When it can pay to delay paying off debt
Paying off debt early isn’t always the best strategy for retirees. Here’s when holding off makes sense.
About Effie Zahos
Effie Zahos is a Director of InvestSMART and 9News Money Editor. She is one of Australia's leading personal finance commentators with 30 years of experience helping Australians make the most of their money. Effie is also the author of The Great $20 Adventure, A Real Girl's Guide to Money and Ditch the Debt and Get Rich. Passionate about financial literacy, Effie sits on the board of directors for Ecstra, a not-for-profit organisation committed to building the financial capability of all Australians.
Getting older has its pluses. Sure, by our 50s and beyond, the days of notching up a personal best in a marathon are likely behind us. But the good news is that we are often approaching peak wealth.
Research by KPMG found baby boomers enjoy average net wealth of $2.31 million per household – significantly higher than either Gen X ($1.88 million) or Millennials ($757,000).
The thing is, it’s not just about having more assets. The boomers have the lead on wealth largely because of lower debt levels.
Average household debt among Boomers is just $82,000. It’s a drop in the ocean compared to $448,000 average debt among Gen X and $410,000 across the Millennial generation.
On the face of it, this shows many seniors are embracing the wisdom of paying down debt ahead of retirement.
However, there is a potential downside to being completely debt-free in your 50s, 60s, and even 70s: it can be a lot harder to be approved for new debt if funds are needed.
This is something InvestSMART's Head of Funds Management, Alastair Davidson, discovered and wrote about in his Diary of a self-funded retiree column, which inspired me to write this article.
Credit cards can be handy for retirees for anything from making restaurant reservations to paying for expenses when travelling.
Once you reach retirement though, and are no longer earning a regular salary, lenders can get cold feet if you apply for a new card.
On one hand, the Age Discrimination Act makes it illegal to treat borrowers unfairly because of their age.
On the flipside, banks are keenly aware of responsible lending obligations, and they can be nervous about handing out credit to seniors.
That’s not to say it’s impossible to score a credit card when you retire. You may just need to jump through more hoops.
If you’ve hung up your work boots, skip a card issuer’s online application process. Chances are you will be rejected by the bank’s automated system.
Unsteady income is one of the main reasons people are rejected for a credit card. So, the onus is on you to pull together paperwork confirming a reliable income stream.
Phone the bank’s call centre, confirm what’s needed – such as copies of your latest super fund statement, tax assessments and maybe even your accountant's details – and plug away at applying for a card.
Some credit cards are actively pitched at older borrowers. National Seniors Australia offers a National Seniors Credit Card. It's actually issued by Community First Bank, and two years of tax assessment notices is listed as acceptable evidence of income.
Finder says plenty of mainstream card issuers, including the big four banks, have the scope to issue credit cards to retirees. It’s all about finding out what your bank is looking for as proof of income. Most will take a keen interest in your super statements.
In retirement, every dollar counts, and mortgage interest is money you could be spending on lifestyle, not your loan.
Even so, there can be reasons to delay fast-tracking your way to mortgage freedom if you are close to retirement.
These situations include:
You have high-interest “bad” debt
It can be worth pausing extra home loan repayments if you are also paying down “bad” debts.
By this I mean high-interest credit cards, personal loans, and car loans that fund a steadily depreciating vehicle.
It can make financial sense to channel extra cash towards paying off expensive bad debts so the slate is cleared before retirement.
Your mortgage can play second fiddle until then. Not only are mortgage rates some of the cheapest available, your home is likely to steadily rise in value. Once you’ve ditched the bad debts, you can turn your attention to the home loan.
You’re low on super heading into retirement
If you’re several years out from retirement, there can be compelling reasons to put spare cash into super rather than your home loan.
Growing your super means being able to enjoy more tax-free income in retirement while also providing benefits today.
You may be able to claim a tax deduction for personal contributions to super – up to $30,000 annually in the current financial year. This total includes the boss’s compulsory contributions plus any salary sacrifice contributions.
The tax saved on deductible contributions can be used to help pay down your loan or continue growing your super.
If you’re worried about market volatility, talk to your super fund.
You're likely to need to borrow money again
If you’re ahead with your home loan, you can always claw back extra repayments through redraw.
It can provide cash to kick a few goals, like renovating your home or buying a new car. And it can be a lot quicker and easier than applying for a new loan.
Just be aware that clawing cash out of your loan can see you paying off the balance for longer.
The trick is finding the sweet spot between how much you’d like to withdraw, and when you would like to farewell the mortgage for good.
Planning for retirement calls for a close look at many aspects of life. You may want to add “review credit card” to your pre-retirement plans. Switching to a new credit card offering a lower rate, a reduced annual fee or better reward points can be a lot simpler when you are still in the workforce and earning a regular wage.
It’s also sensible to put your home loan under the spotlight. The Reserve Bank dropped the official cash rate in May, and there’s a chance it could go even lower in the coming months. If that happens, your variable rate repayments should drop too, relieving the pressure to clear the mortgage slate ahead of retirement.
This article first appeared on InvestSMART. You can sign up to get a free newsletter, with fortnightly insights from InvestSMART’s team of experts including Paul Clitheroe and Effie Zahos.
