When to Downsize: Financial Planning Guide

In a world where bigger often seems better, downsizing offers a refreshing alternative. While the concept traditionally revolves around transitioning to a smaller home to save money, downsizing extends beyond mere living arrangements. It involves simplifying various aspects of life, from embracing minimalism to optimizing daily routines for a cost-effective lifestyle and less stress. You may need to downsize when you have challenges maintaining your home. Common examples of doing so include empty nests, retirement and health changes. You may want to talk to a financial advisor before downsizing to make sure your unique needs are being met.

What Is Downsizing?

Downsizing typically involves transitioning from a larger home to a smaller one to save money on mortgage payments, property taxes and maintenance costs. However, downsizing extends beyond just your residence. It can encompass simplifying various aspects of life. For instance, you can opt for a more eco-friendly car to save on fuel costs or work remotely to eliminate your commute. Reprioritizing your life can result in a less exhausting, less expensive lifestyle.

Furthermore, downsizing resonates with many individuals and families for numerous reasons. For example, you might embrace minimalism, consciously getting rid of belongings to expand your physical, mental and financial capacities. Ultimately, downsizing can have a positive impact on your financial well-being.

When to Downsize

With the potential to unlock newfound financial freedom and reduce stress, downsizing has become a popular choice for individuals and couples seeking a less burdensome and more fulfilling life in retirement. Here are reliable signals to know when downsizing is advantageous:

1. Your Monthly Housing Costs Are More Than 30% Of Your Budget

Per the U.S. Department of Housing and Urban Development, the U.S. Census Bureau recommends that no more than 30% of your monthly income go toward housing expenses. Going beyond this threshold can put you in a financially burdened state. As a result, if your income significantly decreases due to factors like retirement, salary reductions or loss of employment, you may find yourself in one of these categories. So, downsizing when your housing costs increase is a financially savvy choice.

Therefore, it’s crucial for retiring seniors to prepare for this possibility who don’t want to work part-time. Instead, downsizing and living in a smaller space can lower your housing costs and reduce utilities, property taxes and maintenance.

However, it’s essential to understand the upfront costs of moving. For instance, you may need to fix up your current home to bring it to market, afford closing costs, pay movers and renovate your new residence. So, it’s wise to weigh these short-term expenses versus the long-term gain of downsizing.

2. Home Maintenance Is Unmanageable

Maintaining a four-bedroom home you raised your children in with an accordingly huge yard can be unsustainable as you age. Downsizing can eliminate the time, money and physical toll of snow removal and landscaping.

Plus, the longer you stay in a home that requires plenty of care and attention, the higher the chance of neglect, deterioration and appliance breakdown. Instead, you can sell your home as soon as you recognize it’s too much to handle and capitalize on your house’s condition.

3. Your House Doesn’t Meet Your Needs

Seniors sometimes hold onto the dream of aging in place in the home they’ve cherished for decades. However, as they grow older, they may encounter numerous challenges that make living there increasingly difficult. Aging in place incurs issues such as stairs that constantly hinder access to living spaces. In addition, a steep driveway can present a constant fall risk. Likewise, cleaning numerous unused spaces and keeping possessions in out-of-reach cupboards can become frustrating. Bathtubs and showers without the necessary grab bars can also be a safety concern.

It’s no wonder that many seniors yearn for a one-level home, complete with wheelchair-accessible hallways, entryways without steps and walk-in showers adorned with comfortable benches. Proximity to hospitals, clinics and public transportation is also high on their wish list. If these factors sound desirable, it may be time to downsize.

4. You’ve Outlasted Your Neighbors

Beyond the financial benefits of relocating to a retirement community, a profoundly crucial social aspect exists. If you remain in your home for an extended period, you will inevitably witness neighbors moving away or passing on, leaving you feeling isolated and possibly lonely. Sadly, this sense of isolation affects a significant portion of older Americans.

Family neighborhoods tend to stay youthful as new families move in, inadvertently leaving seniors isolated as they age in place within the same community. However, you can cultivate a vibrant social network by transitioning to a senior living community. Plus, you’ll enjoy amenities such as transportation, engaging activities, support systems and enhanced security, all of which work in tandem to enrich your overall quality of life and guard against the development of depression-related health issues.

Downsizing into a retirement community can uplift your spirits by facilitating connections with individuals from your own generation. These communities often boast an impressive array of amenities, from tennis courts and billiards rooms to woodwork shops and knitting clubs.

Nevertheless, it is essential to consider that communities offering various activities, amenities and services usually come at a higher cost. Therefore, it’s best to thoroughly assess your budgetary constraints and determine what is financially feasible before making any decisions.

5. You Need to Supplement Your Retirement Fund

A recent report from the Federal Reserve shows that the average American has about $255,000 when they retire. This figure may be insufficient for most retirees, although how much you’ll need depends on your circumstances and goals. That being said, if you fall close to the average, you may need to tap your equity to enhance your retirement income.

However, home equity is not an endless source of money. Homeowners should approach the idea of converting their home equity into a steady income stream with caution, ensuring that it will be sufficient to last them for the remainder of their lives.

For example, if you have $200,000 in home equity, selling your current house allows you to transform that investment into liquid assets. Then, you can deposit this money into an account with an expected annualized return of 5%. This way, you create an additional $10,000 of income per year to pad your budget. Moving into a housing unit with a lower monthly cost than your current residence can stretch your funds further and secure a more comfortable financial future.

Benefits of Downsizing

Downsizing allows you to enjoy these benefits:

Financial Freedom: Downsizing offers numerous benefits, providing financial freedom by reducing mortgage or rent payments, utility bills, property taxes and maintenance costs. This newfound financial relief increases savings, investment opportunities and a more comfortable retirement.
Less Maintenance And Stress: Additionally, a smaller home requires less time and effort to clean, organize and maintain, resulting in a more relaxed and stress-free lifestyle. Therefore, moving to a smaller space simplifies your lifestyle, eliminating the stress of maintaining a large property and allowing you to focus on what truly matters.
Optimize Your Location: Downsizing also opens doors to improved locations, allowing you to live in vibrant city centers, scenic areas, warmer regions or near your loved ones. You can bask in the amenities and conveniences that align with your needs and wants.
Align Your Lifestyle With Your Priorities: Furthermore, downsizing frees up time and resources, enabling you to indulge in travel, pursue hobbies and engage in recreational activities that bring joy and fulfillment to your life. With fewer financial obligations and reduced maintenance responsibilities, you can explore new horizons and enjoy the fruits of your labor.

Disadvantages of Downsizing

However, downsizing brings certain challenges, including the following.

Trading Equity for a Mortgage: Although selling your home is an excellent way to tap your equity, moving into a new house means taking on a new mortgage unless you pay for the new home upfront. Therefore, you might incur unsustainable monthly costs with a new mortgage, even if you buy a smaller, cheaper home.
Closing Costs: Likewise, home transactions bring closing costs for the buyer and seller. Specifically, selling your home means paying real estate agent commissions of 6% of the sale price. As the buyer, you’ll pay loan origination fees, title insurance, inspection fees, appraisal costs and more, adding up to 3% to 6% of the loan amount. Along with moving expenses, closing costs usually amount to thousands of dollars, detracting from the financial benefit of moving.
Renting Isn’t Necessarily Cheaper: In addition, downsizing to a rented space means giving up your mortgage interest tax deduction and forfeiting the ability to build more equity. Instead, you’ll pay rent every month, which could increase if your landlord decides to charge more.
Community Fees: While living in a standard neighborhood generally doesn’t incur fees, downsizing to a condo or senior living community can mean paying homeowners’ association (HOA) or maintenance fees. For example, you may not have to cut your grass or shovel your snow, but you’ll pay a hefty monthly bill for those chores to be taken care of for you.
Limited Space: While the goal of downsizing is to simplify your life, letting your possessions go or maintaining a minimalist lifestyle can be challenging. Because downsizing means scarce storage capacity, you may end up paying for a monthly storage unit to preserve extra belongings.

The Bottom Line

Downsizing offers financial freedom, less maintenance and stress, the opportunity to optimize your location and the ability to align your lifestyle with your priorities. However, it also presents challenges such as trading equity for a mortgage, closing costs, the potential expense of renting, community fees and limited space. To navigate the downsizing process successfully, start early, declutter and organize, consider the financial implications and prioritize what and who matters most in your planning. By using these strategies, retirees can make downsizing a positive and rewarding experience.

Tips For When To Downsize

Downsizing can sound like a relief, but getting there can be a challenge. Understanding the tax implications, financial nuances and optimal housing situation can be difficult. Fortunately, a financial advisor can tailor a plan to retire and downsize based on your needs. 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.
If your downsizing destination is in question, taxes can tip the scale in a particular direction. For more, here are 15 states that don’t tax retirement income.