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Archive for September, 2014

Should I cash out my pension?

September 27th, 2014 at 09:28 pm

I realize that pensions are rare like unicorns these days, but I actually have a small one under a previous employer. It's not worth much because I only worked there for three and a half years before being laid off, but the pension is supposed to pay out $261.88 per month starting in 2049 (when I turn 65).

They are now offering what I presume is a buyout. I can either:

1. Roll over a lump sum to an IRA or another employer's qualified plan ($6352.78).
2. Take a lump sum cash distribution ($5082.22).
3. Start monthly payments now ($24.71).
4. Retain the original pension benefit.

Should I take it? To figure out if this is a good deal, I calculated the present value of this future annuity.

Step one: Calculate the PV of the annuity at age 65. I'm arbitrarily using an interest rate of 6%, and a life expectancy of 100 (so 35 years).

PV(0.06/12,12*35,261.88) = $45,928.57

Step two: Discount that to today's dollars using the same rate.

PV(0.06,2049-2014,0,45928.57) = $5975.55

So it looks like the lump sum payment is a reasonable offer. I'm also assuming an extremely long life expectancy, which would bias the value upward. I'm not sure what rate I should use, but 6% is a figure I can hope to beat by investing on my own. I've tried plugging in different interest rates, but that causes the PV to fluctuate wildly.

I am really tempted to take it. If I roll it into an IRA now, I know I'll have control of and access to it before age 65, which is particularly helpful if I'm planning ER. I also avoid the risk of the company underfunding, raiding, or otherwise reneging on their obligation (I'm looking at you, Hostess) anytime in the next 35 years. I have so far been completely ignoring my pension in retirement planning, so this would allow me to take it into account.

I have until month's end to decide. Hmm.

Finance Myths and Fundamentals

September 26th, 2014 at 09:26 am

I was discussing this article with someone online the other day, and when I mentioned that the SO and I actually did reach millionaire status by age ~30 via saving rather than focusing on income, I received what I initially thought was an odd response.

"But you don't have a million dollars in liquid cash", he said. "Stocks can go down as well as up!"

At first, I was really confused, because that comment was clearly meant as a dig, as if holding investments worth a million dollars is somehow not as legitimate as having a million dollars in cash, simply because the market could go down, but who in their right minds would (unless one were running a corporation) hold that much in cash?

But then I started to unpack the implicit assumptions in his statement, and I came to a few realizations about his point-of-view.

His comment makes the assumption (like many other people, I'm sure), that being "rich" or "wealthy" is about having a lot of money. But that is not the right way to think about it. Conceptually, money is merely an abstract representation of value, and cash is just a single form of that value. The technical and more inclusive term for "stuff with value" is "assets", and that includes anything that has monetary worth, whether it's cold hard cash, a stock portfolio, physical property, or a business.

Most individuals who are wealthy hold their net worth primarily in assets, not in cash, and there's a reason for that -- cash is static in value. I have taken three finance classes, and every single one of them opened with TVM, or the time value of money, which is a fundamental concept in finance that the value of money does not stay constant; it changes over time according to an interest or a market rate. Thus, in order for money to hold its purchasing power, it needs to earn an interest rate that is at least equivalent to inflation. That usually means not holding assets as cash, which can only depreciate over time, but as investments, which can appreciate over time.

The second part of his comment, about market fluctuations, assumes that a down market means you've lost money. But those losses are purely on paper, and would not be realized until the assets were sold, which any prudent investor should refrain from doing (if they can help it). I didn't panic at all in 2008; that was actually the year I switched to a much higher-paying job, and started hitting the 401(k) as hard as I could. And I plan on calmly riding out any future market downturns, so I'm not too phased by unrealized short-term capital losses.

Furthermore, there is another fundamental theory in finance called the Capital Asset Pricing Model, or CAPM. The basic take-home message of CAPM, as I understand it, is that risk and reward go hand-in-hand. (I don't claim to have a sophisticated understanding of finance theory, but not only was CAPM taught in finance class, it also won the Nobel Prize in economics, so I assume it's not completely full of shit.) I am chasing returns at this time, so I'm fine with taking on some risk. I am not going to fall for the trap of loss aversion like he seems to be, especially when I don't invest anything that I'm going to need anyway.

It's fairly unfortunate when people hold onto these incorrect assumptions, and they don't have a more mature understanding of how finances work. I feel like I've barely scratched the surface of this vast and fascinating topic, but what little I do know already makes a huge difference in how I approach my finances.

And that knowledge is power.

Goals for FIRE and SWRs

September 23rd, 2014 at 02:09 pm

How much does one need to retire securely?

I've been trying to answer this age-old question ever since I learned how to spreadsheet. In fact, my Google Drive is littered with the desiccated remains of various retirement projection spreadsheets that I've attempted over the years, but could never figure out how to finish. Usually, it ends with me throwing up my hands and going, "It's a pointless crapshoot to try to guess 40 years into the future, but it's impossible to overshoot it at this juncture, so just maximize the sh*t out this, and you can figure out the details later."

That has been a pretty good approach up to now, but if I really want to FIRE it up in the next decade or so, I need to set actual goals and criteria for success.

I know that the standard guideline for having enough retirement savings is the 4% rule. So if your expenses total no more than 4% of your nest egg, then your nest egg can sustain you indefinitely, assuming a 7% rate of return with inflation at 3%.

And that's where I start getting twitchy. Can you really count on 7% returns in perpetuity? I know that's (more or less) the historical long-term stock market average, but there's no way to know for sure what future returns will look like. Plus, I would need to be sustained for many decades longer than a normal retiree, which makes projections even more difficult to make. I don't want to run out of money, especially given the fact that I can easily continue working and I don't have to take early retirement at all in the first place.

What I'm getting at is that I am very risk-averse and financially conservative. And I don't mean risk-averse in the sense of investing; on the contrary, I'm fairly risk-tolerant there because I know my timelines are flexible. I'm risk-averse in the sense that my mind always jumps to worst-case scenarios. I don't like being on the edge. My natural tendency is to save and save and save, because I don't know what could happen tomorrow and I might need that cushion. I could lose my job. (Actually, been there, done that. :P) Or come down with cancer. A tree (or a meteor) could fall on the house. The SO's Beetle could get creamed by a Mack truck. The possibilities for catastrophe are endless.

As a result of this rampant paranoia, I need to build in a large safety margin. I need to know that I can survive anything, and I'm not decreasing my financial resilience by giving up a fairly nice income. But I also want to be somewhat realistic and not let irrational fears and rampant goal inflation make FIRE unattainable, even though the honest truth is that I'd be terrified.

But I'm gonna force myself to come up with something just to get the ball rolling.

My current thought process is that I have two criteria that must be fulfilled before I would feel comfortable declaring FIRE -- a paid-off house, and two million in assets.

The paid-off house is pretty straightforward. As detailed in my recent spending review, the mortgage is by far our largest fixed expense, and knocking that out alone would drop our annual spending from $40K down to $25K, with another $5K being shaved off when I stop renting in and driving to/from NY. Furthermore, the mortgage is something that needs to be done sooner or later. We're already paying extra towards the mortgage every month, and we're on track to paying it off in about ten years.

As for the two million in assets... We already have $1M, which, according to a 4% withdrawal rate, could already (in theory, with proper allocations, etc.) support our current $40K in annual expenses. But as I've already said, I don't feel even remotely safe enough with a 4% SWR. With a two million dollar portfolio and ~$20K in expenses, that would be a 1% SWR, which I think is conservative enough. And even if something horrible were to happen to the SO, I should still be able to handle a 2% SWR on my half of the two million. And there's even wiggle room to increase spending if it really came to that.

So I think the preliminary goals for FIRE should be no mortgage and $2M. I would not be too surprised if I chicken out and raise/revise it later, but this seems reasonable for the time being. I'm already thinking that home equity and inaccessible retirement vehicles shouldn't be included in the $2M, but we'll cross that bridge when we come to it.

And I've also got some time before we reach the goal to work on emotional readiness and all that jazz.

Celebratory leeks

September 18th, 2014 at 01:11 pm

Convo from this morning, with the SO who also paid off his student loans earlier this year --

SO: I wanted to have a FUCK YEAH NO MORE STUDENT LOANS reward.

SO: But then I did the thing I always do when I attempt to reward myself.

SO: Go: "Do I really need to?"

SO: But maybe we can have a nice Fuck Student Loans dinner some day.

SO: Probably not.

Me: Why don't we have a nice Fuck Student Loans purchase of leeks, and make, I dunno… pho or something.

SO: Snicker.

SO: AWW YEAH.

SO: Sounds good.

(Pho is one of our favorite meals, but we shop sales 90% of the time and leeks are NEVER on sale.)

And for anyone who's keeping track, we did not get the celebratory walnuts last weekend (still balked at the price when not on sale, heh), but we did get a $2 bag (14-oz) of discontinued Skittles from Ocean State Job Lot, because apparently Skittles went gelatin-free in 2010, and I HAD NO IDEA. I haven't had Skittles since 2002 (when I went veg), so I was totes excited.

I love that we can appreciate the little, inexpensive things. They honestly make us way happier than typical consumerism.

Sayonara Sallie Mae!

September 15th, 2014 at 04:16 pm

I just paid off the remaining balance on my student loan. I just wanted it to be over and done with, and I had the cash sitting in my checking account (earning zero interest) anyway.



I used their loan payoff calculator, which insisted that it took two days for an electronic transfer to go through. It didn't, so I wound up overpaying by 67 cents.

They better give me my extra 67 cents back...

Car maintenance

September 15th, 2014 at 04:01 pm

Face punch time! Car maintenance this weekend with the final damage at $232.40 for oil change, air filter replacement, tire rotation, and re-balance. Looking at the itemization, a large chunk of that was labor.

Well, at least nothing else was off, and I'm done with this nonsense for another 9 months.

Comprehensive Spending Review

September 12th, 2014 at 12:45 pm

I recently compiled a somewhat exhaustive record our household's monthly and annualized expenditures, I thought I'd share it on the blog.

Housing - $20,739

The mortgage, at $1377/mo or $16,519/yr, is the biggest housing expense, and it includes $2600 property tax and $1031 in homeowner's insurance. I work out-of-state, two hours away from home, so I also rent a room near work where I stay during the work week, which comes out to $310/mo or $3720/yr. I also budget in $500 for various DIY projects such as deck staining and weed whackers.

This is by far the largest part of our annual expenditures, and I’ll talk more about it at the end.

Utilities - $1760

Electricity usage per month is around 320 kWh, which comes out to $60/mo. Water usage is typically 100 cubic feet, or $20/mo. Internet (cable modem) is $30/mo. We don't have (nor do we want) cable TV. Trash and recycling pickup is $20/mo. Cellphones are currently free, because the SO gets reimbursed by his employer and I'm mooching off my parents' plan. Heating oil is spiky and my records aren't great because the SO orders the oil, but I'm guestimating it's about $200/yr.

I'm using long-term (two year) averages for the utility figures, so I think they're fairly accurate. Heating oil is the only exception, because that is highly dependent on the price of oil and the winter weather, but we already keep the thermostat in the low 50s so there’s not much more that can be done there anyway. The only area we might be able to reduce is trash pickup, because we don't generate enough trash to need weekly pickup, but my address is not allowed to use the dump, so I'm kind of stuck hiring a service. If there's no cost to cancelling and resubscribing, I might just sign up for a month of trash pickup a few times a year, but I'd have to look into that.

Automotive - $5413

Currently, we have two cars. Mine is 2 years old, the SO's is 14 years old, and both are paid off. Insurance is costing $1233/yr for comprehensive collision for my car, and $630/yr on liability for his. My maintenance costs are $120 for 2 oil changes per year, but the costs on the 14-year-old car are much higher; maybe $1200 or so? I haven’t really been tracking his car repair expenses, but I'm gonna try to start doing that now. As for gas, mine is around $1300. I have no idea what the SO spends on gas, because he rides in a carpool most of the time and he doesn't track his fill-ups as maniacally as I do, but since he does all the local driving to the grocery stores, I’m guestimating it at $600/yr.

In some ways, cars are a discretionary cost, but we're in a small town, and a car is our primary means of transportation. I have done the research on the public transport options in the area, and it is wildly inconvenient to go to the grocery store or the dentist's office by bus. We also travel regularly to see family out-of-state, and while it's possible to make the trip on public transportation, it was time-consuming and not fun at all. There is also the issue of potential emergencies, like rushing the cat to the vet. At the end of the day, we think it is worth it to spend the money for the convenience of having a car.

With that said, I would love to drop down to a single car in the future. A used but not-too-crappy car would keep both amortized costs and insurance low. Aside from the work commute and grocery runs, we don't drive much anyway, so if I can ditch my commute, I don't think we'd still need two cars. That would save a few grand a year.

Medical - $4682

The SO and myself both get medical and dental insurance through our work. Our health premiums are $1690/yr (me) and $2513/yr (SO), and our dental is $156/yr, and $224/yr. I also threw his $100 annual deductible into the budget, but I haven't been to a doctor in 7 yr (I know! I’m terrible! I better not have cancer). It's kind of sad, how different our health plans are, because even if the SO switched to a high-deductible HSA-eligible plan, his annual premium would still be $1844, which is higher than my normal plan, but it's actually a fair price for insurance.

I half-joke that we should get married just so I can put him on my health plan and save almost $1000 a year. Even taking into account the amount we'd spend on a wedding, we'd break even after a year or two, heh.

Consumables - $5100

This category encompasses all the regular, discretionary but non-emergency spending, including food and entertainment. The figure that drove the last financial advisor crazy was the $160/mo ($1920/yr) I put down for groceries. Yes, that's what we spend, and no, we don't live on ramen (unless it’s homemade, delicious ginger tempeh soup with ramen and bok choy). I don't really dine out either, because unless I'm in a college town or a specialized restaurant, the vegetarian options tend to be either nonexistent or wholly uninspired. The SO does spend $40/wk going out to lunch, but that is how he pays for his carpool, so it should probably count towards the transportation budget. Between these two items, that’s $4000/yr.

Aside from food, the rest of the discretionary budget covers entertainment (generally either Netflix or various video games), pets, and odds 'n ends such as gifts and other miscellaneous purchases. The most costly indulgence is the Broadway tickets we get once a year, but aside from that one night out, I prefer staycations to vacations. All of those total no more than $1000/yr.

Total - $37,695

One-Time Large Expenditures - ???

We do encounter occasional, isolated, large expenditures which I’m not including in the regular budget, but we do have to take into account. Last year, I traveled to California for a wedding, and we had veterinary emergency, all of which cost more than $3000. This year, housing maintenance is shaping up to be the big unanticipated expense.

ANALYSIS

So housing takes up the bulk of annual expenditures. Paying off the mortgage alone would drop expenses down to $25K. If I'm no longer renting and driving out-of-state, that would chop off another $5K, and would drop annual expenditures down to $20K. Most of the other categories, such as utilities and medical/dental premiums, are fairly inelastic. We definitely need both cars right now, but maybe we won't in the future. There isn't much fat to trim in consumables, either.

At our current expense level, I would have to bring in $40K / 2 = $20K to maintain our lifestyle. After the mortgage is paid off, I'd only have to bring in $10K to $13K. Obviously this may change, but I am wracking my brain for what I might want to spend more on, and I'm honestly drawing a blank. I’ve never been big on consumerism, and the only areas where I enjoy spending money is food/cooking and pets. And the pets kind of prevent me from being able to have nice things anyway, because it's all just gonna get shredded by sharp (but adorable!) claws and teeth. Wink

What's way more important to me than planning for possibly higher future spending is making sure that I can be fully independent without the SO -- because he might get run over by a truck tomorrow (yes, that is how my mind operates). That means being able to handle the doubling of all expenditures. This is absolutely essential to my peace of mind, and will likely result in a ton of overcompensation in retirement planning/projections, but I'm okay with that. At the end of the day, I'm the only one that I can truly count on.

Millionaire

September 11th, 2014 at 02:04 am

Yesterday, I vested into some more of my employee stock options, the ones I got three years ago before the stock price shot up almost six fold. I logged onto Mint and checked my net worth -- it's jumped up to almost up to $600K.

Out of curiosity, I then asked the SO for the balances on his accounts, and added everything up, and… holy moly.

Together, we are now worth over one million dollars. We are officially millionaires. (WHAT!! Whoa.) It's a bit surreal. We are now, in actual fact, the millionaire(s?) next door. Big Grin

And we shall celebrate this fact with walnuts.