This is really messy and there is a ton of factors to consider, some of which I don’t think were mentioned above.
Considering the matter purely as a return on investment question, I would look at the interest rate you are paying on the mortgage compared to the interest rates you might get from investing the money. And remember to compare interest rates of reasonably safe investments, because your home (assuming it’s in a decent area with rising property values) is one of the safest investments you can make. And don’t forget to include the effect of the mortgage interest itemized deduction. If you have a 5% mortgage but you are deducting the interest and you are in the 22% tax bracket, your effective interest rate would be 4%. So the question would be, can you earn more than 4% in a reasonably safe investment? If yes, then you should invest the money, if you can’t find a safe investment that pays that interest rate, pay off your house.
However, you also want to consider asset diversification. For example, suppose you have a $200,000 mortgage and $250,000 in a balanced investment portfolio with diversified assets at various risk levels. 40% of your portfolio is in a single non-diversified asset. If you withdrew all the funds and paid off the mortgage, then you would have a fully paid off house but only $50,000 in diversified investments. More than 90% of your total assets are in one single investment.
You also want to consider liquidity. If you have money in an investment account or an IRA, you can withdraw it at any time for any purpose. You just have to deal with whatever income taxes come along with. If the majority of your funds are tied up in your house, that is not considered a liquid investment, and it would be very difficult to extract money if you needed funds for an emergency.
Yet another factor is Medicaid asset protection. Medicare does not provide long-term residential or nursing home care. In order to qualify for a nursing home coverage under Medicaid, you must be “poor.“ The rules may vary, but the rules that stick in my mind (and I might be remembering wrong) are the following:
If you require long-term nursing home care, Medicaid will not pick up the tab until you have spent all of your assets first. You are allowed to keep $3000 and a car. If you are married, and your spouse was living in your joint home before you require long-term nursing care, your spouse can keep the house. But if you are unmarried, or if your spouse goes into a nursing home first, then you can be required to sell your house to pay for your medical care before Medicaid will start picking up the tab. However, funds in a traditional IRA don’t count as “assets.“ The IRA is protected and you cannot be required to liquidate it before Medicaid will step in. You are only required to give your RMD each year to Medicaid to offset what they are paying for your medical needs, but the balance of the IRA is protected.
For that reason, using funds from an IRA to pay off your home could backfire if you unexpectedly require long-term medical care and don’t have enough assets to cover the cost yourself. (Also note that because a Roth IRA does not have an RMD, a Roth IRA is not protected from Medicaid.).
Your home and other assets can be protected from Medicaid by placing them in a Medicaid asset protection trust, but this requires the assistance of an attorney or firm that specialize in elder law and estate planning.
In fact, consulting with an estate planner is probably a good idea at this stage of life. They can help you find an answer to your question that is most suited for your individual needs.
