Maybe it’s our travelling instincts longing to get back out onto the open road, but lately we’ve been picking a lot of travel-related reader cases. Today’s is another doozy. This time, our reader wants to know if after a lifetime of hard work and diligent saving, can they afford to pack up all their stuff and retire to…Portugal?
Hi Kristy and Bryce,
Thank you so much for taking the time to read the below information and considering us for one of your case studies! Kristy’s story was instrumental in my belief that the FIRE movement is accessible to anyone, if you just work hard enough and stay determined/disciplined. I was the first person in my family to attend/graduate college and grew up never going out to restaurants, eating whatever was produced on our family farm, and only buying things if they were a necessity…and we had a coupon 🙂 Thank you both for all that you do to inspire and motivate us all toward FIRE.
Note: We have accumulated the below portfolio solely through hard work and frugality. No inheritances or windfalls of any kind.
Your gross/net annual family income
- Adjusted gross income for 2020: $322,779. So far, 2021 is on track to be similar.
· Your monthly family spending
- $1,000 monthly cash envelope system for groceries, eating out, pet expenses (food and vet), and gas.
- Approximately 2K monthly in rent and utilities.
- Average of 3K on our credit card each month, which includes additional groceries, gas, eating out (when we forget to bring cash!), activities, clothes, travel, cell phones, internet, etc. (we pay off in full each month)
· For any debts you have, please include: N/A
· Any fixed assets you have (house, car, etc.)
Two paid off vehicles worth approximately 45K combined.
· And investments or savings you have (cash, bonds, stocks, etc.)
- We took your house ownership blogs (and we’ve read your book 2x’s each) to heart and have sworn off home ownership after owning between the two of us over 20 properties over the past 20 years (multiple personal residences and a lot of rentals).
- Retirement funds:
- Deferred Comp: 50K
- 403(b): 27K
- SEP IRA (VDIGX): 85K
- Roth IRA (VBTLX): 48K
- Roth IRA (VTABX): 10K
- Roth IRA (VTSAX): 140K
- Roth IRA (VTSAX): 10K
- Vanguard money market settlement fund: 4K
- Solo 401K (VTIAX): 20K
- Solo 401K (VTSAX): 66K
- Solo 401K Roth (VTIAX): 42K
- Solo 401K Roth (VTSAX): 81K
- PERS Individual Account Program (“IAP”): 65K
- PERS OPSRP: apx $500/month for life in retirement.
- HSA: 10K
- Cash: 40K
- Business checking: 15K
- Business savings: 20K
- Personal checking: 12K
- Personal savings accounts: 48K
- VTSAX: 1.2M
- Fidelity Total Market Fund (FZROX): 53K
- Apple stock: 4K
We have been following your blog and the FIRE movement for years with hopes of making the huge leap to early retirement in approximately a year. We live in the US and had planned on becoming Portuguese residents through the D7 Visa process; however, the more we research and prepare for that endeavor, the more worried and concerned we become. As two high achieving professionals, we are experiencing a lot of anxiety as we are getting closer to this actually becoming a reality. With that being said, we have spent a lot of time thinking through goals and passions that we can pursue after we reach FI (but we are still super concerned that we will have regrets/are making a big mistake!!). Our timeline right now consists of giving notice at both of our jobs in June of 2022, winding down those positions that summer (one of us is self-employed so there will be a lot of extra steps in shutting down a business), selling everything we own (including our cars) that won’t fit in our carry on and checked luggage, getting our sweet dog’s required travel vet records, etc. figured out, traveling to see family for the month of September, going to the Portuguese Consulate in San Francisco for our D7 visa appointment in October, traveling in the US and spending more time with family between October – January, flying to Portugal on January 1, 2023 (we already have a 6 month lease in place!!…getting this lease was another major freak out moment in wondering what have we gotten ourselves into…is this actually becoming a reality?!), getting our residency in Portugal, finding a more permanent housing situation prior to our 6 month lease being up, and figuring out everything else that comes with moving to a new country.
Our question surrounds whether we can retire early at all and if so, whether making this move to Portugal is actually in our best interests or if we are better off to stay in the states. It seems like everyone is talking about Portugal these days but I’m starting to wonder if it really make sense for the FIRE community as a retirement destination. I provided our current budget in the US and would expect that budget to stay similar post FIRE if we remained in our current location. Another option would be to move to a lower cost of living area within in the US or live in an RV for a period of time (I don’t know if that is a realistic option because our marriage might not survive such close quarters and non-stop driving together!). We expect our budget in Portugal to be closer to 3K a month (our current 6 mo lease is for 760 euros/month and from what we have researched, our health insurance premiums and food expenses will be significantly less than in the US).
If we moved to Portugal, our plan was to live off of our cash cushion (minimum of 100K by the time of our move) and investment income (projected to be at least 1.3M in our non-retirement accounts by the time of our move). My research shows that Vanguard does not allow its investors to reside outside of the US. In further researching this, I have found that some people have stated they have a virtual physical address mailbox service as their address with Vanguard and use a VPN when logging on and have had no problems. I originally thought that I would keep everything as is and use the virtual mailbox/VPN approach, thinking the worst thing that would happen is they contact me to say they will no longer hold our funds. However, I have heard from some people that what can actually happen is that Vanguard simply closes their accounts and mails them a check. This would obviously result in a huge amount of penalties and tax, especially in our retirement accounts (we are in our early 40’s). So, I am terrified of just “hoping everything will work out”… and then getting completely screwed over.
Other people have said that they switched to having their investments held at Schwab, which allows this scenario. If we went with this approach though, we would need to do an in-kind transfer to the same funds but Schwab doesn’t have the Vanguard Admiral Shares option, so overall our fees would go up. We do have a Schwab checking account, which I opened to save on foreign ATM fees in the future (and because I thought it would also be easy to transfer money from our investment accounts if we moved to Schwab to our checking account). But, my research has shown that while Schwab One International is an acceptable place for us to continue to hold our US investments, Schwab may no longer allow us to keep our checking account if we live overseas. Again, it appears that people have been doing this with the US mailing address/VPN, but it is frustrating that it doesn’t appear to be a sure thing.
In researching Portugal’s Non-Habitual Resident Tax Regime “NHR” in more detail, it appears that dividend income is not taxed but capital gains from investments are taxed at 28%. We then considered adapting your Yield Shield approach or just moving our VTSAX into SCHD to increase the dividend yield. I’m not sure how to calculate the 28% savings from dividends versus the growth we would likely lose out on from not being in VTSAX over time, so I don’t know if that makes sense. Then I realized that this would not be an in-kind transfer so we’d have to pay taxes on the capital gains (about 300K at this point). So, I thought for sure we did not want to do this. BUT…then after more research, I found out that Portugal does not step up the basis at the time of sale, once we are Portuguese residents. So, we will be paying 28% on the total amount taken out versus the true gain realized. So, now, I am really at a loss as to what we should be doing in preparation for our move.
My thoughts are worst case, we transfer everything to Schwab. The retirement accounts would be as in-kind transfers knowing that we will end up paying more in fees since Admiral shares aren’t available through Schwab. The non-retirement account could either be an in-kind transfer to VTSAX at Schwab or a sell/buy into a Yield Shield approach or SCHD (given all of the different tax implications above). Then, still keep our Schwab bank account since if that account ends up being closed and a check sent to us, at least there would be no tax and penalty issues.
With this all being said, I am starting to think that we are going to end up being in much a worse tax situation in Portugal than if we retired early in the US and just took the max withdrawals each year to keep us in the 0% capital gains tax bracket, while also being able to take advantage of capital gains harvesting each year (and while also maintaining low fees by knowing we could keep our investments held directly with Vanguard). I suppose this could be offset by a lower cost of living (depending on where we end up) and the consideration of the health care costs/savings between the US and Portugal. I know that it is a huge privilege to have the D7 Visa option available to us and I want to be appreciative to the country that we hope to call home and will be receiving the benefits of residency from. We are definitely not opposed to paying some taxes in Portugal; however, this 28% tax (in addition to likely more investment fees and costs) that we weren’t expecting is going to impact our overall FIRE calculations and possibly our timeline in being able to actually make the move in 2023 as planned.
We are so overwhelmed and are starting to question whether we even have enough to leave our jobs in a year and start this next adventure. Do we even have enough to retire early?!? If so, given the convoluted mess referenced above as it relates to moving to Portugal, has that become a pipe dream? Is our only option now to travel the US in an RV? Help!
Reading that was like: normal…normal…WALL OF TEXT.
That’s actually pretty common from of people who are facing a seemingly overwhelming decision and are panicking in all directions.
So my first piece of advice is: Relax. Take a deep breath, do some yoga, whatever. Things are rarely as complicated as they first appear. The trick to solving any big, scary problem is to break it down into smaller, sub-problems and tackle each one at a time.
Before we start doing that, though, please heed the Golden Rule of Personal Finance (a title that I just made up, btw), which is: Don’t Lie.
I’ve also read articles and forum posts from people using clever tricks like PO Boxes and VPNs to pull a fast one on their bank or (worse) the IRS, and my advice on this front is: Don’t do it.
Any long-term financial strategy based on deception is inherently unstable. If a slip of the tongue or an errant photo posted on Facebook can bring your finances crashing down, that’s not a good strategy. Always be up front with financial institutions about what you’re doing, or the consequences can be severe if they find out you haven’t been honest with them.
So with that being said, let’s figure out what each bite-sized sub-problem is and see if we can start chipping away at this, shall we?
Their Vanguard Account
Vanguard’s brokerage business is set up for US residents only, so if our readers were to move Vanguard would put severe restrictions on it. Reports range from freezing trading, to no longer allowing new deposits, to outright closing the account down as our reader noted. So if they’re planning on moving overseas, they should definitely move their assets to a more expat-friendly brokerage.
The problem is that because all their non-registered investments are held in VTSAX, which is a mutual fund, they can’t perform this transfer in-kind, and instead would be forced to sell everything thereby triggering massive capital gains tax.
This is why, instead of VTSAX, I recommend buying the ETF equivalent: VTI. VTI tracks the exact same indexes, it has a lower cost of entry because there are no minimum purchase amounts, and if you hold VTI inside a Vanguard brokerage account, there are no transaction fees either. Plus ETFs like VTI can be transferred to any other brokerage account, while mutual funds can generally only be held by the same issuing company. There’s literally no reason to own the mutual fund anymore.
So is our reader screwed? Nope!
Because Vanguard allows you to convert from their Admiral shares to the ETF tax-free!
Can I convert my conventional Vanguard mutual fund shares to Vanguard ETF Shares?
Yes. Most funds that offer ETF Shares will allow you to convert from conventional shares of the same fund to ETF Shares. Conversions are allowed from both Investor and Admiral™ Shares and are tax-free if you own your mutual fund and ETF Shares through Vanguard.Vanguard’s ETF FAQ
So now we have a solution to the first question.
- Call Vanguard and ask them to convert all your VTSAX shares to VTI ETF units. Make sure it can be done tax-free
- Open a new account at a brokerage company that allows expats
- Perform an in-kind transfer from Vanguard to your new brokerage company
Capital Gains Taxes
Question #2 is about Portugal’s 28% flat capital gains tax. A little background here: The D7 visa our reader refers to is Portugal’s long-stay visa available for retirees, and the NHR (Non-Habitual Resident) program is a Portuguese tax status for new arrivals that exempts them from having to pay tax on many sources of foreign income. Unfortunately, capital gains on shares is not exempted under NHR, and is subject to a flat 28% tax.
As we know, long term capital gains are taxed very favourably in the US, and if using a method known as Capital Gains Harvesting, can be realized at 0% if you do it slowly enough. That goes out the window if you become tax resident somewhere else.
However, that somewhere else being Portugal has a very profound impact on your spending as well. Our reader’s current spending in the US is around $6000 a month, but in Portugal would only be $3000. That is a massive drop.
So the big question is: Will the added cost of paying capital gains taxes each year materially affect their plan to retire?
To answer this question, let’s figure out how much this added cost would be. That’s right, I think it’s time to…MATH THAT SHIT UP.
First, we know that our reader’s projected living expenses will be $3000 a month, or $36,000 a year. We also know that VTSAX / VTI currently has a 1.2% dividend yield, which will provide $1,200,000 x 1.2% = $14,400 of tax-free income. So that means they need to raise an additional $36,000 – $14,400 = $21,600 from capital gains in order to fund their living expenses.
But how much do they need to actually realize to total $21,600 after capital gains tax is due? The math is a little more complicated than normal because of the way capital gains taxes are calculated, but it’s not too terrible.
First, let’s make a few variables. SBT will represent the value of the shares sold Before Tax. SAT will represent the value of the shares sold After Tax. And T will be the capital gains tax paid.
SAT = SBT – T
Capital Gains taxes are paid only on the portion of the gains that are realized, so we can’t just apply the 28% tax directly. Normally, in order to calculate this we need a detailed statement of our readers’ investment account to figure out their book value versus their market value, but they’ve conveniently told us that they are sitting on a $300,000 unrealized capital gain on their VTSAX holdings.
So, let’s make a few variables:
- UCG = total unrealized capital gain ($300,000)
- H = total VTSAX Holdings ($1.2 M)
- CGTR = Portugal’s Capital Gains Tax Rate (28%)
Let’s express the value of the shares sold as a fraction of the total holdings:
SBT / H
This will be a portion of the $300,000 unrealized capital gains and subjected to the CGTR (28%). So the taxes paid on this will be:
T = UCG x (SBT / H) x CGTR
Put that into the first formula…
SAT = SBT – UCG x (SBT / H) x CGTR
And now we solve for SBT…
SAT = SBT x (1 – UCG x 1/ H x CGTR)
SAT / (1 – UCG x CGTR / H) = SBT
SBT = SAT / (1 – UCG x CGTR / H)
Is the most intuitive formula ever? No. But now that we’ve solved it in this way, because we know all the numbers on the right, we can calculate the number on the left.
SBT = $21,600 / (1 – $300,000 x 28% / $1,200,000)
SBT = $21,600 / (1 – 0.07) = $21,600 / 0.93 = $23,225.81
Okie dokie. So this means in order to raise $21,600 from selling stock, they actually have to sell $23,225.81 pre-tax, and pay a capital gains tax of $23,225.81 – $21,600 = $1,626.81 each year. Let’s account for this in their $36,000 living expenses budget to make it $37,626.81.
Does this slightly higher spending level materially affect their retirement? Well, according to FIRECalc…
Nope. We are projecting a 100% success rate with those numbers, with an average ending portfolio size of about $8.5 million.
So, yeah. You’re fine.
Don’t Forget About Your Retirement Accounts
This article is already cracking 3000 words, so I’ll make this brief. This analysis is assuming that you’re only going to be living off your current VTSAX investments in your taxable account. Our reader has another $650k in about a dozen retirement accounts.
Because of the sheer number of these accounts you’ll definitely want to consult a tax specialist with US/Portugal experience, but from what I can tell there’s nothing in the Portuguese tax code that interferes with building a 401(k) conversion ladder. Each year, you convert an amount from your IRA(s) equal to your combined personal exemption. US taxes (and early withdrawal penalties) will be $0, and because Portugal’s NHR program exempts foreign income from taxation, Portugal’s tax bill would be $0 too.
Definitely confirm with an accountant before you do anything on this one, though. I love Portugal, but I’m not a Portuguese NHR tax expert. Our digital nomad friends use Moore’s Roland Tax Consultants because they specialize in International US taxes. Maybe give them a call?
I have to admit, this was one of the more interesting case studies that I’ve come across. Our reader wants to retire to Portugal, but the cross-border taxation implications was spinning them into a panic. But if we break their problem down into smaller bite-sized chunks, we were able to tackle them one-by-one until we can safely conclude that their retirement plan is A-OK.
What do you guys think? Is our reader’s retirement plan sound? Any Portuguese tax experts out there that want to chime in? Let’s hear it in the comments below!
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