- The Power Of Forgiveness - August 3, 2020
- Reader Case: Lawyer in Pain - July 31, 2020
- Let’s Go Exploring! Ubud, Bali: An Instagrammer’s Paradise - July 24, 2020
I was going to write a travel post this Friday, but then I got a distracted by another Reader Case.
What’s so juicy about this reader case is that it’s epitome of what people in big expensive cities love to complain about:
I make a ridiculous amount of money, but why I can’t seem to get ahead?
Healthcare is so expensive in the States, how can I possibly retire?
Legitimate questions to be sure, but the answer to why this reader isn’t getting ahead with a pre-tax family income of $300,000 isn’t because of the expensive cost of living in a big city or healthcare. It’s because of…
Houses. And how they completely SCREW UP your life.
Don’t believe me? You decide (e-mail edited for brevity):
“Congrats for what you have accomplished! It was almost exactly what I envisioned for myself 15 years ago. I thought I would get a million dollars by age 35 and retire and enjoy life. Somehow it hasn’t worked out that way. I just turned 40 a few days ago, and am not sure when I’ll be living that dream, but I thought I’d take you guys up on your offer to analyze my situation and would welcome any thoughts you might have.
Gross/net annual family income
- $300K/$200K US
Monthly family spending
- $7K (house costs) – $5000 mortgage, $2000 for property tax, insurance, maintenance, etc
- $3K on everything else
- $1250 ($30K a year, with about half covered by employer and half out of pre-tax salary.)
- The interest rate on house: 3.375%
- minimum monthly payment: $5,000
- outstanding balance: $1,100,000
Fixed assets (house, car, etc.):
- Worth about $1.6-1.7 M (maybe $1.6M after commissions/fees–base purchase price was $1.5M),
- An apt in Korean Worth approx $300K, construction of which will be completed within 2 years –not easy to turn into US cash, but could be useful if we ended up in Korea–wife’s investment
- 2 cars worth 20K each
Investments or savings:
- $100K cash
- $60K stock
- $280K in 401K
- $270K segregated for kid’s education fund ($180K in 529 funds and $90K of which I could technically use for anything)
As you can see, I have a fair amount of assets, and I could even be considered a paper millionaire, but I have trouble envisioning how all of it could be used to support my family if I don’t work, even though I have some things in my favor, including that I could probably bum 10K per year off my parents and, in an emergency, move my family in to live with them rent free, and that my wife and I will probably inherit between $1M and $3M (depending on a number of factors) within 20-25 years, which potentially helps a lot for retirement.
Also, our house is in an area (in what may be a slightly undervalued part of LA) where it could easily appreciate 5-10% a year in the next few years. However, with health care as ridiculously expensive as it is in the US., even 40K a year doesn’t seem like enough for a family of four. My wife is also a city girl and probably wouldn’t be enthusiastic about moving to a small town to save rent (moving to Korea, where there is cheap healthcare is at least an option, though not optimal for kids).
Anyway, I’d appreciate any thoughts you guys have. Also, have you guys ever thought about using a big chunk of cash for real estate? E.g., you could use $500K to buy 10 $200K houses (or equivalent multi-unit properties) with 25% down. It would require a little work (or you hire a property manager), but potentially provide higher fixed returns with good appreciation potential (particularly given the leveraged nature of the investment) and manageable risk if it’s not your portfolio and you have property in a couple different places.
I appreciate any thoughts you have. I feel very blessed, but still trapped in the machine…”
Okay, now, most of you will probably expect me to balk at his cost of living. BUT considering how he’s making $300K/year, it’s actually not that crazy. Even after the high expenses, he’s still saving 33% of his after-tax salary. Pretty good for the average person. But here at Millennial Revolution, we never settle for average.
Let’s see how we can blow this average shit up and give him an extraordinary life instead:
Net Income: $200,000
Debt: -$1,100,000 + 3.375% interest
Investable Assets: $100,000 + 60,000 + 280,000 + $270,000 = $710,000
So, he’s currently spending $135,000/year, but if he were to retire, he’d have to cover the other half of the healthcare costs. That means, he would need $13,750/month or $165,000/year in passive income to retire.
By the 4% rule, he’ll need $4.125 Million to retire. At his current savings of $65,000/year and investible assets of $440,000 (excluding his kid’s education fund), it’ll take him a whole 20 years to build that portfolio, assuming a conservative 6% ROI:
Yuck. Retiring at 60? What’s the point of that?!? Anything can happen between now and then. A layoff. A health issue. And then what would be the point in working all those years if you never get to enjoy it?
Screw retiring in 20 years.
We can do better than that.
Now, the first time I read through his story, this is the what stuck out the most:
$7000/month housing expense. $5000 for mortgage, $1500 for property tax, $500 for insurance/maintenance/etc.
Seriously? With $1.1M left on his 29-year mortgage at an interest rate of 3.375% (which won’t stay that low for much longer) the interest portion of his mortgage is a WHOPPING $3057.17/month!
Since this is the interest/property tax/insurance, which doesn’t add a cent to equity, he’s taking $1500+500+$3057.17= $5057.17 and lighting it on fire EVERY SINGLE MONTH!
Now, I don’t know how much rent is where he lives, but if it’s anything less than $5000/month, he’s WAY better off renting and investing instead.
A cursory look shows that average rent is $3000/month in LA, so what if he were to rent instead, reducing his cost from $7000 down to $3000, and invest the $4000 surplus?
Assuming he could sell the house for $1.6M after fees, he’d get 500K after paying off his balance of $1.1M.
So, that would add $500K to his investible assets and increase his yearly contributions from $65,000 to $113,000.
BUT WAIT! It gets even better.
By lowering his housing expenses, his monthly cost drops from $13,750/month down to $9750/month or $117,000/year.
This means, he will no longer need $4.125M to retire. He now only needs $2.925M.
THAT right there is the beauty of reducing your expenses. Not only do you end up having MORE money to invest, you also need LESS to live on. So if early retirement were a marathon, this is like cutting the race in half while accelerating your speed with a ton of steroids. You get there so much faster.
Let’s see how that affects his TTR (time to retirement) shall we?
Wow! From a 20 year sentence down to only 8. Just because all that money is no longer tied inside an overpriced house and he’s no longer setting $4000 on fire each month.
Now, if he were able to somehow magically get back the $300,000 that seemed to have vanished into the Korean condo…
BAM! Without the house and condo dragging him down, he’s only 6 years from retirement (6 years 2 months to be exact)!
We just reduced his TTR by 70%, just by cashing out on the equity and renting instead of owning.
This is why I keep saying houses are money pits. Money goes in, never comes back out.
Even with a salary that is 150% HIGHER than the RetireIn7Years couple from our last Reader Case, if Trapped keeps his properties, it’s going take him 3 times as long to retire as them because so much of his net worth is stuck in real-estate, and he’s setting $5057 on fire every month.
But if he were to sell the properties and rent, he’s only 6 years from retirement.
Trapped better hope he doesn’t get laid off, because if he keeps doing exactly what he’s doing, he’s going to have to keep that job for at least another 20 years.
Or he could get rid of the shitty housing “investment” and coast there in 6 (Even with healthcare and kid’s educations both taken care of!) years.
What do you think? Chime in the comments!
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