Sell the House or Keep It in Retirement? How It Changes Your Plan

Most retirement projections model the investment portfolio, Social Security, pensions, and spending. The house sits on the balance sheet but not in the cash flow. That is a reasonable default, because you cannot spend a kitchen, but it means a household with $1.8 million invested and a $1.1 million paid-off home can look fragile in a Monte Carlo analysis while having nearly $3 million of net worth. The house also costs money every year it is owned. In the Phoenix area, property taxes are relatively low, but insurance premiums have risen sharply, and a common rule of thumb for maintenance is 1% to 2% of the home's value per year. On a $1.1 million home, carrying costs including HOA dues, utilities, pool service, and landscaping can easily run $20,000 to $30,000 a year.

Consider an illustrative example. A married couple, both 66, has $1.8 million invested, spends $120,000 a year, and receives $60,000 of combined Social Security. The plan's modeled probability of success is around 72%, meaning a meaningful share of simulated market paths run short late in life. They sell their $1.1 million home, pay about $77,000 in commissions, closing, repairs, and moving (roughly 7%), and buy a $550,000 condo. About $473,000 goes into the portfolio, and annual carrying costs fall by around $12,000. The same plan now shows a modeled success rate near 90%. These numbers are illustrative, not a forecast, but they show why the house decision often matters more than fine-tuning the stock and bond mix.

Taxes on the sale depend on the gain, not the price. The Section 121 exclusion shelters up to $500,000 of gain for a married couple filing jointly ($250,000 single) if you owned and lived in the home for at least two of the last five years. A surviving spouse can still use the $500,000 exclusion if the home is sold within two years of the first spouse's death. Suppose the couple above bought for $350,000 decades ago and added $100,000 of documented improvements. Their adjusted basis is $450,000, and after about $66,000 of selling costs, the gain is roughly $584,000. Subtract the $500,000 exclusion and about $84,000 is taxable as long-term capital gain, plus Arizona income tax at 2.5%. The taxable portion can also count toward the 3.8% net investment income tax and push MAGI into Medicare IRMAA tiers two years later.

Keeping the house can be a legitimate strategy, not just inertia. Many planners treat home equity as the reserve for the late-life, no-go years: if one spouse needs assisted living or memory care in their 80s, the house can be sold to fund it. That lets the investment portfolio be spent more confidently in the active years without a separate long-term care reserve. Keeping the house until death also has a tax benefit. Heirs generally receive a step-up in basis to fair market value, erasing the embedded gain, and in Arizona, community property can receive a full step-up at the first spouse's death, not just on the decedent's half. A household that does not need the equity to fund the plan may be better off keeping the house and letting the step-up do its work.

Renting it out sounds like the best of both worlds and often isn't. At 70, being a landlord means tenant turnover, repairs, vacancies, and property management fees that commonly run 8% to 10% of rent. The net yield on a paid-off Phoenix home after taxes, insurance, maintenance, and management is often modest relative to its value. Taxes change too. You must depreciate the property while it is rented, and that depreciation is recaptured at up to 25% when you sell, even if the rest of the gain is excluded. The Section 121 exclusion itself is lost if you do not sell within three years of moving out, because you will no longer meet the two-of-five-year use test. If the rental is held until death, the step-up generally eliminates both the gain and the recapture.

A reverse mortgage, specifically a Home Equity Conversion Mortgage (HECM) insured by the FHA, is a third path for homeowners 62 and older. It lets you borrow against the home without monthly payments while you live there, and a HECM line of credit can grow over time if unused. The costs are significant (upfront mortgage insurance, origination fees, and closing costs), you must keep paying property taxes, insurance, and maintenance, and the loan comes due when the last borrower leaves the home permanently. Used deliberately, a HECM line opened in the late 60s can serve as a standby reserve for bad market years or care costs. Used as a last resort after other options are gone, it is usually more expensive and less flexible.

The emotional side deserves its own paragraph because it drives most of these decisions. A house holds memories, proximity to friends and grandchildren, a garden, a workshop. Some couples feel relief after downsizing; others regret it within a year. There is no penalty for deciding the house is worth what it costs, as long as the plan is tested honestly with the house kept, and the trade-off is a conscious choice rather than a default.

Run your retirement projection at least three ways: keep the house, sell and downsize at a specific age, and keep the house with the equity reserved for late-life care. If the plan only works in the sell scenario, the house decision is really a spending decision. If it works in all three, the choice can be made on lifestyle grounds.

Estimate the true carrying cost of the home, not just property taxes. Add insurance, HOA, utilities, pool, landscaping, and a maintenance reserve of 1% to 2% of value per year. Many retirees are surprised that their house costs as much each year as a good vacation budget.

Before listing, pull your purchase records and improvement receipts to establish basis. Every documented improvement reduces the taxable gain above the Section 121 exclusion. If a large gain is expected, time the sale for a year with lower other income, and consider pairing it with tax-loss harvesting in the taxable portfolio.

If you are considering renting the house instead of selling, model the after-tax, after-expense yield against simply selling and investing the proceeds, including depreciation recapture and the three-year window on the Section 121 exclusion. For many retirees, the numbers point to selling, but the model should make that call, not a rule of thumb.

If you plan to keep the house as your long-term care backstop, write that down as part of the plan. Decide which scenarios would trigger a sale, which spouse could stay, and whether a HECM line of credit would be a better bridge than a forced sale. A reserve only works if the family knows it exists and how it will be used.

• Treating the house as either part of the retirement portfolio at full value or as worth nothing, without modeling the actual scenarios in which it would be sold.
• Underestimating the cost of selling and moving, which commonly runs 6% to 8% of the sale price once commissions, closing costs, repairs, and moving are included.
• Losing track of improvement records and overpaying capital gains tax on the portion of the gain above the Section 121 exclusion.
• Moving out, renting the home for more than three years, and losing the Section 121 exclusion, then paying depreciation recapture on top.
• Selling a highly appreciated home late in life with no need for the proceeds, giving up a full step-up in basis for heirs.
• Downsizing into a home that costs nearly as much, releasing little equity while paying all the transaction costs.
• Treating a reverse mortgage as a last resort instead of evaluating it as a planned standby reserve while there is still time to use it well.