Tag Archives: family finances

Wealth Habits: Capitalizing Luxuries and Time

Posted on by

IMG_4160Over the last year, I’ve sold two paintings and a piece of jewelry. My family had owned these items for a long time and they have given us a lot of pleasure. However, each September, an insurance bill arrived and gave me a fair amount of pain.

So now the items are gone and last week my insurance bill arrived. I noticed that my insurance savings are enough to take my wife to visit any museum in the world, annually, forever.

By getting through the pain of change (the sale)… I created a situation where we could share experiences together (future trips).

The cost of the status quo is often hidden.

+++

Similar story.

I’ve been thinking about buying a boat, a sprinter van and/or a truck.

Despite evidence to the contrary, at some level, I think these assets will make it easier to spend time with my kids.

These assets are expensive to own, depreciate and require time to maintain.

How to counter the urge to purchase?

Assume depreciable assets are free to own, lease, keep receipts and track total time/spending in a year.

Cat SailAn example for the boat:

  1. As a teenager, I spent many summers working on the water. In those years, what was the total number of days that I would spend on the water? My peak days were 60 per annum. This year was closer to 25 days.
  2. Based on my rental history for the last two years, what’s the average cost per day of renting, rather than owning? Let’s assume it is $1,000 per day.

Based on actual days on the water, how many years expenditure would I capitalize with a purchase? In my case, it is 10-25 years of expenditure based on how you slice the numbers and the size of vessel. Also, worth noting that I was on seven different vessels in 2015.

The above analysis is essential before you buy a vacation home, consider becoming a ski-family or purchase a large depreciable asset.

+++

Think back one decade, or two… have your preferences changed? Mine have changed tremendously and I have discovered that I am a lousy judge of what I’ll want in ten years’ time!

How might a large capital purchase impact the freedom you have to allocate your time?

By staying variable in the family budget, I can:

  1. free significant time in my daily schedule
  2. finance childcare
  3. budget for shared experiences
  4. immediately ratchet down spending, when required

+++

2015-09-20 17.53.02The final step is to pay attention when you are enjoying a “luxury” expenditure.

Notice the changes (if any) with your inner experience.

My benchmark is the way I feeling during a walk in the forest that’s ten minutes away from my desk.

Live where you don’t need to leave.

Real Estate – Should I buy or sell?

Posted on by

2015-09-14 13.55.37

In May 2014, I shared a template for reviewing your real estate. Let’s revisit that property – (prior values in parenthesis).

  • Today’s Zillow value $1.2 million ($850,000, +26%)
  • Recent Assessment value $1.05 million ($830,000, +27%)

Zillow and the county assessor have revised values up by more than 25%. You’re wondering if there is a bubble. You receive an offer of $1.1 million, should you sell?

In the article from May 2014, the “owner’s value” was $925,000. This offer is ~20% higher. Seems straightforward to sell, but pause to consider…

  1. How has the investment changed over time?
  2. What are you going to do with the money?
  3. What are the tax consequences of selling?

2015-09-11 15.25.11Investment Review

The big story in Denver/Boulder real estate has been increasing rents. The current rental income for the property is ~$60,000 per annum. Taxes, insurance and repairs cost $10,000, so the net cash flow is $50,000 per annum.

Previously, cash flow before interest and depreciation was closer to $25,000 per annum. So there has been a near doubling in the annual cash flow from this investment, but pause to consider…

Is the cash flow sustainable?

In this case, the cash flow is not sustainable. Houses wear out, roofs need replacing, plumbing needs repair and appliances break down. So let’s adjust the $50,000 per annum to $40,000 to reflect sustainable cash flow.

The offer is $1.1 million to buy $40,000 of sustainable cash flow. That is an implied yield of 3.6%.

How does that stack up?

++

Alternative Uses of Funds

US Treasury Yields

  • 5 year, 1.6%
  • 10 year, 2.3%
  • 30 year, 3.1%

Vanguard Select Fund Yields

  • VTSAX (US Equity) – 2.0%
  • VBTLX (US Bond) – 2.2%

If you are the seller then you should ask yourself “What am I going to do with the sales proceeds?”

If you sell real estate that yields 3.6% to buy bonds that yield 2-3% then the value of your investment is likely to be eroded over time. Most obviously, because rental income tends to increase over time, while interest payments are set for the duration of the bond.

High-quality assets with growing income streams are attractive.

++

Taxes

If you sell at $1,100,000 (to a buyer without an agent) then what’s your net realizable value?

Using numbers consistent with the May 2014 article, you would net about $1,025,000 (before any mortgage pay off).

You’d also want to adjust the sustainable cash flow from the property to reflect taxes you pay on the income. To make things simple, let’s assume a sustainable cash flow after taxes of $32,500 (yielding ~3.2% after tax).

The above numbers would change, possibly significantly, based on the size of mortgage payoff and your personal tax position.

It’s worth having a professional walk you through the detail.

++

Overall

When I look at the above, I see a market that has increased 25% in value. Seems like a lot.

  1. Rental growth is in line with the increase in value.
  2. Alternative investments are yielding less than this asset.
  3. The asset is located in a zip code with real-economic growth that is higher than the US average.

So the market seems fairly priced – at least to me, today.

What should the buyer and seller do? In these market conditions, they are likely fine either way.

What’s going to happen to future rents and prices? I would be suspicious of anyone that claims to know.

Family Financial Review

Posted on by

2015-09-10 11.53.28August/September is the time of year when I do my life review. I’ll be writing about the various components over the next few months.

2015-09-04 19.00.49Fear Impairs Judgement – you’ve certainly felt financial fear in the last three weeks. However, the lesson runs deeper than short-term volatility.

The financial media tempts me to:

  • frequently tweak strategy
  • aim for the perfect asset allocation
  • act impulsively to avoid future losses
  • seek superior returns

Strategically, I want to avoid all of the above.

Tactically, I want to manage family expenditure and execute a reasonable long-term financial strategy to the best of my ability.

Being good enough is good enough.

++

Sell Illiquid Assets Into Late Bull Markets – in 2014, I decided to sell land, art and jewelry.

Our illiquid assets cost money to hold and I realized that the cash would be better spent on childcare and pre-K education.

Despite selling for less than expected, the net result has cut the family’s core cost of living by 4% and enabled my wife (and me) to work less.

The question to ask yourself is not “is this my best price?”

The question to ask yourself is “are we in a late bull market?” If the answer is “yes” then it’s a good time to sell illiquid assets.

++

2015-09-06 17.06.43-1Asset Allocation is often a distraction from what matters – with good wealth habits, you can ignore the small stuff.

Here’s a post from December 2010 on asset allocation. Five years along, I’m making progress at following my own advice.

This post from April 2012 (about my future asset allocation) reminds me of the folly of forecasting.

For the benefit of my future self, here’s a snapshot from 2015.

  • 30% – investment real estate
  • 25% – low-cost, diversified equity funds
  • 25% – fixed income in home currency
  • 15% – family home
  • 5% – cash and other

There are historical and family-specific reasons for the above. Not a recommendation to your family.

++

2015-09-06 20.04.16Time and Health – Am I acting in harmony with my mortality? with my values?

If you find that a self-serving bias isn’t generating satisfaction then consider shifting your focus towards taking better care of your health.

The shift towards health will surface conflicts between your values and how you allocate your time.

No step is too small with regard to positive self change.

 

Wealth Habits: Are we there yet?

Posted on by

2015-07-09 11.30.50A question I ask athletes is, “Why did you start?”

When sitting down with a family, I change the question slightly, “What is living well?”

Write down detailed answers.

Answering these questions honestly will surface your values and help you make better choices.

The answers will also help you understand when you’ve achieved victory, and you might discover something rather strange about winning.

You feel just the same.

Because you feel the same, you’ll be tempted to change your strategy. You will forget why you started and lose sight of what it takes to live well. You’ll strive for more.

The exact nature of your “more” will be influenced by your peers. Unsure? They will be happy to tell you. Just ask a room full of buddies… “What’s your proudest accomplishment?”

Look inside and see if you’re tempted to strive towards their goals.

With my academic, financial and athletic friends – I can feel the temptation to strive.

Striving towards another person’s answers might not fulfill you, especially as only a minority bother to consider the “why” behind their daily choices.

You may find that it takes a surprising amount of faith to stay the course. My list is exercise, write, read, love, help others and sleep.

It’s important to remember your answers. They are an effective antidote against the temptation to strive. In my case, striving is a result of desire: to buy assets, to make money, to compete against others, to go shopping and other variations of more more more.

  • In a family
  • In a marriage
  • In a company
  • In your life

How will you recognize success?

It might feel different than you expect.

 

When Assets Become Liabilites

Posted on by

noodlesThis Q&A with Warren Buffett is packed with gems like the following:

Money has no utility to me anymore as I am very happy with what I have but it has enormous utility to others in the world. More possessions to me would actually be a liability than an asset.

I don’t know Mr. Buffett but I am friends with a well-adjusted member of his demographic.

Last spring, I asked my wealthy friend if I could store a bike in the garage of his 22,000 sq ft house and he shared…

You know, I already have way too much stuff in there. So best if you keep it at your place.

For what it’s worth, my pal’s garage is less full that my own!

What’s going on here?

Another story… last year, I was helping a friend put together a financing for his business. The money was raised and I was invited to a lunch with the key investor. The investor is about twenty year older than me. He’s a fascinating guy with a son that’s in private equity. We had a lot in common, including enjoying health and wellness.

Over the course of the lunch, I learned he had a house locally, a cabin in the mountains, an ocean-going yacht and a winter home in the Southern Hemisphere. In 2005, I was trying to create his life situation for myself!

So what’s it like?

He said with a laugh…

We travel the world repairing things.

 

Wealth Habits – Aspirational Spending

Posted on by

bunny_gGrowing up the following fell somewhere between normal and aspirational:

  • Private education from Pre-K through Graduate School
  • Winter ski vacations
  • Summers spent at a waterfront cottage
  • International trips to tropical and European destinations
  • Two family cars, bought new, every five years
  • A walk-in closet filled with wonderful clothes and shoes
  • A garage packed with the finest sports equipment

Depending on where you live, you are signing up for $3,000,000 to $20,000,000 of aspirational spending.

…and you haven’t bought a bag of groceries!

Is there another way?

Save half of your after-tax income until you have ten years living expenses banked.

Then cut your living expenses and work part-time, so you can…

  • Spend thousands of hours with each of your kids before they graduate high school
  • Live where you don’t need to leave
  • Encourage your family to actively participate inside your community, and outside your demographic
  • Cultivate inexpensive passions (mine are reading, writing, forest walking and cycling)
  • Share simple, local experiences with your spouse (love, holding hands, serenity)

Time & health.

True wealth.

True luxury.

An Easy $1,500

Posted on by

What is it about our cable bill that arouses such anger?

In my case, it’s paying money for someone to pump fear, anger and violence into my wife and children.

I’ve been working since 2008 to cut the cord. However, my wife made an excellent point that the kids programs are useful.

Seven years later, I came up with a strategy that will save me $1,500 over the next year.

Here’s what I did:

  • Buy a Roku box
  • Unplug my cable box, plug in my roku
  • Set up amazon direct and netflix
  • Netflix – we went for the two streaming plan so we can use an iPad as well as the Roku
  • Run the above in parallel with cable for a month to prove concept to my wife
  • Head down to Best Buy and get a basic cable modem
  • Call up my cable company to activate my owned-modem
  • Return all my hardware and change my account to broadband only

Time investment 90 minutes.

One year net savings $1,500.

If you are married to an athlete then make the shift in a non-Olympic year during the off-season of her favorite sport.

I play a long game!

🙂

Dealing with an Irrational Spouse

Posted on by

girlsA decade ago, I was working in Bermuda and went shopping with my girlfriend. She picked out a small container of strawberries for us and I nearly pooped my pants…

Eight bucks for strawberries?!?

My girlfriend is now my wife but I’ve held onto my tendency to sweat the small stuff.

In the middle of winter I was looking at all the exotic fruit in the fridge and asking myself how much all this cost. I came across a quart of chopped watermelon and nearly pooped my pants…

Ten bucks for watermelon?!?

While I haven’t learned, my wife has…

I’m grateful to be married to a man that can afford to buy ten-dollar watermelon and I assure you that your children and I are going to savor every single piece of it.

I share the script because the people in our lives that feel pain from spending probably feel pleasure from providing.

Her reply was brilliant.

While I have been doing more fruit shopping at CostCo, the pain from opening the fridge door has been replaced with pride from being able to provide the family with healthy choices.

This example has given me the courage to search for other “fruity” situations in my life.

Effective Wealth and Diversification

Posted on by

2015-03-18 07.31.56I was asked to update thoughts on family legal structuring. Before jumping into that topic, I want to define effective wealth.

If you remember one thing from this post…

Your effective wealth is most closely linked to your spending, not your balance sheet.

Consider US$1,000,000. Depending on where you live, this money could support:

  • a CEO for a year
  • a family for a decade
  • a village forever

The first thing to understand is your core cost of living. It’s going to contain:

  • Housing / Property Taxes / Insurance / Maintenance
  • Groceries
  • Income Tax
  • Health Care & Dental
  • Utilities / Mobile / IT
  • Transport

My family’s total approaches $100,000, which is a big number. However, on a per person basis we’re under $20,000, which is less than I’ve been able to live on my own.

Next comes discretionary spending (mine in descending order):

  • School Fees & Childcare
  • Gifting
  • Club Fees, Subscriptions & Kids Activities
  • Date Nights
  • Cleaning

Before parenthood, I missed the step change in expenditure, and associated wealth effect, of kids. Note that kids increase human capital, are sources of love and have tremendous option value!

Finally comes luxury spending – travel and vacations. With five in my household, luxury spending has been on a rapid downward trend since my second child was born.

Pulling all of that together, you’ll be able to consider your financial wealth relative to your spending.

  • Individual wealth => 5 to 10 years cost of living
  • Generational wealth => 10 to 25 years cost of living
  • Multi-generational wealth => 25 to 40 years cost of living
  • Surplus (excess?) wealth => beyond 40 years cost of living

The appropriate legal structure changes as your family wealth changes.

To understand effective diversification, express your asset allocation relative to your spending. Consider these categories in years spending:

  • Family home
  • Business investments
  • Real estate investments
  • Retirement accounts
  • Education accounts
  • Taxable investment accounts
  • Cash equivalents
  • Non-yielding luxury assets (art, jewelry, vacation homes)
  • Depreciable assets (boats, RVs, vehicles)

Also write out your sources of income and make your cash flow concentration visible.

Looking at asset, income and cash flow concentration should make your key financial risks more obvious.

Be aware of the human tendency to look away from things that make us uncomfortable.

Micromanaging the “little” will make you miserable – remember to focus on the big things.

Change slowly.

Intro To Margin Finance

Posted on by

snow_mtnBDC asked for an example for my post How Leverage Kills.

If you don’t understand debt then assume that the only time it might make sense to borrow is when your 30-year fixed-rate mortgage payment (including taxes & insurance) is less than your cost to rent. Assume that all other forms of debt will hold you back, prolong being a wage slave and reduce your retirement income.

The people that take issue with the generalizations above are probably trying to sell you something, and working on commission.

My family’s only borrowing is a 30-year fixed rate mortgage. Our mortgage payment is 60% of what it would cost us to rent. I made a calculated bet that our mortgage debt would provide a hedge against rental inflation.

Homeownership isn’t necessary for financial freedom. I bought the house because:

  • I have a young family
  • Don’t mind being geographically restricted
  • Live in a great public school district
  • My youngest won’t graduate high school until 2030
  • Our city is likely to experience above average real economic growth
  • I’m in a better part of town

++

Let’s assume our investor has $100,000 and owns an asset that yields 2% after expenses ($2,000 net income).

  • Along comes her investment adviser and offers a portfolio loan – rates are low right now so the loan will cost her 3% per annum.
  • Our investor decides to borrow $50,000 and purchase more of the same type of asset.
  • Now she has $150,000 of assets, still yielding 2%, so $3,000 of income each year.
  • The loan is interest only and costs her $1,500 per annum (3% of $50,000).

Where things get wonky is if the asset’s yield disappears — for example if a rental property is vacant — OR — if the capital value drops significantly — for example if a portfolio of stocks falls 50% in a bear market.

Let’s look at the 50% asset value decline.

  • The value of the asset falls from $150,000 to $75,000.
  • The value of the debt stays the same $50,000.
  • Therefore the net equity value falls to $25,000.
  • The net cash flows stay the same $3,000 from the asset, $1,500 interest to pay, $1,500 net after interest.

If you generate enough cash to pay your interest then you can ride out the bear market and wait for asset values to return to pre-crash highs.

However… a common feature of margin lending is the bank can ask for their money back… ….and they have a habit of asking at the worst time.

Sometimes, they don’t ask, under the terms of your loan they have rights to sell you out of your position.

Let’s have a look at what happens if the bank asks for their money back at the bottom of the market.

In that case, you crystallize a 75% equity loss ($100,000 to $25,000). You are left with $25,000, which will be worth $50,000 (earning $1,000 per annum) when the market recovers to pre-crash levels.

If you didn’t borrow, you earn your 2% per annum through the bear market and end up with $100,000 (earning $2,000 per annum) when the market recovers.

Market Moves

The chart shows major bull and bear markets.

Using your own money, a habit of margin finance could wipe your investment out every 10-25 years.

Some risks aren’t worth taking, especially with money that you can’t afford to lose.

So Why Borrow?

In a bull market, it’s tempting to borrow a much higher percentage of the total investment. Hedge funds, and investment banks, can get over 90% leveraged, against shareholders funds (also known as other people’s money).

When you guess right with other people’s money, the “house” will get rich quick. I worked in a business that received 20% of the profits generated.

When you guess wrong, the clients take the losses.

More on leverage in Part Four of my free eBook Live Long & Prosper – specifically pages 46 to 51.