest, show them what a competitor is offering — they may just be inclined to match or beat it. 

Before saying “yes” to any lender, review the terms of the agreement carefully. Sometimes, lenders offer lower interest rates but hit you on the backend with higher fees. Suppose you’re in the process of or thinking about negotiating rates with lenders. In that case, your financial advisor can help you review offers and make decisions that best align with your current situation.

Debt Repayment Strategies

With an understanding of how much you owe, to what creditors, and at what interest rate, your next step is to identify the right debt repayment strategy. Two standard methods for paying down debt faster and more effectively are snowball and avalanche. As discussed below, they are similar in philosophy but differ in approach.

Snowball Method

If you’re concerned about staying motivated on your debt management journey, the snowball method can help you achieve results faster.

Using this method, order your debt from smallest to largest and ignore the interest rates. Continue paying the minimum amount on all debts. Any extra income you can put toward paying down debt will go exclusively to the smallest loan first. You’ll continue putting all that extra effort into paying down the smallest loan until it’s paid off.

Once it’s paid off, take a moment to pat yourself on the back (because that’s always a great accomplishment!), and then focus on the next smallest loan.

Now, you’ll put the minimum monthly payment you were making on the last loan toward this one, plus anything extra you’re able to pay. You’ll continue the cycle and move up in loan sizes, always continuing to put the money from the paid-off loan toward the current one.

This is a highly motivating and satisfying debt repayment method, as you quickly start to see results. However, because you’re going by loan size and not the interest rate, over time, you may pay more interest than if you use the avalanche method, which we’ll review next.

Avalanche Method

With the avalanche method, you’re shifting focus from loan size to interest rate. Again, line up all your current loans and order them from highest to lowest interest rate. You’ll continue paying the minimum amount on each debt, but this time, you’ll put all your extra effort and income toward paying down the highest-interest debt first.

What makes the avalanche method challenging is that, depending on the size of the loans, it can take a long time to pay off your first loan — meaning you’ll experience less instant gratification than with the snowball method. However, you’ll likely save on interest over the long run since you’re paying the loans with the highest interest rates first.

Should You Carry a Mortgage in Retirement?

A common question people nearing retirement ask is whether they should carry a mortgage into retirement. 

The answer will differ for everyone, but there are certainly some pros and cons to weigh.

If you obtained a low mortgage rate (around 3% or lower), putting your discretionary dollars toward investments may make more sense rather than paying off your mortgage faster. This is because the rate of return from those investments may exceed your mortgage rate, creating more value for you over time.

In addition, if you understand your fixed income sources in retirement (pensions, annuities, Social Security, etc.) and a relatively low monthly mortgage, then you may not be concerned with trying to cover this particular debt obligation.

However, many people choose to sell their family home and downsize into a condo or smaller property in retirement. Otherwise, they find that they’re paying for more house and land than they’re actually using. Not to mention, it can be beneficial to move into a home that’s better equipped for retirees’ health concerns and requires less ongoing maintenance. Perhaps you’d prefer to sell your home, downsize, and use the extra funds to renovate the space or supplement your income in retirement.

Again, this decision should be discussed with your financial professional, as many personal factors must be considered.

How to Avoid Taking on New Debt

As you focus on managing debt before entering retirement, take some preventative measures to avoid accruing additional debt in the future. 

For example, establishing an ample emergency fund can help preserve your savings for longer. You should include funds for home maintenance or repairs and vehicle upkeep. These costs can be high and somewhat unpredictable, but setting aside the funds will help you cover them without sacrificing your other income.

Reevaluate your insurance policies, including your health insurance, home insurance, car insurance, and long-term care policies. Having the appropriate amount of coverage is critical to protecting your wealth and avoiding additional debt in retirement. 

Let’s Prepare for Retirement Together

You’re reaching a critical juncture in your retirement planning journey in the last few years before retirement. Now’s the time to buckle down and set yourself up for success in this next exciting life stage.

We encourage you to contact our team today to learn more about how we can help you conquer your journey to and through retirement.

About Us

Partners in Financial Planning provides tax-focused, comprehensive, fee-only financial planning and investment management services. With locations in Salem, Virginia and Charleston, South Carolina, our team is well-equipped to serve clients both locally and nationally with over 100 years of combined experience and knowledge in financial services.

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