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Sometimes the best deal isn't the right deal when it's time to refinance your home

By Dave Saunders

Many people are looking to refinance their home as a means of pulling money from their rapidly rising real estate. The intent may be to reduce other debts, finance a vacation or maybe you're just looking at refinancing your home as a means of getting a better deal. But are all better deals good deals with looking at home refinancing options?
One of the best examples of a home refinancing option that is good for some and bad for others is the interest-only option mortgage. With this mortgage, you typically only pay interest on your loan for the first two years and then the mortgage usually restructures in the third year, with an interest change and a principal payment. This can seem like an attractive home refinance option, but look very closely at the real value you are receiving. Indicators are that the housing market is pulling back. Is your home going to be worth more at the end of the interest-only term to let you cash out or sell and make a bundle, or are you going to be left holding the bag and desperately looking for a new option to refinance your home and keep control of your property? For others, the interest-only mortgage is a great option that allows people to position themselves in real estate and leverage their way into their dream home.
Always look at your home refinancing options and compare issues such as home equity vs refinance numbers to ensure that the money you're pulling out of the apparent value of your home today isn't going to recede if the housing market pulls back in your area. Nothing is worse that having a mortgage after a refinancing a home that is greater than your home's new worth on the open market. Also be sure that you have a plan for what you're going to do when the terms of the mortgage change. Are you going to refinance again or sell? Plan your options so you can set up the very best deal for the next round.
Be sure to look over all of the fees required for a home refinancing option and do a little math before making any decisions. Interview multiple loan brokers as well. Choose the one that you trust. An honest broker will not try to pressure you and will lay out the options and explain the numbers to you. If you're still not sure, spend a little money and take your home refinancing options to a CPA and get an opinion from someone who knows the numbers but isn't making any money on the choice you make. If you've found an honest broker, the CPA's answers will probably match very closely but also remember that each will look at things from different angles. A difference in opinion doesn't mean someone is being dishonest.
A home refinance can be a great option for the right situation. If you feel that it might be the right option for you, get the facts and avoid a rash decision. It's your money and you deserve abundance.
About the Author
Dave Saunders is a business consultant and published author. If you would like to read about additional ideas for generating business leads, the original and expanded article can be found here.


Creative Home Equity Strategies for Retirement by Tim Paul

The baby boom generation is nearing retirement and it is clear that millions of aging boomers are financially under prepared. Reasons are many - poor savings habits, rising medical costs, the demise of guaranteed corporate pensions, and the dreaded squeeze faced by many boomers: i.e. having to pay college costs for their children, care for their elderly parents, and save for retirement, all at the same time.

The outlook is not entirely bleak, however. One bright spot that may help baby-boomers achieve secure a retirement is the record high-level of home ownership and the related growth in home equity. Home equity, the difference between debt owed on a home loan and the value of a home, accounts for at least fifty percent of net wealth for more than half of all U.S. households according to the Survey of Consumer Finance. In much of the country, low interest rates have spurred refinancings and kept housing markets strong, both factors in boosting home equity growth.

Unfortunately, too many homeowners tap into home equity savings through cash-out refinancings, second-mortgage home equity loans, or home equity lines of credit (HELOCs) to pay for vacations, new cars, and other current consumption expenses producing no long-term wealth appreciation. These homeowners may be seriously eroding their ability to finance retirement. By cashing out home equity now, they are spending what has been a vital cushion in old age for past generations.

Homeowners who manage their home equity prudently, on the other hand, will enter retirement years with a substantial nest-egg to complement their other retirement savings accounts. This article describes seven specific ways in which the home equity nest-egg can be used to enhance retirement income planning.

1. Downsize - The traditional way to tap home equity in retirement is simply to move to a less expensive dwelling. The strategy is straight forward: sell your home for $250,000, replace it with one costing $150,000 and you've freed up $100,000. Within IRS guidelines, you can now sell your home and realize up to $250,000 in tax-free profits if you're single; $500,000 if married.

This strategy makes even more sense when you consider that maintenance costs and the headaches of a large family-home are done away with for the retiree. Yet emotional attachment to a home is strong and we all know retirees who simply refuse to move from the home they have lived in for so many years.

2. Reverse Mortgage - Retirees remaining in their homes can still tap their home equity as a source of retirement income. An entire industry has grown up around the "reverse mortgage" concept which allows seniors over 62 to tap into their home's value without making any repayments during their lifetime. A reverse mortgage (also known as a HECM - Home Equity Conversion Mortgage) requires no monthly payment. The payment stream is "reversed": instead of making monthly payments to a lender, a lender makes payments to you, typically for the remainder of your life, if you continue to reside in the home.

Some people try to avoid the fees typically associated with reverse mortgages and instead borrow against their home equity for retirement living expenses with a regular home equity loan or home equity line of credit (HELOC). Unfortunately this is seldom a smart strategy. The reason is that with either a conventional home equity loan or a HELOC loan, you have to make regular monthly payments that may be at a higher interest rate than can be earned on the loan proceeds without undue risk. Also, as you use loan proceeds to pay for routine living expenses, you risk running out of money. A HECM, on the other hand, provides income for the rest of your life.

There are many pros and cons to reverse mortgages and a complete discussion is beyond the scope of this article. Suffice it to say that the reverse mortgage strategy is a sound one for many retirees. As with any major financial decision, it is essential that you seek qualified advice before committing to any particular HECM deal.

3. Purchase Service Years - One of the lesser known facts of financial life is that many public and some corporate pension plans allow their employees to purchase additional years of service credit - sometimes at bargain prices. For example, for an up front lump-sum payment a teacher with 20 years service might be eligible to buy 5 additional years and thereby qualify to retire early.

The cost of buying service years can vary greatly from plan to plan. A dwindling number of pension plans require only a fixed dollar payment for each service year purchased regardless of age; however, most plans now have an actuary compute the cost based upon the employee's age, income and other variables. In either case, it is worthwhile to learn about your options. Although up front costs are steep, you may find that financing the purchase of service years through a home equity loan or HELOC is a sound investment. Bear in mind you are looking at the purchase of an annuity: in exchange for an up front lump-sum payment, you are promised a steady stream of future payments. As with any major financial decision, it is wise to seek qualified financial advice.

Also, inquire about other non-pension benefits you may qualify for by purchasing additional service credits. For example, some employers base retiree health care benefits on the number of years of service. Purchasing additional service credits may qualify you for valuable benefits you might not otherwise be eligible for.

4. Company Match - According to the Investment Company Institute, 75.5% of companies match their employees' 401k plan contributions. The most common match level is $.50 per $1.00 employee contribution up to the first 6% of pay. Yet despite the "free money" allure of the company match, a surprisingly large number of workers do not participate in their companies' 401k program or do not contribute enough to receive the full employer match.

Workers electing not to join their employers' 401k plans cite financial constraints as the primary reason. Yet the long-term financial impact of non-participation will likely be far more significant than the short-term discomfort of re-arranging budget priorities. Not only do non-participants miss an immediate and guaranteed 50% return on their investment, they also lose time and the benefit that the compounding effect has on their retirement savings growth.

In the right circumstances it can be a sensible to borrow from a home equity line of credit (HELOC) to fully fund a 401k. This strategy involves moving funds from one savings category (home equity) to another (retirement savings) and makes most sense if: 1) the employer match is significant, 2) HELOC interest rates are low, 3) the loan can be repaid in a relatively short period either from higher expected income and/or adjusting budget priorities and, 4) the participant commits to adjusting lifestyles and priorities so that future 401k contributions can be made from current income.

Another consideration is whether itemized deductions (including mortgage interest) fall above the IRS standard deduction amount ($9,700 for couples in 2004). Many long-time homeowners are at the tail end of their loan amortization meaning that nearly all of their monthly payments go towards principal. For instance, during the last five years of a typical 30-year mortgage, only about 14% of the total payments will be interest payments. This means little or no tax deduction benefit is being realized - one of the principal benefits of home ownership. In such cases, additional home equity borrowing (or refinancing) may achieve tax savings to offset investment risks.

5. Avoid 401k Loans - One popular features of many 401k plans is the ability to borrow from your vested balance for purposes such as a car purchase, educational expenses, or a home purchase or improvements. More than half of all 401k plans offer the loan option, typically allowing loans up to 50% of the vested account balance or $50,000, whichever is less.

Many people take out 401k loans believing they are better off because they will be "paying interest to themselves" rather than to a bank. But the truth is that a 401k loan isn't really a loan at all; rather, you are spending down your own hard-won retirement savings. And the interest you are paying to yourself won't come close to replacing the interest lost by not having the borrowed funds invested in retirement account assets.

The bottom line is that 401k loans are almost never a wise financial move and even less so for homeowners having the option to borrow against home equity instead. Among other advantages, interest paid on home equity loans is generally tax-deductible whereas interest on a 401k loan is not.

6. Borrow to Fund IRA Before April 15 Deadline - Financial planners generally agree that it is best to either: 1) make contributions to an IRA as soon as possible (e.g. January 1) to maximize the power of compounding or, 2) make steady equal contributions throughout the tax year to gain the benefits of "income-averaging". Yet many people find themselves up against the April 15th tax deadline without adequate cash and, so, fail to make an IRA contribution for that tax year. In some cases, people miss the opportunity even though they are in line to receive a substantial tax refund within weeks.

Unfortunately, when the deadline passes, the opportunity to make an IRA contribution for that tax year is lost. The foregone compounded impact on retirement savings can be huge. Consider that a 35-year old who misses a $3,000 IRA contribution will have $30,000 (assuming 8% return) less in his retirement account at age 65. It is sensible, in many situations, to use a HELOC loan to finance an IRA contribution rather than miss the opportunity forever. The case for borrowing to fund an IRA is particularly strong if the loan can be repaid quickly.

7. Take Advantage of IRS "Catch-Up" Rules - Congress created "catch-up" provisions to give older workers nearing retirement an additional tool to bolster retirement savings. In a nutshell, catch-up provisions for the various tax-advantaged retirement programs (i.e. IRA, 401k, 403b, 457, etc.) permit workers to make supplemental ("catch-up") contributions starting in the year the worker turns age 50. The amount of allowable annual catch-up varies by the type of retirement program and is summarized in this table.

If, for example, you are 55 and plan to sell your house when you retire at 62, it may be worthwhile to borrow on your HELOC today to catch-up on funding your retirement account. HELOCs generally allow for interest-only payments for several years meaning you will have to pay relatively low, tax-deductible interest until the house is sold and you are able to pay the principal balance. Again, with this strategy, you transfer funds from one savings category (home equity) to another savings category (tax-advantaged retirement account) to gain the advantage of higher-yield retirement account investments compounded for a longer period.

The strategies outlined in this article certainly do not make sense for everyone. If you have trouble handling debt or controlling spending, taking on more debt is absolutely the wrong thing to do. On the other hand, if you are a financially responsible person, these seven strategies may help you think critically about your own situation and about ways the equity in your home might be used to enhance your retirement income planning.

About the Author
Tim Paul has more than 25 years executive financial management experience. His current areas of focus are developing strategies to maximize the benefits of HELOC loans. His websites are HELOC Strategies and Ideas , 529 Plans - Free college Savings and a blog dedicated to Lifesaving Home Defibrillators.





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