Rate portfolio before paying off mortgage


Consider personal comfort with loan, future income taxes in decision

November 23, 2008|By Janet Kidd Stewart | Janet Kidd Stewart,Chicago Tribune

Q: Should we pay off our mortgage? We have five years and $40,000 to pay down at a mortgage rate of 4.7 percent. The monthly payment is $675. We are both 67 and retired with a monthly income between Social Security and pensions of around $4,300. We make the house payment directly from our portfolio, but the value has dropped from $480,000 in October 2007 to $270,000 at the end of October this year.

Should we cash in our portfolio and pay off the mortgage? Should we withdraw only the amount needed to pay off the mortgage and leave the rest to recover? The portfolio consists of mutual funds, with 60 percent in U.S. equities, 5 percent in global equities, 30 percent in fixed income and 5 percent cash.

- A.B.

If you are using this money only to make mortgage payments, that loss sounds outsized for a portfolio that was invested 65 percent in stocks and 35 percent in bonds and cash, even with the enormous losses the market has seen this year, said Michael Kitces, director of financial planning for Pinnacle Advisory Group in Columbia.

So first review the performance of the funds in your portfolio compared with the appropriate benchmark indexes to see if this allocation fits your risk tolerance and whether your investments are performing at least in line with peers. There are several free Web sites that offer performance data, including www.morningstar.com.

Money you need to spend in the next seven years should be in bonds and cash, and longer-term money can be invested in stocks, said Ty Bernicke, a financial planner and principal with Bernicke & Associates in Eau Claire, Wis.

Once you've examined your portfolio, you can decide about paying off the mortgage. For many clients, it comes down to personal comfort level, Bernicke said.

But in your case, if you are withdrawing money from a retirement account that will generate income taxes on the distribution, it probably doesn't make sense to accelerate all those taxes, he said.

Q: Two years ago, my financial planner suggested I purchase mortgage-backed securities to provide a stable interest income stream. He suggested low-risk securities with Bank of America and Credit Suisse that were AAA-rated. They have dropped 50 percent. Should I dump them now or hang on since I don't need the principal for quite a while? What is my default risk?

- L.B.

You need to get your planner to do some homework, Kitces said. Most likely, what you need to know is the makeup of the underlying securities in the bonds you purchased. Kitces said it's important to know if the bonds have been downgraded by credit rating agencies or if they still are highly rated and just being dragged down by the overall market.

"These are opaque investments that many advisers didn't understand much better than did their clients," he said. So put it back in the planner's court and ask for some research on where your specific investments stand.

Q: I have an $11,000 certificate of deposit due. I am 68 and my wife is right behind me. We don't have life insurance to pay for our burials and I was thinking of opening two Roth individual retirement accounts with the money.

- R.R.

That is a fine strategy, so long as you both have earned income to fund the Roth IRAs, said Rick DeChaineau, founder of Secure Choice Financial Planning in Tacoma, Wash.

There is a rule prohibiting withdrawals of earnings on Roth IRAs for five years after opening, but if you die during that period your beneficiary can withdraw the contributions tax- and penalty-free. The earnings could be left in the account, but if they are withdrawn, they would be subject to tax, DeChaineau said. If you have older Roth IRA accounts, the five-year requirement could have been met, he said.

If you are retired, consider a high-yield money market account that is federally insured to provide withdrawal flexibility, DeChaineau said. Check rates at www.bankrate.com.

Have a retirement question? Write to yourmoney@tribune.com. We might include you and your question in a future column.

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