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|Don't Let Falling Home Prices Ruin Your Retirement Plans|
by Liz Davidson
Baby Boomers who want to sell their homes in order to retire are finding themselves stuck between a rock and a hard place. With national home prices dipping below their March 2009 levels (creating a double dip) the long accepted strategy of buying the biggest house you can afford during your working years and then downsizing to a smaller place or a condo at retirement is off the table for most. Now Boomers are facing their toughest decision: what to do next.
My friends Greg and Janice* (ages 63 and 50, respectively) had long planned to sell their large suburban home and move to their condo in Park City, Utah, so Greg could retire. With their difference in age, they figured they could downsize when Greg retired, and then Janice would work another 10 – 15 years to pay off the condo. When she turned 60, she would have the option of continuing to work because she loved her job, work part time, or retire. The big wrench thrown into their plans is they can’t sell their home. All of the homes that are selling in their neighborhood are short sales or foreclosures, and the prices are so dismal the thought of selling at the current foreclosure price is sickening. They aren’t underwater on their mortgage, fortunately, but many Americans are. Selling their home and moving doesn’t seem to be an option.
On the other hand, staying put has a cost too—both financial and emotional. In my friends’ case, their current expenses are much higher, with their mortgage, property taxes, and upkeep on the current home costing at least double what they’d be paying in Utah. Another cost that can’t be quantified is the toll the status quo has on the psyche; Greg wouldn’t be able to retire anytime soon if they stayed. Everyone I talk to tells me that 60 is a difficult birthday to celebrate. For many, they could be entering their last decade of good health, so people want to make the most of it. Having something to look forward to, fulfilling the dreams and plans of a lifetime, can make a huge difference in the quality of life. Greg wants to move, but he, like many others, is stuck between a rock and a hard place.
Sometimes it is better to cut your losses and move forward, and a lot goes into the decision making. Let’s examine the choices and the pros and cons of each. Some choices available are:
Stay in your house and ride it out hoping the market will improve.
Some considerations for staying would be how good the prospects are for a turnaround in the real estate market in your area. If you can hold on a while and don’t have to sell at rock bottom prices, that certainly would be best. Is the business environment starting to get better in your area? That would make a difference. Read the local section of your paper for news on businesses moving to your area or hiring. Look at theunemployment rate for your county. If unemployment is trending down, it may indicate more people can afford to buy. Research the pending home sales index for your region to see the housing sales trends. If sales are gaining some traction, even minor, waiting may be worthwhile. This information will help determine whether it is a good idea to stay or cut your losses.
Move but keep the property and rent it out, selling it when the market improves.
Many people wouldn’t even consider renting their property out, especially if they are out-of-town or out-of-state landlords. There is a whole list of problems, considerations, and headaches associated with renting property, but this may be an option for people who can’t sell their home but are still able to afford it and believe their local real estate market will improve. A benchmark for knowing if you can afford to rent your home is whether or not you can at least rent it for 80% of the cost. Many people can afford a slight negative cash flow but a significant negative cash flow is a drain. Ask yourself how long you can carry the payment if it is vacant. In today’s market, you’d want at least six months of expenses in a liquid account to make the payment and any repairs that may be needed.
The advantage of renting, even with the headaches, is it allows you to move forward with your life. You also avoid the credit problems a short sale or a foreclosure brings while retaining some possibility of equity growth if the market turns around.
Sell at rock bottom prices – a short sale if you are underwater.
When you factor in the cost of keeping the property—a high mortgage payment, taxes, upkeep, and other factors—it may be better to cut your losses and sell even at rock bottom prices. If the only way to sell your home is to reduce the price to less than what you owe on your mortgage, you may have to consider a short sale. In a short sale, your lender agrees to let you sell the property for less than what you owe in order to avoid foreclosure. This may be preferable to foreclosure as it is typically not as devastating on your credit. There may also be a freeing effect of making a clean break and moving on.
Taxes must also be taken into consideration. Normally, when a short sale or foreclosure occurs, the homeowner must pay income taxes on the amount of mortgage debt forgiven. However, under the Mortgage Forgiveness Debt Relief Act of 2007, if you are a homeowner whose mortgage debt is partly or entirely forgiven during tax years 2007 through 2012, you may be able to claim special tax relief and exclude the debt forgiven from your income. If you live in your property past 2012, or keep it and rent it out, you may miss out on the benefit of this exclusion. So those considering getting out from under their property might want to do it sooner rather than later.
Short sales are nice in theory but difficult in reality. That’s because many lenders lack the internal staffing necessary to move these complicated deals forward. As a result, many willing buyers walk away from the deal leaving the current homeowner stuck in the same situation. If you are considering a short sale, you should work with a real estate agent who specializes in them and really knows the ins and outs of the process.
Let the home go into foreclosure.
When the short sale doesn’t go through, the other option is to let the house “go back to the bank.” This is the most drastic course of action and has the most severe consequences. A foreclosure will affect your credit for at least 7 years, and even worse, your lender may pursue a deficiency judgment for the difference between what your home sells for and what you owe. Not all states allow lenders to do this, so to find out if your state does, click here.
A foreclosure should be considered a method of last resort and only done when it is a good business decision. For example, financial expert and talk show host Tom Sullivan let his home in Northern California go intoforeclosure and proceeded to talk about it at length on his financial talk show. He paid $2.5 million for the property in 2004 and took out a $1.6 million mortgage. The property was listed for $1.15 million when he let it go into foreclosure because the short sales he tried didn’t go through and he already moved to New York and the payments were simply draining him. He felt that was his only option even though it was the last thing he wanted to do. He needed to move on with his life and get rid of that huge financial burden.
My friends Greg and Janice decided to set their plans to move in motion. They are both looking to transfer with their companies to Utah and plan on renting their suburban home until the foreclosure sales cool off and the housing market turns around. They just can’t stomach the rock bottom prices when they don’t have to sell. Since they have experience with rental property and have friends and family in the area to keep an eye on their house, as well as a strong rental market in their area, they feel comfortable with renting out their home. This isn’t what they would ideally want, but it gives them the chance to follow their dream. For Greg, waiting too long to move means not connecting with the new area. He wants to have time to establish new roots, friendships, and community while he is in his 60’s. This way he can.
What do you do when you are between a rock and a hard place? There is no perfect decision for everyone. Certainly no one planned to be in this situation, even financial professionals, but none the less many people are. The best you can do is make an informed decision based on your research, taking your circumstances into consideration, and move forward.
*not their real names
Liz Davidson is CEO of Financial Finesse, the leading provider of unbiased financial education for employers nationwide, delivered by on-staff Certified Financial Planner™ professionals. For additional financial tips and insights, follow Financial Finesse on Twitter and become a fan on Facebook.