Are Your Retirement Expenses Out of Control?

This post Are Your Retirement Expenses Out of Control? appeared first on Daily Reckoning.

We’ve all seen the commercials with the gray-haired couple sipping champagne on the beach or the grandfather teaching his grandkids how to fish at the lake house.

But financially speaking, how realistic are these depictions of retirement?

According to the latest Consumer Expenditure Survey, produced every year by the U.S. Bureau of Labor Statistics, “older households” – defined as those run by someone 65 and older – spend an average of $45,550 a year, or roughly $3,795 a month.

Obviously, what you spend in retirement will depend on different variables, including the annual property taxes on that lake house, the price of your preferred champagne, and a number of other individual factors, but you get the point.

If I’m being honest, I think spending $45,550 a year after-tax in retirement seems a bit high. Based on a 20% effective tax rate, $45,550 is equivalent to $54,660 a year in gross income.

To generate $54,660 a year in gross income, you would need an investment portfolio of $1,366,500 generating 4% a year.

Is the average 65+ year-old retiree in America a millionaire?

We know that the average 60-69 year-old American has only about $195,500 saved in their 401(k) and only $62,000 if we look at the median 401(k) account balance, so something seems a bit off…

If we take a more optimistic view, however, we can assume that current retirees over the age of 65 likely have some form of pension income as well as a healthy Social Security check, averaging out at around $1,461 a month. Add to that a little financial help from your adult kids and it should all work out in the end.

But the question I’m most concerned with is where is this $45,550 being spent? With less mouths to feed, no daily commute, it seems surprising to me that retirement expenses are this high.

If we dig into the BLS data a little more, we see a monthly breakdown of how households spend their money, on average. Here are the seven major categories you need to plan for:

Housing: $1,399

Surprisingly, housing is the largest expense for the average retiree. With the median American home price at $226,800, spending $1,399 a month on housing is high.

If your house is paid off by the time you retire, you should only be paying property taxes, insurance, maintenance, and utilities. Therefore, it’s obvious that the average retiree still has a mortgage to pay.

With no mortgage, your average housing expenses would tally up to more like $350 a month based on the median home price today. Point being, paying off your mortgage before you retire is going to save you a LOT of money.

Transportation: $615

$615 a month for transportation is another surprisingly high number, especially given the fact that most seniors get discounts on public transportation.

For example, discounts usually start at 50% of the regular adult fare and go up from there. Some cities, like Chicago, even offer free transportation to all senior citizens.

As a senior, spending $7,380 a year on transportation means you either still have an auto loan you’re paying off or it’s a sign you need to find a more trustworthy mechanic. The average transportation expense across all consumers last year totalled $9,761.

Although seniors are paying less on transportation per year than most, it still seems high in my opinion. Most Americans could do with paying less for transportation. Overpaying for a car is one of the biggest financial killers.

Healthcare: $557

It’s nice to see that health care cost averages only $557 a month or $6,684 a year. The average healthcare cost for a working American is closer to $20,000 a year, which is heavily subsidized by the employer.

The horror stories you hear about health care costs skyrocketing in old age are a bit exaggerated, so long as you have Medicare or some type of subsidized health insurance program.

Food: $539

$539 a month for food is not bad compared to the $600 a month for the average individual. With all the early-bird specials and seniors discount shopping days, retirees should be saving money in this category. My advice, stay away from food delivery apps if you want to maintain a reasonable budget here.

Personal Insurance/ Pensions: $283

It’s a bit unclear why this category even exists. 65+ year-olds should mostly be retired, however, the BLS explains this category as households who are still employed, paying Social Security tax, and contributing to Social Security.

In other words, the secret to a prosperous retirement is to keep your spouse working as long as possible! Seriously, having one spouse work late into retirement means you can typically afford more and live better. It just needs to be a situation you’re both happy with.

Cash Contributions: $210

$210 a month or $2,520 a year in cash contributions (aka charitable donations) accounts for around 4.2% of annual gross spend. 4.2% is a respectable amount since the average American contributes roughly 3% of their gross income to charity each year.

Studies have shown that making charitable contributions can improve happiness. Seeing the effect your contribution has made can be powerful so donate while you’re still alive to enjoy it.

Entertainment: $233

$233 a month for entertainment seems a bit on the low end. But when you consider all the discounts and deals that retirees get for being able to attend movies, plays, and museums during non-peak hours, it makes sense.

Not every retiree is taking an around-the-world cruise or flying to the Mediterranean for a weekend. What most retirees are saying is their newfound freedom provides much of their day-to-day happiness versus having to spend money on expensive experiences.

Overall, the average retiree lives a pretty good life. Being able to spend $45,550 a year after-tax is a decent sum given that the median household gross income last year was $63,179. That means the average retiree got to spend close to 87% of the median household income without having to work. Not a bad deal.

To a richer life,

Nilus Mattive

Nilus Mattive

The post Are Your Retirement Expenses Out of Control? appeared first on Daily Reckoning.

5 Financial Rules of Thumb You Need to Break

This post 5 Financial Rules of Thumb You Need to Break appeared first on Daily Reckoning.

One of my favorite Seinfeld episodes is when Kramer storms into Jerry’s apartment and starts complaining about another golfer who picked up his ball in the middle of the fairway to clean it.

Kramer goes on to say that he penalized his friend a stroke for breaking the rule.

Elaine then asks, “What is the big deal?” and Kramer replies, “Hey, a rule is a rule, and without rules there’s chaos.”

The same can be said for personal finance.

Without money rules, chaos can ensue. However, there are some rules of thumb I believe you should be breaking if you want to get ahead.

Some rules are outdated, and some simply don’t apply to everyone’s individual financial circumstances. So why bother follow a rule that makes no sense?

Here’s my list of 5 financial rules of thumb you should consider breaking:

1) Use Your Age to Determine Asset Allocation

During the 1980s and 1990s, it was standard to give the following asset allocation advice:

“Subtract your age from the number 100 and that is the percentage of your portfolio you should have invested in equities, with the remaining percentage in fixed income, adjusted each year as you age.”

Under this rule, at age 30, for instance, you should keep 70% of your portfolio in stocks and the rest in bonds and other relatively safer securities. At age 65, you invest 35% of your assets in stocks.

The idea behind the rule is to gradually reduce investment risk as you age. But that doesn’t always work. Americans are living longer and retiring later.

Your retirement savings strategy should be adjusted to meet a bigger nest egg. At the same time, the yield on a 10-year Treasury Bill is roughly 2.5%, down from a peak of nearly 16% in the 1980s.

And with the stock market soaring over the past decade, it might not have made a lot of sense to dump a large portion of money into fixed income when you could reap greater gains.

My advice, rebalance your portfolio each year, look at your target retirement age, what you plan on using your funds for in retirement and your risk tolerance.

2) Pay Off Your Mortgage as Fast as Possible

For most, a mortgage is the largest debt they’ll ever owe. So from a risk tolerance point of view, it makes sense to want to pay down the debt as fast as possible.

Although this really only makes sense when interest rates are outpacing the stock market. If interest rates are double digits and investment returns average 7%, yes, it makes sense to pay down your mortgage faster.

But, the majority of homeowners today have a mortgage rate of less than 5%, and are seeing average annual returns above 7%.

So it’s better to make your payments on time, take your mortgage interest deduction on your federal income taxes and have more money invested for higher returns.

3) You’re Throwing Away Money If You Rent

Owning a home is part of living the American dream. And there’s been long held debates over whether or not renting is akin to flushing money down the toilet.

The way I see it, you have to live somewhere and renting affords you a life free of many of the  unpredictable expenses homeownership offers. Not having to pay mortgage interest, property taxes, maintenance and repairs can be a big plus if there are good opportunities to put your money to work elsewhere.

Renting also means you have the flexibility to move to where opportunity exists. If you’re tied to a home, you might not be able to pick up and move to a more lucrative job opportunity in a neighboring state.

Obviously, there are benefits to owning a home too, so take this advice with a grain of salt.

4) Spend No More Than 30% of Your Income on Housing

The 30% rule is a common budget benchmark for housing costs. The gurus tell you to cap your rent or mortgage at under 30% of your monthly income.

This rule of thumb stems from housing regulations from the late 1960s. A US Census Bureau study said the Brooke Amendment (1969) to the 1968 Housing and Urban Development Act established the rent threshold of 25% of family income in response to rising renting costs.

The rent standard later rose to 30% in 1981, which has since remained unchanged, according to the study.

But this 40 year old standard may not be realistic for a lot of people today. A Harvard University study found in 2015, nearly 21 million renters — almost half of the country’s renters — spent more than 30% of their income on housing across the country.

Rather than think 30%, think what can I afford? Look at how much you earn, how much debt you owe, and where you live, your rent could be more or less than 30% of your paycheck.

If you find your rent is eating away most of your paycheck, consider ways of making more income or consider moving somewhere with lower costs.

5) Withdraw 4% of Your Savings In Retirement

When you retire, it’s been said you should start withdrawing 4% from your portfolio in your first year of retirement, increasing withdrawal each year enough to cover inflation.

If you have $2 million saved, you would take out $80,000 for the first year. If the annual inflation rate is 2%, then you withdraw $81,600 the following year ($80,000 plus 2%). And you continue this trend for the next 30 years.

This rule was created on historical data by financial advisor William Bengen in 1994. Where this rule falls short is it doesn’t take into account life’s ups and downs.

Your investment performance might lag one year because of a poor market or economic conditions. Bengen also assumes retirees have a portfolio split between stocks and bonds. He later revised the rule to 4.5%, using a more diversified portfolio.

My advice to you is be flexible and revise your spending rate based on your needs and portfolio performance. Early retirees might have a smaller nest egg, and need to withdraw less than 4% to make their savings last.

And someone with major health concerns and a shorter horizon might want to enjoy more of their savings with the time they have left.

As you can see there is no one-size-fits-all book of rules for personal finance. Use money rules as guidance, but use your best judgement on whether or not a rule should be broken or not.

To a richer life,

Nilus Mattive

Nilus Mattive

The post 5 Financial Rules of Thumb You Need to Break appeared first on Daily Reckoning.

How THIS Is Making the Housing Crisis Worse

This post How THIS Is Making the Housing Crisis Worse appeared first on Daily Reckoning.

It’s happened several times in the last couple of months – someone approaches me, clipboard in hand, and asks if I’m a California voter. Then, barely waiting for my response, they start asking me to sign a petition related to rent control.

The first time it happened, at my local organic market in Santa Barbara, I just politely said “no thanks.”

The most recent time, at a professional women’s surfing contest in San Diego last week, I couldn’t hold back and ended up saying a bit more to the solicitor.

And now, after hearing Bernie Sanders mention the idea during last Tuesday’s primary debate, I want to tell you a more expanded version of where I stand on the topic (and why)…

My Grandparent’s Experience

Let me first say that, like Bernie Sanders and other proponents of rent control, I’m very familiar with the plight of poor families that rent all of their lives …

My mom’s parents rented the same apartment in downtown Wilkes-Barre, Pennsylvania for more than 50 years.

Her father grew up in such poverty that he had to drop out of high school to go work in the coal mines.

Her mother graduated from high school but stayed home to take care of the kids.

They were Depression-era people, conservative with what little money they had, and they never made the leap to home ownership.

After leaving the mines, my grandfather made his living doing all kinds of odd jobs – car mechanic, electrical work, etc. – including helping out his landlord whenever needed. His rent still went up on a regular basis. Even when my grandmother was living in the apartment alone in her early 90s, the landlord was talking about another increase.

Would it have been nice if their rent, established in the 1950s, could have only gone up 3% or 4% a year so long as they stayed in that apartment? Absolutely.

Still, they never complained. They knew prices for things went up over time. They cited a few times in the past when they might have been able to buy a house in the neighborhood but just couldn’t mentally commit to the idea. Nor did they like borrowing large sums from banks.

My grandmother died in that small apartment, with not very much to her name.

Now, let me tell you another story…

Where Rent Control Goes Bad

As my grandmother was into her 80s, I was moving into New York City and looking for apartments.

I was working for Standard & Poor’s and making a good salary, but hardly anything exorbitant. My one-bedroom apartment just off Wall Street was $2,300 and was subject to market rate increases going forward.

My boss, perhaps 30 years older than me, lived a couple neighborhoods away. He obviously made more than me but he’d been in New York for a long time and his apartment – twice the size of mine – was under rent control. I don’t know exactly how much he paid but I would guess a third of my rent for twice as many bedrooms. He also owned a vacation home outside the city.

Meanwhile, there were plenty of rent-controlled people charging large amounts of money to let someone move into a vacant bedroom while their landlord received nothing.

I also knew someone who lived in another state almost all of the year but maintained a rent-controlled NYC apartment as a little getaway (lying about residency in the process).

This is just a little taste of what I saw, but the big-picture was pretty easy to see – rent control largely rewarded people who got there first, regardless of their financial status … it was easily abused … and it did very little to help newcomers or anyone looking to move from one place to another.

There is also no doubt that many landlords do everything in their power to screw over tenants, especially in a place like New York City. And from what I saw, rent control didn’t help that situation either … it merely discouraged building owners from improving their rent-controlled properties any more than was absolutely necessary.

Indeed, New York City just changed a bunch of rules related to rent control and we’re already hearing about landlords bailing on big capital investments.

But you don’t have to accept my personal experience or anecdotal evidence.

The academic research is pretty decisive that rent control doesn’t work, whether you’re talking about New York or Paris.

As Reason noted in a recent article:

“Brookings Institute associate professor of economics Rebecca Diamond did a recent review of the literature on rent control, finding that ‘Rent control appears to help affordability in the short run for current tenants, but in the long-run decreases affordability, fuels gentrification, and creates negative externalities on the surrounding neighborhood.’ The reason is simple and boils down to the law of supply and demand. While some of the people renting may benefit from rent control by removing some of their risk, it also gives landlords an incentive to alter their supply of rental property.

“They have several options based on the circumstances. First, they may withdraw their properties from the rental market to sell them as condos. Former George Mason University Chairman of the Department of Economics Donald Boudreaux summed it up nicely in a 2006 letter to the editor of The New York Times: ‘By decreasing the profitability of supplying units occupied by renters, these controls spawn condo conversions and prompt builders to construct fewer rental units and more units for sale to owner-occupiers. People who can’t afford to buy housing are unnecessarily disadvantaged.’ Landlords may also stop investing in maintenance, which, over time, may lead to neighborhoods with many run-down properties. The bottom line is that rent control never increases the supply of affordable rented housing.”

What about this legislation they’re trying to pass in California?

Well, after I explained that I recently purchased a million-dollar home and would never want to cap my own future rental potential, the solicitor at the competition assured me that it would only apply to landlords who own three or more properties.

At that point, I didn’t bother to explain that I also recommend investing in companies like Real Estate Investment Trusts (REITS) that are essentially corporate landlords.

It was clear we simply had different ideas about capitalism and free markets.

If Rent Control Doesn’t Work, What Will?

From my perspective, the person who took a chance on New York City back in the 1970s – when it was a far cry from its current look and feel – deserves to get market rates for that money invested and risk undertaken.

As did my grandparents’ landlord…

As do I for working hard, and saving enough to buy a house in Santa Barbara.

Can you imagine what it would be like if we suddenly capped the amount of dividends that stocks could pay to their investors?

Well, that’s exactly what rent control does with real estate.

Perhaps the biggest irony is that some of the same people here in California who cry for more affordable housing are the very same people who don’t want garages converted into auxiliary dwelling units, Airbnb listings allowed in residential neighborhoods, or high-rise buildings in land-constrained areas.

Look, housing affordability is a complicated issue. In highly desirable locations with little room for further development, it’s doubly complicated.

But I would much rather see solutions that start with increasing supply, even if it’s something small like simply allowing existing homes to be partitioned into several micro houses. At least it’s a start to fixing a long term problem and not a band-aid that will fester given enough time.

Thinking we can wave a magic wand and keep prices in check through artificial rent controls isn’t going to cut it.

To a richer life,

Nilus Mattive

— Nilus Mattive
Editor, The Rich Life Roadmap

The post How THIS Is Making the Housing Crisis Worse appeared first on Daily Reckoning.

5 Financial Rules of Thumb You Should Break

This post 5 Financial Rules of Thumb You Should Break appeared first on Daily Reckoning.

One of my favorite Seinfeld episodes is when Kramer storms into Jerry’s apartment and starts complaining about another golfer who picked up his ball in the middle of the fairway to clean it.

Kramer goes on to say that he penalized his friend a stroke for breaking the rule.

Elaine then asks, “What is the big deal?” and Kramer replies, “Hey, a rule is a rule, and without rules there’s chaos.”

The same can be said for personal finance.

Without money rules, chaos can ensue. However, there are some rules of thumb I believe you should be breaking if you want to get ahead.

Some rules are outdated, and some simply don’t apply to everyone’s individual financial circumstances. So why bother follow a rule that makes no sense?

Here’s my list of 5 financial rules of thumb you should consider breaking:

1) Use Your Age to Determine Asset Allocation

During the 1980s and 1990s, it was standard to give the following asset allocation advice:

“Subtract your age from the number 100 and that is the percentage of your portfolio you should have invested in equities, with the remaining percentage in fixed income, adjusted each year as you age.”

Under this rule, at age 30, for instance, you should keep 70% of your portfolio in stocks and the rest in bonds and other relatively safer securities. At age 65, you invest 35% of your assets in stocks.

The idea behind the rule is to gradually reduce investment risk as you age. But that doesn’t always work. Americans are living longer and retiring later.

Your retirement savings strategy should be adjusted to meet a bigger nest egg. At the same time, the yield on a 10-year Treasury Bill is roughly 2.5%, down from a peak of nearly 16% in the 1980s.

And with the stock market soaring over the past decade, it might not have made a lot of sense to dump a large portion of money into fixed income when you could reap greater gains.

My advice, rebalance your portfolio each year, look at your target retirement age, what you plan on using your funds for in retirement and your risk tolerance. 

2) Pay Off Your Mortgage as Fast as Possible

For most, a mortgage is the largest debt they’ll ever owe. So from a risk tolerance point of view, it makes sense to want to pay down the debt as fast as possible.

Although this really only makes sense when interest rates are outpacing the stock market. If interest rates are double digits and investment returns average 7%, yes, it makes sense to pay down your mortgage faster.

But, the majority of homeowners today have a mortgage rate of less than 5%, and are seeing average annual returns above 7%. 

So it’s better to make your payments on time, take your mortgage interest deduction on your federal income taxes and have more money invested for higher returns.

3) You’re Throwing Away Money If You Rent

Owning a home is part of living the American dream. And there’s been long held debates over whether or not renting is akin to flushing money down the toilet.

The way I see it, you have to live somewhere and renting affords you a life free of many of the  unpredictable expenses homeownership offers. Not having to pay mortgage interest, property taxes, maintenance and repairs can be a big plus if there are good opportunities to put your money to work elsewhere.

Renting also means you have the flexibility to move to where opportunity exists. If you’re tied to a home, you might not be able to pick up and move to a more lucrative job opportunity in a neighboring state.

Obviously, there are benefits to owning a home too, so take this advice with a grain of salt.

4) Spend No More Than 30% of Your Income on Housing

The 30% rule is a common budget benchmark for housing costs. The gurus tell you to cap your rent or mortgage at under 30% of your monthly income.

This rule of thumb stems from housing regulations from the late 1960s. A US Census Bureau study said the Brooke Amendment (1969) to the 1968 Housing and Urban Development Act established the rent threshold of 25% of family income in response to rising renting costs.

The rent standard later rose to 30% in 1981, which has since remained unchanged, according to the study.

But this 40 year old standard may not be realistic for a lot of people today. A Harvard University study found in 2015, nearly 21 million renters — almost half of the country’s renters — spent more than 30% of their income on housing across the country.

Rather than think 30%, think what can I afford? Look at how much you earn, how much debt you owe, and where you live, your rent could be more or less than 30% of your paycheck.

If you find your rent is eating away most of your paycheck, consider ways of making more income or consider moving somewhere with lower costs.

5) Withdraw 4% of Your Savings In Retirement

When you retire, it’s been said you should start withdrawing 4% from your portfolio in your first year of retirement, increasing withdrawal each year enough to cover inflation.

If you have $2 million saved, you would take out $80,000 for the first year. If the annual inflation rate is 2%, then you withdraw $81,600 the following year ($80,000 plus 2%). And you continue this trend for the next 30 years.

This rule was created on historical data by financial advisor William Bengen in 1994. Where this rule falls short is it doesn’t take into account life’s ups and downs.

Your investment performance might lag one year because of a poor market or economic conditions. Bengen also assumes retirees have a portfolio split between stocks and bonds. He later revised the rule to 4.5%, using a more diversified portfolio.

My advice to you is be flexible and revise your spending rate based on your needs and portfolio performance. Early retirees might have a smaller nest egg, and need to withdraw less than 4% to make their savings last.

And someone with major health concerns and a shorter horizon might want to enjoy more of their savings with the time they have left.

As you can see there is no one-size-fits-all book of rules for personal finance. Use money rules as guidance, but use your best judgement on whether or not a rule should be broken or not.

To a richer life,

Nilus Mattive

— Nilus Mattive
Editor, The Rich Life Roadmap

The post 5 Financial Rules of Thumb You Should Break appeared first on Daily Reckoning.