What should a retiree do with proceeds from the sale of home?

August 30, 2023 | David Edmisten, CFP®

If you're selling your home when you retire, you'll need to decide what to do with the proceeds of your home sale. There are many ways you can use the profits from a home sale to help your retirement plan.

First, you want to make sure you are aware of the tax implications and net proceeds to expect from your home sale.  When you sell a home for more than you paid for it, you have a realized capital gain.  This gain is the difference between the amount you paid for the home and the amount of net proceeds you receive at the sale.

The capital gain on the sale of a home is normally taxable at capital gains tax rates.  However, the IRS offers some exclusions that can help homeowners pay less in taxes on the sale of a primary residence.

If you owned the home for at least 2 of the last 5 years and it was your primary residence for 2 of the last 5 years, you can exclude up to $250,000 in gains if you're single, or up to $500,000 if you are married and filing jointly.

You may not be eligible for the capital gains exclusions if you haven't met the 2-year requirements for ownership and primary residence.  You also may not be eligible if you already claimed similar exclusions on another home sale within the last 24 months before the sale of the home; if you bought the home through a like-kind exchange; of if you are subject to expatriate tax (this can apply to certain people who have given up their citizenship, or who have given up their U.S. residency status as a result of living abroad for an extended period of time.).

If you made improvements on your home between the time you purchased it and the time of sale, you'll want to document those, and you may be able to include them in the basis (original value) of your home.   You'll want to account for the costs related to the sale of the home, including closing costs, final property taxes, transfer taxes, etc., to determine the net proceeds that you'll have available.

What to do with the proceeds:

Once you have received the proceeds from your home sale, you get to make decisions on how best to use the money to help your financial situation.  Here are some options to consider:

 - Use the money for your new home

If you're purchasing a new home, whether in your current area or relocating to a new state, you may want to use the profits for the purchase of your new home.  You may also consider using some of the funds to cover moving expenses, furnishings or any immediate improvements you would like to make on the new property.

- Additional taxes

You'll probably want to set aside funds for any additional capital gains tax you may owe, if your profits on the home sale exceed the exclusion amounts.

 - Pay off your mortgage

If the proceeds from your home sale are significant, you may consider paying cash for your new home.  Not having a mortgage payment in retirement can help reduce your living expenses each month, which can help your retirement income and savings last longer.  

For example, in my area, many people are relocating to Prescott, AZ from California.  Many people are able to sell an expensive home in California and have more money than they will need for the cost of their new home in the Prescott area.  They can purchase the new home for cash, have no mortgage and potentially even some money left over for other financial needs.

 - Pay off other debts

If you're carrying credit card, auto loan, student loan or business loan debt, you may consider paying these off.  Not having monthly debt payments can free up money each month that can be used to support your retirement lifestyle.  You can also consider saving and investing additional funds or using them for giving to family or charities.

 - Put it in a savings account

An addition of cash from your home sale can be parked in a savings account.  This gives you a reserve to use if you're retirement spending increases above what you expect.  It can also provide an emergency fund or be available for home improvements, travel or other opportunities that you may not have planned for ahead of time.  You can earn interest on the funds while they are sitting in your savings account.

 - Add to your investments

If you are renting, have a fully paid house, or you don't need the money for other expenses, you can consider using your home proceeds to add to your investments for retirement.  Using extra funds to invest in stocks, bonds or real estate can give you the opportunity to continue to grow your money and earn additional retirement income.  You'll want to plan carefully and understand the risks and potential for losses of any investments you explore.  You may benefit from working with a financial advisor to help plan for the investment strategy that makes the most sense for your situation.

 - Generate additional retirement income

You may be able to use your home proceeds to increase your monthly retirement income.  Spending the cash from your home sale to cover retirement expenses up front could allow you to delay claiming Social Security benefits.  Since Social Security benefits increase the longer you wait for them (up until age 70), you may be able to claim a larger monthly payment by waiting longer to begin Social Security.

You may have similar options with pensions or annuity benefits if the monthly payment increases by delaying when you start the benefit.

You could also consider using the home proceeds to purchase investments that generate quarterly or monthly income, such as bonds, dividend stocks, real estate or annuities.  Each type of investment carries different risks and opportunities, so you'll want to evaluate each with the help of a financial advisor before investing.  

Generating additional retirement income can potentially give you more to spend each month, or allow you to cover expenses from income payments, rather than withdrawals from your retirement savings.  

 - Consider retiring sooner

If you're selling a home at a high value, the proceeds may be significant enough to be a real boost to your financial plan.  You may consider updating your retirement plan with the new assets to see if your financial trajectory has improved greatly.  The additional funds could be enough to allow you to retire sooner.  

Review the details of your financial plan with a financial advisor who can stress test and validate your plan to determine if you can afford to retire sooner than you originally planned.

 - Give generously

If you will have more assets than necessary for your own needs after selling you home, you may consider how to give to others.  Your gifts could provide a boost to the lives of your children, grandchildren or other family members.  If you are charitably inclined, you may have additional assets that can further the mission of your favorite non-profit organizations.

You may want to work with your financial planner and tax advisor to see if there are strategies available to you to give in a tax-efficient manner.

Selling a home can be a financial boost when you retire.  Make sure you understand your tax liabilities on the sale and the net proceeds you can expect.  If you're left with a surplus of funds, be sure to consider all your options.  You may be able to reduce your housing costs or other expenses, increase your savings and investments, add more retirement income or increase your giving as a result.

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About the Author:

David Edmisten, CFP®, is the Founder of Next Phase Financial Planning, LLC, a financial advisor in Prescott, AZ. Next Phase Financial planning provides retirement, investment and tax planning that helps corporate employees retire with both financial and lifestyle security.