Q: My friend has a $70,000 mortgage balance on his primary residence with payments of $503 per month. The value of his residence is about $225,000.

He has a savings account of approximately $2,000, a 401(k) plan with a balance of about $100,000 and common stock worth around $50,000. He also has a vacation home worth about $100,000 which is paid off.

His problem is that he is sixty-one years old and doesn’t know how he will pay off his mortgage before retirement. He has recently begun to inquire about his retirement pension and has found his retirement income will likely be about $20,000 less than he is currently earning, including Social Security. With this in mind, he will have difficulty making a $500 per month mortgage payment.

I advised him that he could be to continue working (yuck!) providing his health holds out, or he could sell his vacation home to pay off his mortgage. This would probably be a last resort since he intends on spending more time there once he retires. The third option would be to some how draw enough out of his retirement account to pay off the mortgage, though that would mean taxes and penalties.

What should he do?

A: Once your friend hits 59 1/2, there is no 10 percent early withdrawal penalty attached to money coming from a 401(k) plan. But, he will owe income taxes. If he withdraws the cash all at once, he could end up paying more taxes than is necessary. Your friend might simply want to withdraw $500 per month in order to pay the mortgage and let the rest of the continue to grow in the stock market.

Working longer is an option, as is selling the vacation home. But if the vacation home has appreciated, he’ll owe 10 percent or 20 percent capital gains taxes on that profit. Could your friend move permanently to his vacation home and sell his principal residence? He could then keep all of his profits from his current residence up to $250,000 per home, if he’s single, or $500,000 if he’s married.

Your friend needs to spend a couple of hours with a fee-only financial planner to go through his portfolio, look at how much income will be coming in, and decide what is the best way to maximize his resources in retirement.

Published: Feb 28, 2001