Tag Archives: family finances

Taking Money Off The Table

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With markets high and interest rates creeping up, some people might be thinking about selling portions of their holdings.

I’ve had the opportunity to “cash out” on more than one occasion. Looking back, I completely missed how freakishly lucky I was to have the opportunity to choose.

One time I didn’t take the money, the other time I did. Both decisions worked out OK so I’ll share my process.

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First, when I make a buy/sell decision I try to value the asset independently as well as consider what the situation is worth to me.

For example, my current business (consulting) is worth far more to me than it would be to a third party. Unique benefits are: gives me a voice, allows me to get paid for what I like to do, allowances for vehicles/home office, gives me an opportunity to help my local community, brings me close to my friends.

Always consider the non-financial benefits of your current situation – these are hidden to third parties, who rarely give you value for them.

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The biggest decision financial decision of my life was when I chose to hand back a partnership in a private equity firm. I was 31 years old and, while the opportunity cost was huge, I figured that I could get back to my old situation if I was willing to take a pay cut.

Again, I completely missed my extreme good fortune to be able to choose. Not surprisingly, my peers and family thought I was nuts.

Take Home Point: my downside position was my old life back with less money coming in.

Take Home Point: once you get five years living expenses off the table, it gives you flexibility in an uncertain world. I achieved that goal early in my first career and it gave me freedom to take risks. With this goal, the toughest part is lifestyle humility. I was lucky to start my career working for a very humble man.

Implications of Failure/Black Swans: Getting things wrong at 31 wouldn’t have been that big a deal as my fall back plan was asking for my old job back. Consider your fallback plan.

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Roll forward five years:

I was out of the PE business for five years, recently married and co-founder of a company that did property development. In the intervening five years, I co-founded a fund management business that was doing well.

Age – 36 years old, still young but now with a wife and new life that wouldn’t make it easy to return to Private Equity.

Net Worth – illiquid with a personal g’tee into the General Partner of the fund management company. I had placed myself in a position where I could lose more than my total net worth. Not smart!

Implications of failure/black swans – personal bankruptcy, loss of personal freedom, starting from scratch, return to big city living – highly unattractive, especially given my love of inexpensive living (cycling, forests, reading, writing).

I told my business partner that I wanted to sell out and would accept any terms that worked for him. He bought me out over three years at a 50% discount to third party offers we received. He wanted control and the price was good enough.

In this case the intangibles (control) made the deal highly attractive to the buyer. I didn’t get wrapped up in fair value, what I needed was a deal that was “good enough.” When you are selling to the operating management, you are very likely to take a discount on fair value.

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From twenty-five years of spending time with the 0.001%, here is what I’ve noticed about money and wealth.

A – having 5 years living expenses, in cash, gives tremendous flexibility. Whatever that # is for you, it represents the highest utility aspect of your financial life. Nobody can make you do something you don’t want to do when you are able to hit the road and know that you’re OK for a long while. This is huge.

B – if you’ve built a successful business then you’ll never be out of work unless you are permanently disabled (insure that risk now). That said, consider if you are comfortable with the worst case scenario. Reading Taleb saved me from personal bankruptcy.

C – depending on your age, there is a magic number where you will be able to survive without working for the rest of your life. Most the wealthy folks that I know (call them the 2%) scale their lifestyle so they never get there. They don’t even get to the enviable position of being able to work at what they love.

Keep it real. Spending time with people that have 5-10% of your net worth is a smart use of your time.

With fitness, and finances, most people aspire to spend time with people that have FAR MORE than them. This screws you up.

If you want to feel good about your life then teach people that have less.

A couple weeks each year I live like I did when I was a student – I look forward to these weeks as they keep me grounded and get me OK with personal downside scenarios.

Small businesses have limited exit windows. Part of what pushed me to sell was a funding environment that seemed crazy to me. Separate from my views on valuation, I knew that the easy money wouldn’t last. I got the timing wrong on the contraction but it came eventually.

Getting My Affairs In Order

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In March, I shared a family legal structure. Even with that structure in place, there will be significant admin for your family to sort when you pass. This admin will hit your spouse and children when they are least equipped to deal with it.

Given that people are useless at administration when they are grieving, how can you make life easier for your family? 

Simplify possessions, portfolios and personal legal structure. Almost everything we have will be sold, donated or disposed. Streamlining yourself, in advance, is an act of love that will save your kids days and weeks of effort. If you have mementos that are special to you then sit down your kids, and grandkids, for storytime. Use the pictures and personal effects to make your history, their history. Without this effort, your memories will end with your passing. Your kids will treasure their memories when you pass. 

Brief your successor(s) – consider the roles that you play in your family (financial, administrative, emotional), who’s backing you up? Do they know it? Have you explained their role to them? Do your successor(s) have written plans and checklists to work through? It’s far easier to update an existing plan than to create one when you’re under the stress of an unexpected event.

Establish A Joint Operating Account – Start with a joint operating account with your spouse. As you age, consider a joint account with your most reliable adult child. In my family, at least half of us have bodies that outlive our minds. It’s very likely that I’ll need to hand off to one of my kids at some stage.

Consider Medical and Financial Powers of Attorney – These roles require different skill sets – consider splitting. Have an honest conversation with the individual you’re considering to help you out. Are they willing, and able, to fulfil their role.

Consider Probate – If you died today then would your estate require probate? What are the costs, and disclosure requirements, associated with probate in your locale? Are you OK with that? What are the steps necessary to avoid probate?

Clear Instructions – make your Will crystal clear, simple and easily available when you pass. Brief your executor, and personal representative, well in advance.

Proactive Disclosure – Hold meetings with your financial/admin attorney, your medical representative and your spouse. I’m 44 and have a quarterly state-of-the-family meeting with my succession team. Not because I expect to die anytime soon, rather as an insurance policy to lessen the blow on my loved ones if I’m taken out at short notice.

Sorting the above doesn’t make coping with death easy, but it does go a long way towards reducing the chance that your survivors are overwhelmed, or ripped off.

Be very careful with financial powers of attorney and signing rights over your assets. I’ve seen fraud within families and between lifelong friends. Establish structures that limit the ability to one corrupt individual to hurt your family. Remember that even competent people make mistakes.

When you think you’ve got everything sorted – try explaining it to a trusted friend. Once you’ve explained it to your pal, have them explain it back to you. I guarantee you’ll learn something.

Three tips for estate planning:

  1. Say what needs to be said, today.
  2. Be a hero now, not when you pass.
  3. You’ll get the greatest satisfaction from sharing gifts (in person) with the people you love.

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Denver Bar Association: what to do when someone dies

Colorado Bar Association: personal representative and trustee under probate

What’s Your Gifting Strategy

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I love riding my bike with friends. To create more opportunities for that to happen, I give away a lot of cycling gear each year. When my friends wear the gear, I hope they think of me – even if they don’t think of me, it makes me happy to give gear away.

Here’s what I’ve learned about gifting…

It is an essential and effective way to influence behavior.

At some level, most of us feel that we deserve gifts. I need to be cautious about reinforcing entitlement in recipients.

The best gifts are items we can use while doing a favorite activity. An athlete-buddy of mine gave me a set of nordic ski underwear and gloves. I think she wanted me to learn to ski! I use her gift weekly and think about what a considerate person she is. The shirt makes me so happy (it’s my favorite color) that I wear it as casual wear. It’s not surprising that my pal scored a homerun with her gift, she’s a psychiatrist.

Gift frequency is better than size – for example 4 gifts of $250 generates more happiness than one gift of $1000. However, see habituation below.

Random is better than scheduled – I like random gifts. If I see something somebody will like, I get it and send it over to them.

Value is highest at point of award, not receipt – important to remember this for children, employees, heirs and other important people that you gift towards.

Consider my piece last week about Class Dojo, earning the ten points my daughter needs for a treat gives her more pleasure than the treat itself.

An example from the corporate world… At the private equity firm where I worked, the partners would award annual profit sharing points – there were 10,000 points available for each investment fund and we’d earn our share of 1,000 points annually. This system spread the allocation across many years, rather than having it back-end loaded when the investments were sold.

Things that people will use often, and associate with you are excellent – think about my friend’s gift of a shirt and gloves. To give me the same amount of pleasure she would have had to send me $5,000! A well-selected gift is worth far more than its monetary value.

Gifting to people’s children, ie via education, is deeply appreciated – parents have a sense of obligation towards their kids.

People (employees, spouses, kids, yourself) adapt very quickly to changes in standard of living, and forget how they got there. I avoid gifts that eliminate the self-esteem that comes from taking care of one’s self.

Be wary of reinforcing feelings of entitlement – for example, beautiful people and skilled athletes are trained that the world will take care of them. As they age, they experience pain when their gifts of chance (beauty and athletic prowess) fade.

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Some people gift publicly for reasons of family, or corporate, strategy. Others prefer to gift anonymously. Considerations:

  • Be wary of the motivation of recognition.
  • If you ask your pals to support your causes then you will feel an overwhelming need to reciprocate (and you might not feel the same desire to support their causes). Of course, remember that it is OK to say “no.”
  • Most of us have small budgets for gifting – pay particular attention to situations where a little time and money can have a big impact.

If you need more of something then have a strategy to gift some of what you need.

Should I Sell My House

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Spring has seen a surge in the Boulder property market. As a result of the surge, many locals are considering selling their homes, or investment properties. I am going to share how I try to make better decisions with real estate.

First Step: Gather Information

Start with a family budget that lays out expenses and revenues for the next twelve months. Once created, budgets are easy to maintain.

A technique that I use as a budget reality check is comparing cash that leaves our family bank account (for a month, or a quarter) against our projected expenses. Over the years, I’ve had some surprises by comparing “cash out” to budgeted expenses.

The next step is gathering income and expense details for your key assets. In my family, we make this easy for ourselves by having a separate “house account” which pays out everything that’s house related. In my property business we track everything by property.

To help you out, page 55 of my recent book has a list of expenses as well as detailed case studies for various types of property investments.

If you resist pulling this information together then consider if you are seeking to hide something from yourself. I’ve been known to resist gathering information when it might contain bad news!

Step Two: Pull the information together for the target property.

Here’s an example from where I used to live. I’ve adjusted the figures to reflect expenses per $100,000 of house value.

If I rent the house then I have to pay:

  • Rental Agent Commission – $321
  • Insurance – $180
  • Taxes – $677
  • Maintenance – $136
  • Furniture Removal – $85
  • Mortgage – none for this property
  • Utilities – tenant pays
  • Damage & Hassle – possibly material, property is in excellent condition and ready for sale

Against that I have a rental projection of $5,145 per annum (per $100,000 of house value). Round numbers, the property is forecast to yield 3.7% [(5,145 less 1,399) divided by 100,000].

If you have a mortgage against the property then remember to consider the return on investment with, and without, your mortgage.

  • Yield on valuation – take your net profit before interest and divide by the net value of the property (after sales commission and capital gains tax)
  • Yield on equity – take your net profit after interest (exclude the principal amount of your mortgage payment – only include interest) and divide by the net equity that you have in the property

To illustrate, if there was $40,000 of debt per $100,000 of value then the interest payment would be $1,400 at a mortgage rate of 3.5%. The net profit after interest would be $2,346 on $60,000 of equity (3.9% net yield on equity).

Step Three: Consider Big Picture Questions

What will I do with the equity if I sell? For many of us, housing is a form of forced savings. If we had the equity sitting in a bank account then we might be tempted to spend it. If you are thinking about switching to another property investment, then you’re likely to do best by staying put. Property has very high transaction, and switching, costs (due to real estate commissions).

How often can I sell this asset? Certain assets, such as vacation homes, boats, luxury goods, can only be sold in good market conditions. This creates a paradox because your best window to sell will be when you’re tempted to hang on to the assets. If I want to sell then I remind myself to leave something in the deal for the buyer.

Where will you live? If you are thinking about selling your main residence then be clear about where you will move, and the expenses associated with your new location. Generally speaking, prime markets are the first to respond to an uptick. For example, the Boulder market saw this recent surge a year after Palo Alto ticked up. Secondary Colorado markets might take another year to see improvement. What’s been happening in your next location for the last year, how does that compare to your home market?

As an example, the value of my old house now “buys” 30-35% of the square footage in Palo Alto vs Boulder – it used to buy 50-60% of the square footage. When moving between cities, states and countries, timing plays a key role with purchasing power. When moving “prime” to “secondary” – it is possible to get priced out of a market. I’ve seen examples of this in the San Francisco Bay Area, London and Vancouver. If you sell out of a prime market then values can rise and make it very tough to buy back in.

What does your current mortgage, insurance and taxes “buy” if you were to shift to a rental unit? I like to compare own vs rent. My current house would cost me $1,000 per month more to rent than to own. This is a function of the down payment I put down and covered in my article on Mortgage Debt As Inflation Insurance.

What’s your tax exposure ? Agent’s fees and realized capital gains can make moving from owning to renting less attractive. As a landlord, being able to depreciate the house (but not the land) will reduce the taxable income generated by the property.

Three final questions that I like to ask myself:

  • Can I afford to be wrong?
  • What happens if I do the opposite?
  • Under what scenarios does my preferred choice become a really lousy decision?

For now, my decision has been to continue to market my old house for sale. However, the yield from renting it out, rather than selling, is compelling.

Financial Support

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As part of planning my kids’ financial education, I’ve been asking myself a series of questions. 

A paradox about family finances is the most financially qualified family members often need the least help. I can take pride in not asking others for help so I fool myself when looking backwards. I have had to think very carefully about the nature of financial support in my life.

At 44, I ask myself, “What level of financial support made a difference at various stages of my life?”

17-20 years old (late 80s) – I had an academic scholarship and worked as a teaching assistant so my core university expenses were covered. Over and above that, $12,500 per annum made a big difference to cover living expenses. That’s about $25,000 in today’s dollars.

21-28 years old – (90s) – I learned how to “live cheap” in university and could survive, quite comfortably, in my early career on $25,000 per annum (2012 equivalent). It was easy for me to hit this minimum once I found a job. So the main support that helped was introductions, rather than financial.

Thinking about my early career, any level of day-to-day financial support would have held me back as there were a number of times that I considered leaving my job. 

By 28 years old, I saved five years worth of core living expenses and considered leaving my first career. Learning to save was a habit from early childhood and reinforced by being standalone in my finances. A key calculation, for me, was knowing that I could live very cheaply and follow my passion for triathlon training.

32-40 years old – this covered my career as an elite athlete and I was able to live comfortably on $50,000 per annum. When I spent more, it was driven by either non-essential (luxury) expenditure or travel related to my work in financial consulting.

Several things that I failed to anticipate in my 20s, and 30s:

  • I wasn’t going to work in a high-paying field forever
  • I was likely to take on dependents in my 40s
  • I would value time with my family
  • End of life care

With three young kids in the house, the ability to work part-time and invest in them is precious. Equally valuable, is the ability to fund preschool and childcare so that I can have time away from the kids. I value these two points at $25,000 per kid. I have friends that are double that number as well as less than half that number. My point, there will be some number that’s appropriate for your family. Working less and childcare are the big numbers with regard to young kids and I never considered them in my pre-fatherhood budgets.