Our adviser says we have 'too much' home equity. What should we do?

Dear Credible Money Coach,

We were recently told by our financial broker we have "too much equity" in our primary home and a rental house, and should put it to work. Our home has a mortgage of $315,000 with a $1.1 million value scheduled to be paid off in nine years. Our rental has a mortgage of $42,000 with a $390,000 value scheduled to be paid off in four years.

My wife and I are 53, plan on retiring in six years, and have significant retirement accounts currently in excess of $2.5 million. We are fine using the additional rental income to supplement our retirement and like the idea of not carrying a mortgage into retirement. We have about a third of our retirement funds in Roth accounts. We also have personal liability insurance of $1 million.

So, is it "bad/wrong" to have so much equity sitting in our real estate? — John

Hello John, and wow! If it’s wrong to have "too much equity" in your financial situation, I don’t want to be right. Congratulations on having a firm grip on your finances, and a solid financial foundation for living well in retirement.

Your financial broker may be looking at just one brush stroke on your overall financial picture. They’re seeing all the equity you have sitting in properties and thinking they could make that money work harder for you by investing it. They likely want you to consider a cash-out refinance so you can tap that equity and put it to work elsewhere.

Investing is one of the many reasons people do cash-out refinances. And if you’re considering a cash-out refinance, you should definitely comparison shop with a resource like Credible, which makes it easy to see prequalified refinance rates from multiple lenders.

Investing can be an excellent way to grow wealth, but the tradeoff for growth is unavoidable risk. Because of that, tapping home equity to invest isn’t right for everyone. Let’s look at some important questions you need to weigh if you’re considering following your broker’s advice.

What’s your current financial situation?

John, from your description, you’re in good shape right now. Let’s list your advantages:

• Two properties that will be paid off in the foreseeable future (barring any financial crisis)
• Substantial equity in two properties
• Reliable rental income from one property
• More than $2.5 million in retirement accounts
• $1 million in liability insurance (although you might consider increasing that amount given your assets)

Your financial situation currently appears secure. You’re probably not struggling to pay your bills, meet expenses, and put money in your retirement accounts.

What’s your situation likely to be in the future?

Of course it’s impossible to predict the future with certainty, but that said, based on your current assets and property debt, it looks like you’re on track to meet your goal of retiring in six years. And if you continue to contribute to your retirement accounts, your savings will keep growing toward a number that should be sufficient to meet your needs (and then some) in retirement — barring any unpredictable financial crisis.

What’s your tolerance level for risk?

This is really a key question for you, John. You say that you like the idea of entering retirement without any mortgage debt, and I’m definitely in favor of being mortgage-free in your Golden Years. Home equity is like money in the bank (minus the maintenance fees). You may need that money in retirement for important purposes like modifying your home to allow you to age in place.

When compared with investing, retaining your home equity comes with much less risk. One reason for this is that the market influences that have the most impact on your home value (and by association, your equity) tend to be less volatile than the ones that affect stock values. For example, the war in Ukraine has created significant turbulence in stock markets around the world, but it hasn’t affected home values in the U.S. So while your Roth IRA balance may have shed some digits, your home has retained its value.

Of course there’s a trade-off for choosing to hold onto your home equity versus cashing out and investing it. Stocks can, in good times, deliver returns that exceed the appreciation you’re likely to see in your home’s value between now and when you retire.

What will you gain with a cash-out refinance to invest (and do you really need it)?

A cash-out refinance can be a cost-effective way to fund important goals, like repairing or renovating your home, which can both enhance your home value in the long run. But some reasons for tapping home equity are less reliable than others, and investing falls into that category.

Before following your broker’s advice and turning your home equity into cash to fund investments, it’s important to ask yourself these questions:

• Do you really need the extra growth you’re hoping to gain?
• Can you reach your retirement goals without risking your valuable home equity?
• Are you comfortable with risking your home equity for unpredictable returns?
• If you cash out your equity to invest it, do you have time to recover if your investments lose value?

Ultimately, only you can decide if you prefer the security of holding onto your home equity over the possibility of greater returns that you reap through investing.

Ready to learn more? Check out these articles …

• Should you refinance with your current mortgage lender?
• How to get the best mortgage refinance rates
• Should you pay off your mortgage or invest the money?
• How much does a $300,000 mortgage cost and how can I get one?

This article is intended for general informational and entertainment purposes. Use of this website does not create a professional-client relationship. Any information found on or derived from this website should not be a substitute for and cannot be relied upon as legal, tax, real estate, financial, risk management, or other professional advice. If you require any such advice, please consult with a licensed or knowledgeable professional before taking any action.

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About the author: Dan Roccato is a clinical professor of finance at University of San Diego School of Business, Credible Money Coach personal finance expert, a published author, and entrepreneur. He held leadership roles with Merrill Lynch and Morgan Stanley. He’s a noted expert in personal finance, global securities services and corporate stock options. You can find him on LinkedIn.