smart spending

Picking priorities with an inheritance

Don TaylorDear Dr. Don,
My father died recently and I will be inheriting about $200,000. We have a 15-year mortgage at 2.99 percent and owe $90,000. Initially, I wanted to pay off the mortgage, use some to buy cars for me and my husband and invest the remainder. We're currently driving 1996 and 2001 Toyota Corollas.

I know it would make sense to invest more and keep the mortgage. But we're going to have a cash flow problem because I plan to quit my job to take care of my mother with Alzheimer's. She will be contributing $1,500 a month to the household, but our life would be a lot easier if we didn't have the $700 monthly mortgage payment. My husband makes $50,000 a year, and I have been making $34,000, but that ends in a few months. Thanks very much for any advice you have for us.

Thanks,
-- Lisa Long-Term

Dear Lisa,
I'm sorry for your loss. Inheritances often come at a high price -- the loss of a loved one. Being your mother's caretaker will be a challenge. Be sure to take advantage of opportunities for respite care and local support groups. Don't shoulder the responsibility alone.

I'm a little conflicted whether you should prepay the mortgage with the inheritance. In general, I think that people should invest when they can earn more on their investments after-tax than they pay after-tax on their mortgage. While I don't know if you're able to fully utilize the mortgage interest deduction on your taxes, you do have a great rate on your 15-year fixed-rate mortgage. A mortgage interest rate of 3 percent won't be around forever. If you decide to prepay and then need to remortgage the property later, you'd likely be stuck with a higher rate.

Your mother's contribution of $18,000 a year will replace more than half your gross income. On a net basis, it's probably closer to 70 percent. Since you can decide to prepay the mortgage at any time, I'd suggest waiting a couple of months after you quit your job to see how the monthly budget works out before making the commitment to prepay your mortgage. You really don't know how long you'll be out of the workforce. Investing your inheritance may be the best way for you to build wealth for future income needs, such as retirement.

I also suggest that you talk with a tax professional about the tax implications of having your mother move in to be cared for by you.

If you use part of the inheritance to prepay your mortgage, you are actually investing in real estate. What changes is the degree of leverage used in the investment when you no longer have a mortgage.

Regarding your cars, they are getting old. I can see why you would want to update the fleet. The inheritance gives you the opportunity to do that without the budget strain of two car payments. Just don't get too extravagant when picking out your new rides.

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