The decision to downsize to a smaller home in retirement is a highly personal one that depends largely on an individual’s financial goals and desired lifestyle. Downsizing can lower your cost of living so you can pursue a better lifestyle, it can also be a difficult adjustment and it can even impact your government benefits or tax situation. Before finalizing your decision, consider speaking with a financial advisor to fully understand if you’re making the right call for you.
Understand Your Goals for Downsizing
The first step in deciding whether to downsize is to take a moment and list the specific financial and lifestyle goals that you hope to achieve. Are you simply hoping to save money and create more flexibility in your budget? Perhaps you’re hoping to move to a new area or be closer to family. Keeping these goals in mind will be helpful as you consider the pros and cons and how each relates to you.
Everyone has different goals and reasons to downsize. That’s why it’s so important to go over yours with a professional and make sure your individual needs are being met.
Financial Aspects of Downsizing
When evaluating the financial aspects of downsizing, it’s essential to first consider the potential cost savings that may result from a move. These savings may be related to financing or the costs associated with maintaining the property.
Real Estate Costs
First, let’s explore the various real estate costs that you should consider when downsizing. While downsizing often reduces these expenses, it’s important to remember that it’s not always the case. Also, keep in mind that you will also have to account for closing costs when selling your current home and purchasing a new one.
- Property taxes: Homeowners on average pay 0.9% of their home’s value in property taxes annually, according to the Washington Post. However, this tax rate varies by location and can significantly impact the cost of downsizing.
- Mortgage rates: Current mortgage rates as of July 2023 are 6.81% for a 30-year fixed mortgage, but these rates can vary based on factors like your credit score, the type of loan you receive and the size of your down payment.
- Insurance: Homeowners’ insurance costs an average of $1,899 per year for a $300,000 house, according to Policy Genius, but this number varies by location and size of the home.
- Utility costs: While utility costs may decrease in a smaller home, certain regions may have higher utility rates than others.
For example, Susan is a retiree who lives in a state with a property tax rate of 1.50%. She pays $4,500 in annual property taxes for her current home that’s worth $300,000. However, by moving to a smaller home that’s worth only $200,000, she could potentially save $1,500 per year in property taxes – money she could then use on travel or everyday living expenses.
Maintenance costs can be another significant consideration when downsizing. In general, smaller homes require less maintenance, which can lead to cost savings and reduced time spent on upkeep. But some smaller homes like condos and townhouses may have additional maintenance fees or homeowners association fees that need to be factored into the decision. These additional costs are going to vary by location and type of housing, so it’s important to carefully consider how much a property is going to cost to maintain it.
For example, a retiree named Bill was considering a few housing options when downsizing and compared their maintenance costs. First, he looked at a condo with condo fees of $300 per month, which included maintenance and insurance. Then, he considered a single-family home with an estimated monthly maintenance cost of $200 and insurance cost at $100 per month.
After analyzing the options, Bill chose the condo because he preferred the hassle-free, low-maintenance lifestyle, even though the costs were similar.
Pros and Cons of Downsizing in Retirement
Now that you understand the potential costs and savings associated with a move, you can better examine the pros and cons of downsizing in retirement. As you weigh these benefits and drawbacks, remember to refer back to your goals and compare your objectives with the advantages and disadvantages discussed below.
Pros of Downsizing
The benefits of downsizing are both financial and lifestyle-related:
- Lower living costs: Downsizing typically lowers your housing costs, and with them, your overall cost of living. A smaller mortgage or the elimination of your mortgage altogether could lead to significant savings and more peace of mind.
- Increased financial security: With lower living costs, retirees may find themselves in a more stable financial situation.
- Simplified maintenance: Smaller homes may require less upkeep and time devoted to maintenance.
- Change of location: Downsizing may enable retirees to move closer to family or relocate to an area with better access to amenities and a more desirable climate.
Cons of Downsizing
The potential drawbacks of downsizing include:
- Emotional attachment to the current home: It can be emotionally difficult to leave a home that your family grew up in or that has other sentimental value to you.
- Adjusting to a smaller living space: If you’ve lived in a larger home for a significant amount of time it might be hard to downsize.
- Loss of social connections: Moving may require you to leave behind friends and connections within your current community, which can be difficult at any age.
- Additional fees: Some smaller homes, such as condos or townhouses, may have additional maintenance and security fees.
- Less room for family gatherings: With less space, hosting large gatherings and visits from family members may become more challenging.
- Not a guarantee to save money: There are additional costs when you downsize, especially if you don’t have a home to sell but are looking to buy one. You’re not guaranteed to save money and need to approach it carefully, depending on your situation.
The Impact of Selling Your Home on Government Benefits
Understanding the effects that selling your home can have on government benefits, like Supplemental Security Income (SSI), Medicare and Medicaid, is essential if you’re thinking about downsizing. You might end up decreasing your benefits if you’re not careful. Selling your home won’t make you ineligible for Social Security, but it’s possible that the income from the sale could impact how your benefits are taxed. It’s crucial to consult with an expert when navigating the impact of a home sale on Medicaid long-term care benefits, as selling a home may affect eligibility for these benefits.
Consider the Tax Implications
Selling a home may trigger capital gains tax if the profit from the sale exceeds $250,000 for single individuals or $500,000 for married couples. The long-term capital gains tax rates are 0%, 15% or 20% depending on your income. If you own the property for less than a year, it’s taxed as ordinary income. Some exemptions exist for homeowners who have lived in and owned the property as their primary residence for two of the past five years.
In the end, the decision to downsize in retirement should be primarily based on your goals and what your budget will look like after downsizing. By carefully considering these factors, you can make an informed decision that best suits your needs and enhances your retirement experience.
Retirement Planning Tips
- Having a savings goal is the first step of any retirement plan. SmartAsset’s retirement calculator can help you estimate how much money you’ll need for your golden years based on your current savings, your projected spending in retirement and your Social Security benefits.
- A financial advisor can walk you through the complex process of retirement planning. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
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