Jumping Through Hoops: The Surprising Hurdles of Getting a Mortgage in Retirement

 

By: Josh Stromberg, CFP®

Why is it hard to get a mortgage in retirement? Retirees with substantial assets can still face mortgage challenges. Learn how mortgage underwriting works in retirement and explore tax-conscious planning strategies. 

The “Asset-Rich, Income-Poor” Dilemma

Retirees are faced with many important decisions when they retire, one of the biggest being where to live. Oftentimes, retirees. want to move somewhere warmer, closer to family, or senior-friendly. After putting in the time and effort to find a “forever home,” many retirees will be left scratching their heads when they find out they don’t have the ability to qualify for a mortgage. Why do retirees, even those with millions in assets, struggle to qualify for a mortgage?

The unfortunate answer is that many lenders prioritize income over wealth when dolling out mortgages. You can have millions sitting in your retirement accounts, but if you’re not taking home a large enough monthly paycheck, then it won’t get you very far. More and more retirees will be facing this reality as the popularity of pension plans has declined over the past several years, making Social Security the only “income” retirees can use to qualify for a mortgage.

While this antiquated view of income can seem to limit many retirees from purchasing their “forever home,” there are strategies that can help you “prove” you have income and qualify for the mortgage option you want.

Why Do Retirees Struggle to Get Mortgages?

1. Traditional Lending Models Don’t Account for Retiree Wealth

Most lenders haven’t updated their qualification criteria to account for the current reality of retirement finances. Lenders expect steady W-2 income to approve loans, which isn’t feasible for most Gen X and younger retirees who have been relying on saving into accounts like a 401(k) or IRA in lieu of traditional income sources. They can have $5,000,000 in retirement savings, no debt, and still be unable to get a mortgage if they don’t have a large enough pension or Social Security.

However, this doesn’t mean there are no ways to “prove” income. In fact, those same retirement savings that didn’t qualify can be used to help. The trick is structuring your investment withdrawals to act like “income,” even without receiving a W-2, so that it can be used to help you qualify.

2. The IRA Withdrawal Trap: Unnecessary Tax Bills Just to Satisfy Lenders

Frequently retirees are forced to take distributions from their retirement accounts, typically IRAs, to create “documented income.” On the surface this may not seem like too arduous of a hoop to jump through, but we have to keep in mind that IRA withdrawals are taxable at ordinary income rates.

Creating enough “documented income” to qualify for a mortgage can be done in a few different ways, but the most common way is to take a large enough regular (e.g. weekly) withdrawal from an IRA to qualify. Usually, the lender will inform retirees on how much income is required to qualify for the home loan, and the withdrawal plan can then be established according to the lender’s parameters.

Some retirees may be taking withdrawals anyways as retirement savings are meant to be used in retirement, but others may not be. There are many scenarios where retirees are not withdrawing from retirement accounts in order to achieve tax or other financial planning objectives.

For example: A single retiree has $4,000,000 in an IRA with no existing mortgages or other debts. They earn no Social Security or pension income but didn’t plan to withdraw from their IRA this year because they have more than enough cash to fulfill their goals. To purchase their “forever home” they will need to withdraw $100,000 from their IRA to “prove” they have income. Now when they file their tax returns, a year that was supposed to have minimal taxes instead has a $20,000+ bill just to satisfy the lender!

3. Debt-to-Income Ratio (DTI) Rules Are Rigged Against Retirees

Proving income is usually the main hoop retirees have to jump through, but there are still other aspects of underwriting that work against them. Not everyone retires debt free, nor is it always advised to since it can sometimes be a benefit to hang onto “good” debt. However, debt can work against you during the mortgage lending process. While retirees may be in an extremely strong financial position with debt, underwriting will require even more income for those who have debt.

This part of their calculation is called the Debt-to-Income Ratio (DTI). The formula looks at your income compared to your monthly debt payments, and most lenders usually require your debt to qualify for a mortgage to be below 43-45%. For example: if you earn $1,000 per month and pay $430 per month towards debts, then your DTI is 43%.

You may have already noticed what isn’t included in this calculation: net worth. The entirety of retirement savings is completely ignored, even though there could easily be enough saved up to pay off any debts and leave money left over.

For example:

• Retiree A has a $2,000,000 IRA, earns $30,000 per year in Social Security, and pays $10,000 per year towards a car loan with $20,000 remaining. They are denied due to “low income.”
• Working Applicant B has no savings, earns $75,000 per year in W-2 income, and pays $7,000 per year towards student loans with $100,000 remaining. They are approved.

When you read those examples, who truly seems more qualified to you? Who would you trust to make their mortgage payments month in and month out? If I were providing someone with a loan then I, personally, would rather give it to the person who has enough assets to pay it off, not the person who is reliant upon at-will employment without a safety net. Instead, Working Applicant B could be approved and receive a more favorable interest rate than Retiree A.

While it isn’t a part of DTI, keep in mind that credit score will always be an important factor in qualifying for a mortgage. You’ll want to check your credit report before you apply for a mortgage. You can do so via one of the three main credit bureaus (Equifax, Experian, and Transunion). Most loans require a credit score of at least 620 to qualify.

Choose a Lender That Understands Retiree Finances

As discussed, many lenders rely on traditional underwriting standards that don't always reflect the financial realities of retirement. Because these standards often emphasize earned income over accumulated assets, retirees may feel pressured to make disadvantageous financial moves simply to demonstrate their ability to repay a loan. Ironically, these requirements can undermine otherwise sound financial planning strategies, leaving retirees in a weaker financial position despite having the resources to qualify.

Some lenders recognize the issues in the established underwriting system and instead specialize in asset-based underwriting. This means they evaluate total wealth, not just your monthly income, and you can avoid having to take withdrawals and recognize unnecessary tax bills just to qualify. Lenders who provide portfolio-based loans, or can verify income in an alternative way, can be a lot more beneficial than traditional lenders for newer retirees.

The way underwriting is done will likely be a slow change without regulations put into place that provide more equity for retirees in the process. Acts passed in the past, like the Equal Credit Opportunity Act, address discrimination in denying credit on the basis of social factors. There may need to be more regulations put in place from a financial perspective to help protect retirees from financial discrimination in a similar way.

Many retirees choose to move during retirement, and for some, that means financing a new home with a mortgage. Unfortunately, traditional mortgage underwriting often relies on earned income rather than accumulated assets, making it difficult for financially secure retirees to qualify. Retirees are forced to jump through hoops and take unfavorable, taxable distributions from retirement accounts just to fit the mold of the underwriting system. While there are some lenders who specialize in asset-based underwriting, they are not as commonplace as traditional mortgage lenders and there may not be an option but to take a taxable withdrawal. Until the underwriting system adjusts for the new reality of retirees, careful tax planning is a necessity to make sure a “forever home” purchase doesn’t cause more problems than its worth.

Connect with an EP Wealth financial advisor to explore strategies that align your home purchase with your overall retirement plan and help you make informed decisions every step of the way.

 

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