Did you ever wonder…..

Life if full of mysteries and part of the joy of life is exploring them and trying to find out the answers. Some of crazy complicated, and you can never figure them out (ex. The human heart and its emotions). Some it just takes some real world experience to identify why things are.

I have always contributed to my retirement savings on a regular basis, through payroll deductions either to my 401K, or through monthly payments to my IRA. I think I have been doing since my first post-military job. Even when I was a young lieutenant making $25,657/year, we were putting away almost $1,000/month in savings (Note that this was because we were on military base housing, so rent & utilities were paid for).

I always wondered why you could contribute to your IRA all the way into April of the following year – i.e. I could be putting money into my IRA for 2018 as late as April 2019. Could even deduct it on my taxes, as if I had already done it (though you would get into a lot of trouble if you said you would to the IRS, but did not). Yet, I asked why people would wait until the following year, and miss the benefits of a year of growth, and the potential upside of dollar cost averaging. Did not make sense to me.

Well, as of this year, I finally figured out why. I stumbled on it when we did our Roth conversion last year, and I discovered that we had overdone it, and because our income was now too high, we could do our regular monthly ROTH investments. I had to pull that money back and place it in our normal IRAs. Ouch! Major paperwork issue – though it has been sorted out.

Therefore, I stopped contributing monthly to our Roth IRAs, and instead put the money into our normal, post-tax investments. Fast forward to November, and we are considering doing a smaller ($40k) Roth rollover. Why so small? Because if we do more, it may dump us over the threshold of being able to contribute. Therefore, we are going to keep it at $40K, and then, when we do our taxes in early 2020, we will see if we can contribute to our Roth for 2019.

Thus, in March of 2020, I will be contributing funds to my 2019 Roth IRA. Now I know why.

Mr. 39 Months

The Rent vs. Buy Decision for Housing

There has been a lot of talk lately about renting housing vs. buying lately, especially in light of the article from folks in Dallas who said they lost about $60K by buying vs. renting and re-investing the difference. Some key points in reference to that article:

  • Their time to own was very short (about 43 months). The general rule is only buy if you are planning to be there for 5+ years
  • They are assuming that they would have invested the extra money, but you can’t always assume that. Many folks find other ways to spend the money they save on renting instead of buying rather than investing it.
  • They are “backward looking” in regards to the amount they could have made. When they purchased in late 2015, nobody could predict the markets would shoot up like they did. In fact, many people were expecting a recession in 2017. If they had bought before the 2000 market crash, then they’d be patting themselves on the back.

An important update to most rent vs. buy is the 2018 tax reform act, which got rid of a lot of tax write-offs for home ownership (property taxes, mortgage interest. Etc.) for a generic $12K single/$24K for married couple. The result is that it gives that same benefit whether you buy or rent – so it makes renting more cost effective than before.

To do a real analysis on whether you should rent or buy, you are going to have to dig into the numbers and make some assumptions. Based on how those assumptions bear out, Its possible your numbers might come out differently, but they shouldn’t be too far off – provided no major market crashes or dot.com fueled jumps up in value.

This example comes from Focus on Personal Finance, by Kapoor, Dlabay, Hughes & Hart. I’ve shown the pre- and post-2018 tax reform.

  • Apartment has rent of $1,250/month
  • Home costs $200,000
Rental Cost Before Tax reform 2018   After Tax reform 2018
  Annual Rent payments $15,000   $15,000
  Renter’s Insurance $210   $210
  Interest Lost on security deposti (amount of security deost times after-tax savings account interest rate) $36   $36
Total Annual Cost of Renting $15,246   $15,246
Buying Cost
  Annual mortgage payments $15,168   $15,168
  Property taxes (annual) $4,800   $4,800
  Homeowner’s insurance (annual) $600   $600
  Estimated maintenance & repairs (1%) $2,000   $2,000
  After-tax interest lost on down payment & closing costs $750   $750
Less      
  Growth in equity ($1,120)   ($1,120)
  Tax savings for mortage interest (annual mortgate interest times tax rate) ($3,048)   $0
  Tax savings for property taxes (annual property tax times tax rate) ($1,344)   $0
  Estimated annual appreciation (1.5%) ($3,000)   ($3,000)
Total annual cost of buying $14,806   $19,198

As I stated, the tax reform act certainy makes it look like renting is better. Another thing to throw in here are the purchasing costs. Typically, you are going to spend 5%-8% of the home costs ($10-$16Kk if above home) for fees, points, commission, etc. to purchase. To evaluate this, you would spread these costs over the lifetime of the home (i.e. the longer you stay in, the less it will be per year).

Is it any wonder why fewer people are buying homes, and more people are renting in this society?

Mr. 39 Months

Spreadsheet Software to do financial calculations

Many of us in the FI community are numbers “nerds” who revel is using spreadsheets, software and programs to review and manipulate data. We love to plan on future value of our investments, timing for FI date, and the amount of savings we have to make in order to hit our goals. Its fun and informative for us.

There is also a host of financial programs and software available (look at the side bar for a few of the calculators). Still, sometimes its nice to know how to do some calculations for yourself, using simple formulas put into your spreadsheet software (like MS Excel). I thought I’d share of few of these with you, in case you would like to use them yourself.

  1. Calculating Future Value: What would the future value of money be if you deposited a certain amount (say $1000) for  a specific period (say, 5 years) at a certain interest rate (say 10%). To do this, you would type in the following formula into your spreadsheet software:
    • =FV(rate, period, amount per period, amount you start with)
    • =FV(.10,5,-1000,0)
    • =$15,937.42
  2. Calculating Present Value: What amount must you invest today, in order to have a certain amount (say $50,000) within a certain time frame (10 years from now) at a certain interest rate (say, 8%). To do this, you type the following formula into your spreadsheet software:
    • =PV(rate, periods, payment, future value amount type)
    • =PV(.08,10,0,-50000)
    • =$23,159.67

Microsoft Excel has a host of these type of calculations (55 different ones). To find them, just open up a blank workbook, type in “FV” in the search function and look for “financial” under the search. By clicking on one of the 55 different ones, you are bound to find one which will meet your needs.

By using these, as opposed to just using some pre-set software, I feel you will have a better understanding of the core concepts behind the calculations, and be better able to map your path to Financial Independence.

Good luck on your journey!

Mr. 39 Months

It still appears the 4% rule is valid

It still appears that the 4% rule works out, based on a recent review of Kiplingers

The article provides a lot of “qualifiers” and notes that this is a backwards looking analysis (i.e. its looking at past performance, and you can’t guarantee it will work). Still, the original 4% analysis done by William Bengen, covering a wide range of 30-year periods, including the great depression.

From Investopia: “The 4% rule was created using historical data on stock and bond returns over the 50-year period from 1926 to 1976. Before the early 1990s, experts generally considered 5% to be a safe amount for retirees to withdraw each year. Skeptical of whether this amount was sufficient, financial advisor William Bengen conducted an exhaustive study of historical returns in 1994, focusing heavily on the severe market downturns of the 1930s and early 1970s. Bengen concluded that, even during untenable markets, no historical case existed in which a four percent annual withdrawal exhausted a retirement portfolio in less than 33 years.”

My personal opinion is that the 4% rule is still valid, and you can probably go 4.5% or even 5% if you are sure to invest in equities.

What is your opinion?

Mr. 39 Months

Longevity – how do you predict how long you will have to pay for retirement?

The retirement answer man podcast has been talking about longevity this month, with lots of useful information in it. As part of that, they mentioned and interesting link to a website and calculator – the Living to 100 calculator.

The calculator uses a series of about 40 questions to get a good baseline on how much longer you will live, based on current actuarial tables and risk factors. Filling it in takes about 5-10 minutes, and then you will be able to download a readout that provides your expected life expectancy, and (based on your answers and current science) ways that you could extend that expected lifespan (like visiting the doctor annually for a checkup, regular flossing, diet, etc.).

It is actually cool, with some interesting results based off it. Obviously, it cannot take into account a lot of your genetic makeup (the area where they are making tremendous steps in extending life). I thought it was useful, and it does show me some of the things I could do in order to further extend my life. As many of you know, I am shooting for 97, where Mrs. 39 Months and I will celebrate our 75th wedding ceremony. I am not too worried about her hitting 99, as she has a lot of longevity in her family (aunt hit 102 before she passed, etc.).

Right now, my life expectancy is 86 years old (31 years from now). Things I could do to extend my life (in years):

  • + 0.5 You noted that you do not manage your stress as well as you could. Do a better job and you could add half a year to your life expectancy
  • + 0.75 Brain strengthening activities can help you delay or escape memory loss and perhaps Alzheimer’s disease. While you are already doing some, increasing your frequency of brain-challenging activities to twice a week could add three-quarters of a year to your life. Lifestyle
  • + 0.25 Moving to a place where the air quality is better could add a quarter of a year to your life
  • + 1.0 Minimizing or cutting out your caffeinated coffee consumption completely could provide you with about a year more in life expectancy
  • + 1.0 if it is ok with your doctor, taking an 81 mg aspirin every day improves your heart and brain health and could help you delay or escape a heart attack or stroke. Taking an aspirin each day, preferably in the evening, could add 1 year to your life expectancy.
  • + 0.25 Ultraviolet rays present in sunlight and tanning beds greatly increase your risk of skin cancer, including melanoma. They also increase wrinkles. You are already providing some protection for yourself. Further minimizing your sun exposure could add a quarter of a year to your life expectancy
  • + 0.5 There is a clear link between the inflammation of gum disease and heart disease. Do a good job of flossing daily and you could add half a year to your life expectancy. Nutrition
  • + 1.0 Getting your weight down so that you are no longer overweight could add an additional 1 year to your life expectancy
  • +0.25 The more you can get fast foods out of your diet the better. While you are already doing a pretty good job of doing so, completely removing fast foods from your diet could add a quarter of a year to your life expectancy
  • + 0.5 Osteoporosis (brittle bones) is a terrible disease that becomes more common with older age. Among the important ways to prevent osteoporosis, it is important to have adequate amounts of calcium in your diet. Add more dairy products to your diet or take 1500 mg of calcium a day. Doing so could add a half a year to your life expectancy.
  • + 0.5 You are already making an effort to cut back on your carbs. Further cutting back the carbs in your diet (basically anything white and French fries) to a serving every other day could add half a year to your life expectancy
  • + 1.0 Iron is likely an age-accelerator and increases risk for age-related diseases. Stopping your iron supplement could add a year to your life expectancy
  • + 0.5 Being more active in your leisure time, other than exercising, could add half a year to your life expectancy
  • Medical
  • + 0.75 Examining yourself for cancer could add three-quarters of a year to your life expectancy
  • + 1.0 Increasing your good cholesterol (called HDL cholesterol) to a normal or even higher level could increase your life expectancy by a year
  • + 0.25 it is wise to keep a record of your laboratory tests and other health data that might be hard for you to remember. Doing so could add a quarter of a year to your life expectancy.
  • + 0.5 Decreasing your systolic blood pressure (the first of the two numbers) to 120 or even lower could add half a year to your life expectancy
  • + 0.25 Decreasing your diastolic blood pressure (the second of the two numbers) to less than 80 or even lower could add a quarter of a year to your life expectancy

That is a total of 10.75 years – which gets me right around 97!

Not sure I will do all of them, but it gives you ideas on things to do to help! With medical science making improvements all the time, this is only the beginning.

How did I build my budget?

One of the first steps to getting yourself on course, financially, is to create a budget. Aaahhhh!

I know, many people hate the idea of budgeting, can’t make one, can’t follow one, etc. There are also a large number of FI folks who have been able to move towards FI without keeping strict budgets. However, I would suggest to you that even these people started out by getting a handle on what they were making in $, what they were spending in $, and what the difference was. This is the same as going through the budgeting process and creating a base budget.

I find budgets to be very helpful, though I don’t stick to one religiously. I have an idea of what I’ve spent in the past, build a budget at the beginning of the year, and then track how I am doing against it monthly. Typically I blow past the budget on some items, and under-spend on others. I also adjust as the year goes on, to try to stay within my revenue goals.

So how I go about creating a budget? Like most folks, I started with my actual spending and my paychecks. Remember, the key thing for a budget is to get to where Revenue – Expenses = surplus (what is left over to save/invest). If you are getting a negative number, then you need to either increase your revenue (side hustle?) or decrease your expenses (ex. Cut out the expensive cable bill).

Revenue

Looked at my paychecks and determined my take home pay. I had already adjusted my W-4 (the tax withholding form) with my employer so that I was getting taken out almost exactly what needed to be taken out to not get any money back at the end of the year (i.e. I might owe a little). Why give the government an interest free loan? I also checked how much I was putting into my employee 401K, for reference in tracking my investments. So I knew what I was getting every 2 weeks in pay. I then multiplied that by 26 (# of paychecks in a year) and divided by 12 (# of months in a year) to get a monthly revenue number. After doing all this, I arrived at 3 months of revenue = $15,603.96

Expenses

For this, I turned to my bank and its electronic statements (or you could use the paper statements they can send you). My bank lets you easily download the last 3 months of your bank statements, showing you how much you spent on each transaction, as well as each deposit. With this information I had a key decision to make: How did I want to classify each expense, so that I could determine how much I was spending on it each month? It doesn’t do much good for a budget to have too many categories (it gets hard to track) but you should have enough so that you can make decisions about spending (what to cut back, what to add to, etc.)

After review, I chose the following categories:

  • Home Mortgage
  • Property Taxes
  • Home Insurance
  • Utilities (Gas, electric, water)
  • Phone/Cell Phone
  • Auto Insurance
  • Life Insurance
  • Groceries
  • Roth IRA investment
  • Charity
  • Vacation Funding
  • Dining Out
  • Home Repair
  • Other (areas that were not easily classified)

With that I created a spreadsheet and determined what I had spent on that for the last 3 months:

Category Expense
  Home Mortgage, taxes, insurance ($5,950.47)
  PSE&G ($839.45)
  Verizon ($686.20)
  Water Bill ($206.50)
  Life Insurance ($131.85)
  Auto Insurance ($366.52)
  Chiropractor $0.00
  Groceries ($1,297.86)
  Disability ($288.90)
  Roth IRAs ($2,750.01)
  Savings ($300.00)
  Charity ($300.00)
  Vacation Funding ($750.00)
  Dining Out ($140.57)
  Home Repair ($203.27)
  Other ($489.01)
Total Variable Expenses ($14,700.61)

So revenue of $15,603.96 and expenses of $14,700.61 gives me a surplus of around $900. OK, a good start. Please note that I gave myself an allowance of $1,000/month for my personal use (gas, lunches & snacks, tolls, etc). This money was already taken out of my revenue above, and I tracked it separately. That is why you don’t  don’t see that in the expenses above.

With that in mind, I created a budget for the remainder of the year that looked like this.

Revenue Budget
Salary from Work $4,733.31
Other $0.00
Total Revenues $4,733.31
Expense
Mortgage ($1,376.29)
Insurance ($83.25)
Property Taxes ($523.95)
Gas & Electric ($313.83)
Phone ($246.14)
Water Bill ($66.50)
Life Insurance ($43.95)
Auto Insurance ($120.78)
Groceries ($378.76)
Roth IRAs ($1,000.00)
Savings ($100.00)
Charity ($100.00)
Vacation Funding ($100.00)
Dining Out ($50.00)
Home Repair ($100.00)
Other ($50.00)
Total Expense (4,653.45)
Operating Revenue 79.86

Note that my revenue went down, because I put more money into my company’s 401K savings plan.

At this point, I had an idea of how much I needed to spend each month. All I had to do was track it monthly, see how I did, and make potential adjustments.

Revenue Budget Actual YTD Variance
Salary from Work $56,619.50 $62,816.57 $6,197.07
Other $0.06 $5.08 $5.02
Total Revenues $56,619.56 $62,821.65 $6,202.09
Expense
Mortgage ($16,515.48) ($16,515.48) $0.00
Insurance ($999.00) ($999.00) $0.00
Property Taxes ($6,287.40) ($7,205.47) ($918.07)
Utilities ($3,765.98) ($1,498.98) $2,267.00
Phone ($2,953.68) ($3,472.88) ($519.20)
Water Bill ($798.00) ($396.93) $401.07
Life Insurance ($527.40) ($527.40) $0.00
Auto Insurance ($1,449.36) ($1,316.59) $132.77
Groceries ($4,545.12) ($3,970.84) $574.28
Disability $0.00 ($96.30) ($96.30)
Roth IRAs ($12,000.00) ($11,995.00) $5.00
Savings ($1,200.00) ($1,200.00) $0.00
Charity ($1,200.00) ($1,824.90) ($624.90)
Vacation Funding ($1,400.00) ($2,350.00) ($950.00)
Dining Out ($600.00) ($1,343.96) ($743.96)
Home Repair ($1,200.00) ($1,318.00) ($118.00)
Other ($600.00) ($2,032.39) ($1,432.39)
Total Expense ($56,041.42) ($58,064.12) ($2,022.70)

So I ended up making about $6K more than expected (didn’t account for pay raise) and spent about $2K more than expected. I could then make additional adjustments for the new year.

Overall, it’s a fairly flexible budget. I make enough money and have a sufficient emergency fund to be able to account for the minor ups & downs, and can make adjustments as things go.

So how do you guys budget?

Other Links to budgets:

 

Using FIRECalc tool to determine FI status

One of the nice free tools that are available on the internet is the FIRECalc tool (see list to right). This tool allows you to put in a variety of data and variables, and try out different scenarios to see if you meet your goal, based on historical performance. The tool uses stock market history and your portfolio choices to try and predict how well you should do for a certain period of the future.

While not perfect (nothing is) it is a good first step towards exploring your goals and how close you are to FI. I will be discussing other tools in the future, but this is an excellent first start.

When you open the FIRECalc page, it provides a description of the model, what it does, how to navigate, etc. It is here where you start, putting in your annual spending, your portfolio value (401K, IRA, 403b, etc.), and the number of years you expect to be “retired.” The program will use this as a basis for determining your success.

The next tab is where you put in “other income” during retirement, above and beyond your retirement assets. Here is where you would put in your Social Security or pension benefits.

The next tab is the “not retired” tab, where you can put in how many additional years you intend to work before acting on your early retirement plan. It also provides a place to show the additional money you intend to invest during this time.

The spending models tab allows you to input the plan for inflation, how your spending power will go (i.e. adjusted for inflation, high expenses to start and less as you grow older, using a percentage of your portfolio, etc.) This lets you look at a variety of options on how you plan to spend, to see if you can achieve your goals.

The next tab is for your portfolio. Here you can use a consistent historical average, or provide your own asset allocation. Again, this allows you to look at the range of options and “play” with them to see how it would affect the result.

There is an optional tab for portfolio changes, lump sum additions to your portfolio (like inheritance, home sale, etc.)

The last tab shows a variety of investigation options you can get from the result, including changes to your allocation, delaying retirement, and spending levels. Just another set of options to play with to further analyze and refine your plan.

Once you are done entering all your information and options, just click on the “submit” button at the bottom to get the results. It will determine, based on the period it studies, how often your plan will succeed or fail, and will provide the lowest, highest, and average portfolio balances for you at the end.It should give you a “big picture” view of how your plan worked out. Now you can go “tweak” some of the entries to see how you might do.

Good luck, and I hope it provides you with some good news!

Mr. 39 Months