Why mortgage payoff with an IRA is not a good move

Q: My wife is 64 and I am 65 and we will soon move from semi- to full retirement. We're both getting Social Security and once in full retirement will receive about $50,000 a year, which includes $1,500 monthly from an IRA that I have been tapping. I also have a mortgage of $1,450 per month, and owe about $195,000. Would it be better to take $195,000 from my IRA to pay off the mortgage? And if I did, would I have to pay tax on this withdrawal?
D.S., via e-mail

A: Jim Huller, a certified financial planner in Roanoke, Ind., says that normally, he would recommend to anyone that they eliminate all debt as soon as possible. Nothing drags down your ability to live comfortably more than debt, in his opinion.

"But a mortgage is far more preferable to having any consumer debt," such as credit cards, auto loans, etc., says Mr. Huller, "because you are typically paying interest on an appreciating asset and usually getting a deduction for that interest."

In this situation, if you take larger distributions to pay off the mortgage, you'll simultaneously decrease your mortgage-interest deduction and raise your income-tax rate. By withdrawing $195,000 from that IRA, you will push your tax liability into the highest tax bracket. In this case then, it's best to sit tight with the mortgage and your current withdrawal rate.

Q: What are the advantages and disadvantages of money-market accounts and US Treasury bonds?
P.G., via e-mail

A: On a short-term basis, the yield on US Savings Bonds could be more or less than that of money-market accounts, says Keith Fenstad, a certified financial planner in Houston. The yields on either investment are a function of the current short-term interest-rate environment.

Over time, however, Mr. Fenstad sees money-market accounts as winning out. That's because of the reward that investors are paid for the risk they assume. Savings bonds are considered one of the safest investments available – guaranteed directly by the full faith and credit of the US government. Money-market accounts also are considered safe but they are backed by various short-term investments, such as CDs, commercial paper, and government securities. Because of the slightly increased risk associated with the underlying investments, they typically carry a slightly higher interest rate.

Savings bonds do carry some tax benefits over money-market accounts in that they are not federally taxable until sold.

Another consideration is liquidity. Money-market accounts are easily accessible. Many have check-writing or ATM-withdrawal privileges or both, so you can get at your money whenever you wish. Savings bonds, on the other hand, must be sold (converted to cash). This is no big deal – you can do it at your nearest financial institution. But you won't have access to your money 24/7.

And if you've owned your bond for only a short while, you may lose some interest in the process of cashing it in.