Help me grow a huge windfall for charity

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windfall900
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Help me grow a huge windfall for charity

Post by windfall900 »

I am a 29 year-old who was fortunate and blessed enough to receive a large (lottery-sized) windfall in my company's IPO. Thankfully, my family will be set in almost any circumstance. My portfolio objective therefore is to grow my assets aggressively over a long time horizon so I can give as much away to charity as possible throughout my life. This means I'm willing to take a hefty amount of risk, and while reasonable people can disagree about that, I'd prefer to focus on achievement of the goal than debate about the goal.

Here is my current plan: (update: please see my new plan)

Emergency cash: No. The allocation below is 100% of my portfolio. Living expenses are paid for via bond/REIT income as well as via my job salary (I plan to keep working).
Debt: $1.1M 5/1 ARM mortgage at 2.6%
Tax Filing Status: Single
Tax Rate: 35% Federal, 13.3% State
State of Residence: California
Age: 29

33% Vanguard Total Stock Institutional (VITSX) 0.05%
12% Vanguard Small-Cap Value Institutional (VSIIX) 0.19%
10% Vanguard FTSE All-World ex-US Institutional (VFWSX) 0.13%
10% Vanguard All-World ex-US Small-Cap Institutional (VFSNX) 0.25%
10% high risk / experimental (currently Vanguard REIT Institutional (VGSNX) 0.08%, could be LendingClub or individual stocks in the future)
25% Vanguard California Intermediate-Term Tax-Exempt Admiral (VCADX) 0.12%

Overall portfolio ER: 0.115%

I have maxed out Roth IRAs and 401ks, as well as a 529 plan. Collectively, however, these comprise a miniscule small portion of my portfolio. I plan to hold a portion of my REIT in this tax-advantaged space, with the remainder of the REIT (as well as everything else above) going in taxable. I will tax-loss harvest once per year using Schwab's new low-cost ETFs, and rebalance once per year by selling off winners to buy losers.

Here are a few high-level points before I dive into my questions:
  • Although I would like to take a good amount of risk, I am not wedded to the particular types of risk inherent in my portfolio above. If there are ways to simplify my portfolio or reduce its expenses while still taking commensurate risk, I would be very interested.
  • Simplicity is important to me. I intend to manage my portfolio myself so I have more to give to charity over the years rather than to a financial advisor. Of course, I do have a very good CPA and an estate planning lawyer for advice.
  • My windfall is such that even small improvements in expense ratios or other attributes can provide a meaningful amount of return in absolute dollars. Even if these absolute amounts are not relevant to me in the context of my portfolio, they would be meaningful to many people, so I don't want to wave them away. I point this out not to be a jerk but simply to highlight that issues which tend to get dismissed in other threads, such as miniscule differences in expense ratios, may actually be worth thousands of dollars annually in my portfolio.
  • Since I'll be managing this myself, I don't plan to make changes all that often. So I will essentially be investing a large sum of money right now and letting it grow for decades. As in the preceding bullet point, then, I would ask you to please point out anything that comes to mind even if it seems trivial.
  • As you consider improvements to the portfolio, please keep in mind the tax impact. I'm currently in (and expect to remain in) the highest marginal tax brackets in the state with the highest income tax, on the eve of potential hikes in federal income tax rates, and the vast majority of my space is taxable.
All that said, here are a bunch of questions I have. Please feel free to chime in on as many or few as you feel comfortable.

General
  • I can't figure out the meaningful difference between what I listed above, FTSE All-World ex-US Institutional (VFWSX; 0.13%), and Total International Stock Institutional (VTSNX; 0.13%). The latter seems to include a little bit of small cap, but I'm already holding that separately anyway. Is there any reason at all to prefer one to another?
  • TIPS, I-Bonds, etc: I'll be honest, I know virtually nothing about these. Do they deserve a place in my portfolio?
  • There does not seem to be a "Total Bond Market" equivalent of Vanguard California Tax-Exempt Bond; I need to choose between intermediate and long term maturities. Any guidance on how I should go about making this choice? Or should I split my bond allocation between the two of them?
  • Does it make sense to pay off the mortgage? On the one hand, the interest rate is very low -- the mortgage tax deduction puts it in the mid 1% percent -- and I could likely beat that in the market. On the other hand, this is effectively equivalent to investing on margin as I understand it, and my portfolio size qualifies me for 1% margin loans that are themselves deductible [via the interest income deduction]. So if I really want to invest on margin, it seems better to just use a margin loan. The only downside I see there is that the low mortgage rate is fixed for five years whereas the margin rate could conceivably increase, but that seems unlikely in the short term.

    However, it's not even clear that I should be investing "on margin." If I want to increase the risk profile of my portfolio, I might as well just change my allocation, right?
  • Am I holding enough international? 20% of total portfolio seems low. If I should increase the percentage, what should I decrease to make room?
Risk
  • What are the elements of risk in my portfolio? I see 4: I am overweighting US small cap value; I am overweighting international small cap; I am holding fewer bonds than someone my age would typically hold; and I have a 10% allocation toward experimental/alternative investments. Are there other hidden risks that I am not considering?
  • Is there some good way of determining how much risk I am taking to ensure that it's as much as I want but not more? For instance, it'd be great to know: If things go really well, by how much might this outperform a market-weighted portfolio? If things go really badly, by how much am I likely to underperform? What sort of drop should I be emotionally prepared to stomach in the bad times? 40%? 60%? 80%? These are the questions I'm most curious about. All I know right now is that I want to take "a good amount of risk", but I don't know how to quantify what that means or whether I have achieved it.
  • There are so many different ways to add risk to a portfolio: reduce the bond allocation; increase the international allocation; weight small-caps; weight emerging markets; add REITs; or even invest on margin. How do risk seekers typically decide which types of risk to add? For instance, I'm not (as far as I know) overweighting emerging markets. Is this purely a personal judgment call based on outlook?
Taxes
  • Is it dumb to hold REIT if I have to hold the bulk of it in taxable? I'm never sure where it makes sense to let the tax tail wag the dog, but surely there are more tax-efficient ways to add risk and diversity to my portfolio (which is my intent in holding REIT)?
  • Given all the taxable attributes listed earlier, should I be looking at tax-managed funds? I rarely see talk of those on this board (except for grabiner's excellent http://www.bogleheads.org/forum/viewtop ... 10&t=95518) and I'm not clear on when (if ever) they should be used.

    One thing I definitely don't understand is how the tax-managed funds often are so cheap. For instance, the Vanguard Tax-Managed International Institutional (VTMNX) is only 0.08% ER, which is the cheapest I've ever seen for an international fund. Why would I *not* want tax-managed at such a cheap rate, and how is a tax-managed fund (which would seem to require more active management) cheaper than a passive/index fund?
  • The "general rule of thumb" is that ETFs are more tax-efficient than mutual funds, but this board also has a "general rule of thumb" that Vanguard ETFs and Vanguard mutual funds share a common foundation such that there is absolutely no tax-efficiency difference between the two. Given that I'm about to make a decades-long decision between the two: Is this accurate as things stand today?
  • Given the tax hit, is it a bad idea to do annual rebalancing by selling off winners? Instead of reinvesting my bond/REIT income as it comes in, I could pool it and use it to purchase more of the losers at a year end... but then that money would be out of the market throughout the course of the year.
Thank you so much for your help everyone!
Last edited by windfall900 on Tue Dec 04, 2012 11:14 pm, edited 1 time in total.
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hand
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Re: Help me grow a huge windfall for charity

Post by hand »

A couple thoughts:
1) Have you considered contributing to a donor advised fund now for dollars you are certain you want to go to charity eventually? This has the benefit of an immediate tax deduction (potentially offsetting large taxable gains this year) but allows you to gift moneys over time. This would have the side benefit of making many of the questions in your tax section no longer a concern.
2) Taking on more risk does not always equal greater returns over the long term, simply more variable returns.
dragon
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Re: Help me grow a huge windfall for charity

Post by dragon »

Congratulations on the success of your company. Your plan sounds basically good to me and you ask a lot of good questions. I'll give some thoughts on a few of them:
TIPS, I-Bonds, etc: I'll be honest, I know virtually nothing about these. Do they deserve a place in my portfolio?
I think it's reasonable to omit TIPS in an all-taxable portfolio. The annual purchase limits on I-Bonds are too small to make a difference in your size of portfolio.
There does not seem to be a "Total Bond Market" equivalent of Vanguard California Tax-Exempt Bond; I need to choose between intermediate and long term maturities. Any guidance on how I should go about making this choice? Or should I split my bond allocation between the two of them?
I would go with 100% intermediate. I believe there is some research that indicates that intermediate-term bonds generally mix better with with stocks in a 72/25 portfolio than do long-term bonds.
Does it make sense to pay off the mortgage? On the one hand, the interest rate is very low -- the mortgage tax deduction puts it in the mid 1% percent -- and I could likely beat that in the market. On the other hand, this is effectively equivalent to investing on margin as I understand it, and my portfolio size qualifies me for 1% margin loans that are themselves deductible [via the interest income deduction].
I would keep the mortgage. The effective interest rate is so low that your investments will probably beat it.

There are at least 3 advantages of the mortgage vs. a margin loan: (1) as you mentioned, mortgage rate is fixed for 5 years while margin rate might increase at any time; (2) if you take out a very large margin loan, in the event of a severe drop in the stock market, you might be forced to sell at the absolute worst time due to a margin call; and (3) margin interest is not entirely tax deductible since you own tax-exempt bonds. Roughly 75% of your margin interest would be tax-deductible since 75% of your investments are taxable while 25% are tax-exempt.
Am I holding enough international? 20% of total portfolio seems low. If I should increase the percentage, what should I decrease to make room?
Personally, I would increase your international stocks a little by decreasing your US stocks. But this is mostly a matter of personal taste -- there are reasonable arguments on both sides.
What sort of drop should I be emotionally prepared to stomach in the bad times? 40%? 60%? 80%?
A rule of thumb that is popular on this forum is to be prepared to lose 50% of your equity allocation in a bad drawdown. Since you'll be at 75% equities, you should be comfortable with around a 40% drop in value (hopefully temporary!). Of course, an even larger drop is possible, but it would be almost unprecedented.
Is it dumb to hold REIT if I have to hold the bulk of it in taxable? I'm never sure where it makes sense to let the tax tail wag the dog, but surely there are more tax-efficient ways to add risk and diversity to my portfolio (which is my intent in holding REIT)?
You should investigate the possibility of holding REITs in a Vanguard Variable Annuity. Your situation is one of the few where a variable annuity actually might make sense.
Given the tax hit, is it a bad idea to do annual rebalancing by selling off winners? Instead of reinvesting my bond/REIT income as it comes in, I could pool it and use it to purchase more of the losers at a year end... but then that money would be out of the market throughout the course of the year.
Rebalancing by selling winners in a taxable account is usually not recommended. Reinvesting investment income in losers is a better way to do it. Also, you should pool dividend distribution from your stock accounts and reinvest them in losers in the same way, rather than automatically re-investing dividends in the fund that distributed them.
livesoft
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Re: Help me grow a huge windfall for charity

Post by livesoft »

You must've talked to someone at Vanguard about this because I'm guessing that it is relatively rare for individuals to buy institutional-class shares. Did they not offer any guidance or help?
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Topic Author
windfall900
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Re: Help me grow a huge windfall for charity

Post by windfall900 »

livesoft wrote:You must've talked to someone at Vanguard about this because I'm guessing that it is relatively rare for individuals to buy institutional-class shares. Did they not offer any guidance or help?
They offered some guidance. Why would you not seek additional perspectives beyond a single person if they are available?
letsgobobby
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Re: Help me grow a huge windfall for charity

Post by letsgobobby »

I second the donor advised fund idea. You can then grow the money tax-free forever, including REITs and other tax-inefficient asset classes. You can make donations each year against income per the tax rules (30% or 50% or whatever it is of income). Vanguard has a donor advised fund. Or maybe with this much money, opening up your own foundation/private charity is more cost effective.

Since almost all of your money is taxable and you will be in a high tax bracket, I would think owning tax-efficient assets is paramount. To me that would suggest owning predominantly tax-managed total stock, tax-managed small cap/small value, and tax-managed foreign stocks. I wouldn't own REITs and pay 56.7% on your income, which is what it will be in 2013.

On a related note, I'd say a risk your taking is tax risk. You are a prime target for paying higher taxes indefinitely into the future. I would make tax management a paramount concern. Obviously you should be talking with an expert in that field.

TIPS only work in tax-deferred accounts, so unless you create some kind of space it's not a good idea. I bonds are too small (limit $25,000 per married couple per year) to worry about unless you're going to create a thousand trusts.

Despite my usual advice to the contrary, I'd pay off the mortgage. Even though it is a very cheap rate, why bother? It sounds like a rounding error, an annoyance. Who needs the hassle?
dbr
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Re: Help me grow a huge windfall for charity

Post by dbr »

hand wrote:A couple thoughts:
1) Have you considered contributing to a donor advised fund now for dollars you are certain you want to go to charity eventually? This has the benefit of an immediate tax deduction (potentially offsetting large taxable gains this year) but allows you to gift moneys over time. This would have the side benefit of making many of the questions in your tax section no longer a concern.
2) Taking on more risk does not always equal greater returns over the long term, simply more variable returns.
Lacking any specific experience myself, it still strikes me that an endowment of some kind is much better positioned to grow assets for the long run than you are. The idea of gifting now sounds like an intriguing alternative. In other words, let your windfall be the windfall of a charitable organization now.

Point 2) above is important.
Topic Author
windfall900
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Re: Help me grow a huge windfall for charity

Post by windfall900 »

Everyone's point about a donor advised fund is definitely well taken, and it's something I've been discussing with my CPA and my estate planning lawyer. Opinions on the questions above would nonetheless be much appreciated because I will still likely manage a sizable amount myself in any case. That's because, even though I will probably establish a DAF, I am not sure I will be able to bring myself to put 90-95% of the windfall into the DAF in the next 5 weeks (i.e. in the tax year where I can leverage the income deduction). I do want to give to charity over my lifetime, but immediately transferring everything irrevocably is a big decision to make and I want to be thoughtful about it.
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Watty
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Re: Help me grow a huge windfall for charity

Post by Watty »

Does it make sense to pay off the mortgage? On the one hand, the interest rate is very low -- the mortgage tax deduction puts it in the mid 1% percent -- and I could likely beat that in the market.


Yes, go ahead and pay it off.

This is especially true since you have an ARM. A better argument could be made for having a 30 year fixed rate mortgage since that would provide some inflation protection.

This is likely not the optimal strategy to make the most money and keeping the mortgage might pay off a high percentage of the time but in some small percentage of the time it will work out badly. This is an added risk that you don't have a clear need to take.

In addition to the other issue it also will screw up your asset allocation since a mortgage is very much like a negative bond so if you have the same amount in bonds then you sort of have a net sum of zero in that fixed income asset class.

For example of you wanted to have a 50%/50% stock and bond asset allocation and you have 100,000 in stocks, 100,000 in bonds, and a mortgage for 100,000. Then the bonds and the mortgage more or less cancel each other out and you in effect have 100% in stocks.
livesoft
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Re: Help me grow a huge windfall for charity

Post by livesoft »

windfall900 wrote:
livesoft wrote:You must've talked to someone at Vanguard about this because I'm guessing that it is relatively rare for individuals to buy institutional-class shares. Did they not offer any guidance or help?
They offered some guidance. Why would you not seek additional perspectives beyond a single person if they are available?
So they didn't fly a team to meet with you and offer guidance?

In your shoes I would be talking to folks who have started charitable foundations and see how they do things. I would even visit the offices of these foundations. Or you can just give your money (over time) to a place like the Bill & Melinda Gates Foundation. It seems to me that folks who do this for a living could grow the money for charity or at least give advice on how-to. My guess is that they do not have just 25% allocated to fixed income.
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windfall900
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Re: Help me grow a huge windfall for charity

Post by windfall900 »

livesoft wrote:
windfall900 wrote: They offered some guidance. Why would you not seek additional perspectives beyond a single person if they are available?
So they didn't fly a team to meet with you and offer guidance?
No, they don't fly the Vanguard private jet to meet with you just because you have a high net worth. I'm sure they have other clients with much larger net worths, and Vanguard isn't a sales company anyway (or at least, not the part of the company I'm speaking with).
livesoft wrote: In your shoes I would be talking to folks who have started charitable foundations and see how they do things. I would even visit the offices of these foundations. Or you can just give your money (over time) to a place like the Bill & Melinda Gates Foundation. It seems to me that folks who do this for a living could grow the money for charity or at least give advice on how-to. My guess is that they do not have just 25% allocated to fixed income.
I've seen this type of attitude a lot on the board (I'm a lurker) and I'm sort of surprised by it. Is there a certain point of wealth at which Boglehead philosophies no longer hold true and you should get into exotic alternative investments, or something? My world didn't suddenly become a whirlwind of hedge funds and Cayman trusts when I collected my windfall, and I would hope that all of the sound advice given on this board is applicable to everyone.
livesoft
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Re: Help me grow a huge windfall for charity

Post by livesoft »

I myself would not assume that foundations are using hedge funds, exotic alternative investments, Cayman trusts, etc.

But suppose one could invest in Total US Stock market index with an expense ratio of 0.01% instead of 0.05%? How would you learn about that? I do see that Vanguard has Institutional Plus share class, but maybe someone else does better? And should one have confidence in the reported expense ratios?
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windfall900
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Re: Help me grow a huge windfall for charity

Post by windfall900 »

livesoft wrote:I myself would not assume that foundations are using hedge funds, exotic alternative investments, Cayman trusts, etc.

But suppose one could invest in Total US Stock market index with an expense ratio of 0.01% instead of 0.05%? How would you learn about that? I do see that Vanguard has Institutional Plus share class, but maybe someone else does better? And should one have confidence in the reported expense ratios?
Do you mistrust the reported expense ratios when you invest? Again, what is different just because the amounts are larger? Rest assured that I am seeking advice from as many corners as possible, but this board is one of the few "advisors" without a personal stake in the outcome, so I'd like to get its advice.

Everyone: Any more opinions on the questions above? I am particularly interested in the question of how I can best measure just how much risk I'm taking with the portfolio. If not mathematically, how do I at least determine where my portfolio falls on a spectrum of "Extremely conservative" to "Extremely aggressive"?
dbr
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Re: Help me grow a huge windfall for charity

Post by dbr »

windfall900 wrote:
Everyone: Any more opinions on the questions above? I am particularly interested in the question of how I can best measure just how much risk I'm taking with the portfolio. If not mathematically, how do I at least determine where my portfolio falls on a spectrum of "Extremely conservative" to "Extremely aggressive"?
Those concepts are not well defined and are not strongly dependent on the asset allocation.

In general investing all in bonds is "extremely conservative" and all in stocks is "extremely aggressive." There is little or no meaningful difference in making a ten percentage point change in the stock/bond allocation.

You can look at the risk categories published by Vanguard on their fund pages:

https://personal.vanguard.com/us/funds/ ... IntExt=INT

TSM is rated 4 out of 5 on risk.

A simple quantitative approach to risk is to measure risk as variability of annual returns using standard deviation as the statistic. You can look at some estimates of returns and standard deviations here:

http://www.portfoliosolutions.com/the-p ... -for-2012/

If you want to measure risk as the chance of portfolio failure during retirement, you can go to a calculator such as FireCalc and mess around with the asset allocations.

If you want to contemplate risk as measured by end-point wealth you can contemplate the example here and refine it by running stochastic simulations of possible outputs:

http://www.norstad.org/finance/risk-and-time.html
poundwise
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Re: Help me grow a huge windfall for charity

Post by poundwise »

As long as a donor advised fund (DAF) is on the table, you may want to instead consider setting up your own charitable foundation. It may cost a grand or so to set up, but after that you never pay the DAF management fees, which are often in the 1% range annually. I see that Vanguard's charitable endowment program charges .6% for the first dollar but .15% after 1M. So that's not bad, but still was anathema to me. (incidentally, re: the discussion on better expense ratios to which DAFs have access, the Vanguard charitable endowment program has some examples, and the discounts didn't look spectacular.)

Benefits:
* You/trustees have complete control of the investments (you can just maintain a separate Vanguard account)
* You/trustees have complete control of the donations (it's easy to cut a check to that friend who is running a 10K for leukemia, etc.)
* No management fees
* You get to say you have a private foundation

Headaches
* Filling out tax forms -- easy (1-2hrs), but not nothing. Could outsource to accountant for a few hundred bucks.
* You may only deduct 30% of AGI when giving to your private foundation, vs 50% to a DAF or other charity.
* More junk mail (tax records of foundations, including mailing addresses, are publicly available).

Either way, if you have a large stash, you clearly want to donate now rather than later. Why defer the tax break, and instead pay years and years of taxes on investment income and capital gains?
Last edited by poundwise on Thu Nov 29, 2012 9:22 am, edited 1 time in total.
KyleAAA
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Re: Help me grow a huge windfall for charity

Post by KyleAAA »

windfall900 wrote:
livesoft wrote:I myself would not assume that foundations are using hedge funds, exotic alternative investments, Cayman trusts, etc.

But suppose one could invest in Total US Stock market index with an expense ratio of 0.01% instead of 0.05%? How would you learn about that? I do see that Vanguard has Institutional Plus share class, but maybe someone else does better? And should one have confidence in the reported expense ratios?
Do you mistrust the reported expense ratios when you invest? Again, what is different just because the amounts are larger? Rest assured that I am seeking advice from as many corners as possible, but this board is one of the few "advisors" without a personal stake in the outcome, so I'd like to get its advice.

Everyone: Any more opinions on the questions above? I am particularly interested in the question of how I can best measure just how much risk I'm taking with the portfolio. If not mathematically, how do I at least determine where my portfolio falls on a spectrum of "Extremely conservative" to "Extremely aggressive"?
Well, the difference is that very large endowments can invest for much cheaper than even the cheapest of index funds available even to institutions. 0.05% may be considered too costly by the Bill and Melinda Gates foundation, for example. However, I think the crux of the argument isn't that these foundations can invest better or get higher returns than a Boglehead but rather they are likely to be far more efficient at managing and disbursing these assets effectively than any individual. Example, you want to grow your wealth as aggressively as possible in order to leave the biggest chunk of change to charity possible in 50 years; however, it may be that there are opportunities to spend some of that money NOW that are going to be far more effective, even adjusted for inflation, than anything 50 years from now. The point is, they are on top of these kinds of things in a way none of us are. How would you even begin to go about the process of being able to spot these opportunities? I'm betting somebody at the Gates Foundation would be much better at that sort of thing.
livesoft
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Re: Help me grow a huge windfall for charity

Post by livesoft »

We see folks here on the forum who have collective index trusts in their 401(k) plans that have expense ratios in the 0.01% range. I wonder if the OP found out about them, but could not use them? Or suppose a place like Northern Trust has a series of index funds with expense ratios of 0.001% just for charities? Those kinds of things would not show up on my radar even though I worked for non-profit for many years.
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Re: Help me grow a huge windfall for charity

Post by czeckers »

I see your frustration in not getting direct input on your desired AA. However, what everyone is telling you is that in all cases, but especially in your case, the AA is greatly dependent on what type of account the money is held in and the resultant tax implications. If you have to pay 15 or 20% taxes on your divident distributions every year and marginal tax rate on your bond distributions, then that is going to cripple your portfolio growth far more than an ER diference of 0.01% vs 0.05%.

As suggested above, your goal is to move any monies that you are absolutely 100% certain that you will never use for yourself in the future into some type charitable tax shelter. I can't speak on the pros/cons of a DAF vs setting up your own charity but that is the general direction that you should be looking toward.

As you your specific AA: In a taxable account, tax efficiency is paramount. Thus, with Vanguard, your only viable choices are total US stock market vs tax-managed growth fund and total international vs tax-managed international on the stock side and a tax-exempt (ideally intermediate duration) bond fund on the bond side. TIPS, REITS, small value, or anything that gives off a lot of dividend or interest income is not suitable for a taxable account. I recommend you read the Bogleheads wiki on tax efficiency of various investments.

Now once you achieve non-taxable status for your charitable funds, then you can get more creative. You may consider thinking of your charitable money as an endowment with an indefinite time span. What you're considering isn't a sprint where you want to take high risks to have the potential to distribute as much money as possible at some future date. Rather, it's more of a slow and steady growth and steady distribution to the causes that you care about. I'd consider a more balanced approach with a 40-50% bond allocation on the bond side, and then you can be more aggressive on the stock side (see my AA below) for an example on the stock side.

-K
The Espresso portfolio: | | 20% US TSM, 20% Small Value, 10% US REIT, 10% Dev Int'l, 10% EM, 10% Commodities, 20% Inter-term US Treas | | "A journey of a thousand miles begins with a single step."
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windfall900
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Re: Help me grow a huge windfall for charity

Post by windfall900 »

Thanks, czeckers, I appreciate the thoughtful response.
czeckers wrote:I see your frustration in not getting direct input on your desired AA. However, what everyone is telling you is that in all cases, but especially in your case, the AA is greatly dependent on what type of account the money is held in and the resultant tax implications. If you have to pay 15 or 20% taxes on your divident distributions every year and marginal tax rate on your bond distributions, then that is going to cripple your portfolio growth far more than an ER diference of 0.01% vs 0.05%.
I understand that, but I'm looking for feedback on the allocation itself, not merely the expense ratios. I am under the impression that the allocation makes a huge difference in risk and reward, right?
czeckers wrote:As suggested above, your goal is to move any monies that you are absolutely 100% certain that you will never use for yourself in the future into some type charitable tax shelter. I can't speak on the pros/cons of a DAF vs setting up your own charity but that is the general direction that you should be looking toward.
I am definitely investigating. At the same time, this board always advises against rushing into major transactions after a windfall. As mentioned earlier, the thought of disbursing the vast majority of the portfolio to a DAF within 5 weeks (i.e. within the year in which I could use the deduction) is a bit daunting given that I only learned about DAFs recently.
czeckers wrote:As you your specific AA: In a taxable account, tax efficiency is paramount. Thus, with Vanguard, your only viable choices are total US stock market vs tax-managed growth fund and total international vs tax-managed international on the stock side and a tax-exempt (ideally intermediate duration) bond fund on the bond side.
Any thoughts on how to go about making this decision? As mentioned in OP, I was shocked at how low the ERs were for tax-managed funds. Why would anyone *not* use these? What am I missing?

czeckers wrote:TIPS, REITS, small value, or anything that gives off a lot of dividend or interest income is not suitable for a taxable account. I recommend you read the Bogleheads wiki on tax efficiency of various investments.
I have read this. My bond allocation is tax-exempt muni bonds. However, does it really make sense to let taxes fully drive your investment strategy? This would mean that most wealthy people could never hold REITs, small value, loans, etc in high amounts. As far as I can tell, the Bogleheads wiki doesn't say you should never hold a tax-inefficient asset in a taxable account; it just tells you where to allocate them *first*, until the tax-advantaged space is full.

Also, as grabiner and others have pointed out, yields on fixed income instruments are historically low right now -- in some cases, even lower than stock funds.
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grayfox
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Re: Help me grow a huge windfall for charity

Post by grayfox »

edits
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Eric
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Re: Help me grow a huge windfall for charity

Post by Eric »

poundwise wrote:As long as a donor advised fund (DAF) is on the table, you may want to instead consider setting up your own charitable foundation.
I agree generally with this advice, and agree that at large asset levels a private foundation may be more cost-effective than a donor-advised fund. However, I hope you won't mind if I quibble just a little . . .
poundwise wrote:It may cost a grand or so to set up
For a large private foundation, the IRS filing fee alone would be $850. A large law firm would likely charge ~$7,000 to establish a private foundation and complete that filing (assuming no complications). A smaller firm may charge less, if you're able to find one in your area with the necessary expertise, but that may be difficult.

It may still be worthwhile for the OP to spend the money to establish a private foundation. For large contributions, the up-front costs may be offset by ongoing savings, and as noted there are non-economic factors to consider too. I just want to clarify the likely costs. It's going to be more than just one or two thousand dollars up front.
poundwise wrote:Benefits:
* You/trustees have complete control of the investments (you can just maintain a separate Vanguard account)
That's mostly true, but is subject to IRS restrictions. Those restrictions probably wouldn't be very relevant to a Boglehead (who isn't likely to invest in private companies, speculative/exotic ventures, etc.) but they do exist.
poundwise wrote:* You/trustees have complete control of the donations (it's easy to cut a check to that friend who is running a 10K for leukemia, etc.)
Grants to individuals are permitted, subject to restrictions, but can be a sensitive area. (I know you're not actually suggesting cutting a check to the friend directly, you mean to the charity he's supporting, so I mention this just for information.) Grants to certain types of recipients or for certain purposes (e.g., to an individual for travel or study, or to a private noncharitable entity to be used for a charitable purpose, or to another private foundation) must be made in accordance with special procedures prescribed by the IRS. A minimum total amount (generally 5% of assets) must be distributed for the foundation's charitable purposes each year. None of these issues are likely to be a problem for the OP, but again just want to clarify.
poundwise wrote:Headaches
* Filling out tax forms -- easy (1-2hrs), but not nothing. Could outsource to accountant for a few hundred bucks.
The IRS form required for private foundations -- Form 990-PF -- is not easy to comprehend, let alone complete. See for yourself. I doubt you could find an accountant to do it for a few hundred dollars, or complete it yourself in anything like 1-2 hours (if at all).

Note that private foundations are subject to a special tax on their investment income (generally 2%, sometimes reduced to 1%), which is reported and paid with this form.
poundwise wrote:* You may only deduct 30% of AGI when giving to your private foundation, vs 50% to a DAF or other charity.
For cash contributions (which are what the OP cares about), that's generally true. Contributions of appreciated assets are subject to lower limits (and for some contributions to a private foundation, are further limited to the donor's basis).

Again, sorry to be such a nitpicker. ;-) We're generally on the same page, and I agree with the gist of your suggestion.
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Re: Help me grow a huge windfall for charity

Post by livesoft »

A comment on the asset allocation: When I saw it, I thought to myself, "Wow, this is remarkably like my asset allocation, so I like it."

So it is in the range of "just fine". I have learned over the years of having a similar asset allocation that tweaking percentages or funds plus or minus 10% just does not matter. It may be sacrilegious to say this, but what has a bigger effect is market timing. And whether it is conscious market timing or unintended market timing (the date one invests, the date one rebalances, the date one tax-loss harvests, the date one splits bonds into short-term and intermediate-term holdings, the date one goes from total bond to corporate index, etc.), I believe that will have a bigger effect. Unfortunately, one cannot really plan what that effect will be: positive or negative. One could also say, it will depend on luck.

Thus, I would not sweat the AA too much. Full disclosure: my largest single equity holdings are Vanguard Small-Cap Value index, Vanguard FTSE all-world ex-US small-cap, Vanguard FTSE-all-world ex-US large-cap. I would have Total US Stock Market index, but I have to use an S&P500 index fund and US large-cap fund because of the limitations of my 401(k) and a April 2009 tax-loss harvesting move.

Bottom line: Asset allocation is just fine, but many other AAs would be fine as well.
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windfall900
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Re: Help me grow a huge windfall for charity

Post by windfall900 »

livesoft wrote:Thus, I would not sweat the AA too much. Full disclosure: my largest single equity holdings are Vanguard Small-Cap Value index, Vanguard FTSE all-world ex-US small-cap, Vanguard FTSE-all-world ex-US large-cap. I would have Total US Stock Market index, but I have to use an S&P500 index fund and US large-cap fund because of the limitations of my 401(k) and a April 2009 tax-loss harvesting move.

Bottom line: Asset allocation is just fine, but many other AAs would be fine as well.
Thanks livesoft. Can I ask why you don't hold tax-managed funds? Still wondering what the 'catch' is for these.
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Re: Help me grow a huge windfall for charity

Post by livesoft »

Our assets are taxable and tax-advantaged split about 50:50. We can put bonds, REITs in 401(k)s and IRAs without worries.

At one time, we did own Vanguard tax-managed International, but that was back in the day when there was a 1% early redemption fee for shares held less than 5 years AND the FTSE all-world ex-US funds had not been invented yet. Vanguard ETFs had not really been established either. I would even say that ETF share class has helped non-tax-managed funds to avoid capital gains distributions.

I had to tax-loss harvest shares of the tax-managed fund which cost me then an extra 1%. At the time of TLHing, VEU was available, but not VSS nor was the new Vanguard Total Int'l Stock Index fund available. So I bought lots of VEU. Also I owned DLS, GWX, and SCZ (small-cap foreign). Eventually these latter were tax-loss harvesting and replaced with VSS (see, e.g. http://www.bogleheads.org/forum/viewtop ... 01#p742901 ).

Nowadays, the 1% early redemption fee is gone, but that doesn't help us now.

Once a position in taxable has substantial unrealized capital gains, that position is basically "locked in" for the duration. If another product comes along that is better, one will not exchange to the better product because the tax-consequences would be so large.
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letsgobobby
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Re: Help me grow a huge windfall for charity

Post by letsgobobby »

asset location matters but after-tax return matters more. Income from REITs and non-muni bonds as well as dividends are going to be taxed north of 55% for you in 2013 under current law. That makes their total return frankly unattractive, so I wouldn't take the approach of 'owning at any cost.' You could wait until future law is somewhat settled, but at the risk of losing out on 2012's favorable laws. If it were me, I probably wouldn't wait. I know which way the wind is blowing, and you are public enemy #1.

Let me propose something simple, then you tell me why that won't work.

Let's say you have decided to donate 80% of your windfall and keep 20%. And assume it is all taxable.

Then... donate the 80%. Do it this year (now). Although we can't discuss proposed tax policy, you read the news just like I do. And you know what is being discussed with regards to deductions. I wouldn't take a chance of losing that deduction. And within a DAF or a private foundation, invest it (tax-deferred or free, I don't know the precise rules - DAF is tax free) in an aggressive REIT/small/value/international/total mix to your liking. Take all the risk you like.

With the 20%, tell me what is wrong (from your perspective) with something like:

20% muni bond ladder
40% total international
40% total stock

I encourage starting with this very basic 3 fund portfolio, then you explaining why that doesn't meet your needs.

It isn't always necessary to make it more complicated.

That said, you might want to take advantage of 2012's high estate tax exemption. You're single, you only get $5M and change. There are various trusts with cryptic acronyms like CRUTS, CRATS, GRITS, GRATS, GRUTS, that may help you minimize tax liability while helping charity or providing income. If you can offload that amount of money this year, it will lower your future tax liability. How that interacts with future estate tax law changes is far beyond the scope of this forum - something to discuss with an expert, for sure.
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windfall900
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Re: Help me grow a huge windfall for charity

Post by windfall900 »

livesoft wrote:Our assets are taxable and tax-advantaged split about 50:50. We can put bonds, REITs in 401(k)s and IRAs without worries.

At one time, we did own Vanguard tax-managed International, but that was back in the day when there was a 1% early redemption fee for shares held less than 5 years AND the FTSE all-world ex-US funds had not been invented yet. Vanguard ETFs had not really been established either. I would even say that ETF share class has helped non-tax-managed funds to avoid capital gains distributions.

I had to tax-loss harvest shares of the tax-managed fund which cost me then an extra 1%. At the time of TLHing, VEU was available, but not VSS nor was the new Vanguard Total Int'l Stock Index fund available. So I bought lots of VEU. Also I owned DLS, GWX, and SCZ (small-cap foreign). Eventually these latter were tax-loss harvesting and replaced with VSS (see, e.g. http://www.bogleheads.org/forum/viewtop ... 01#p742901 ).

Nowadays, the 1% early redemption fee is gone, but that doesn't help us now.

Once a position in taxable has substantial unrealized capital gains, that position is basically "locked in" for the duration. If another product comes along that is better, one will not exchange to the better product because the tax-consequences would be so large.
Got it. Makes sense. Why not put new cash in tax-managed international, though?
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windfall900
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Re: Help me grow a huge windfall for charity

Post by windfall900 »

letsgobobby wrote:With the 20%, tell me what is wrong (from your perspective) with something like:

20% muni bond ladder
40% total international
40% total stock

I encourage starting with this very basic 3 fund portfolio, then you explaining why that doesn't meet your needs.

It isn't always necessary to make it more complicated.
You make a compelling case. There's nothing "wrong" with it, I just wonder if it's sufficiently aggressive given that I may not touch this money for 60 years. That's why I added the small cap and value tilts.

Also, can you clarify the benefit of a muni bond ladder over Vanguard Interim California Muni Tax-Exempt Institutional?
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Re: Help me grow a huge windfall for charity

Post by FillorKill »

Tax Rate: 35% Federal, 13.3% State
If everything is on the table then here's my off-the wall suggestion:

Move next door to NV and get rid of that state tax burden completely. Keep your home in CA but be sure not to spend too much time there [such that] CA considers you a resident for income tax purposes.

Yeah, crazy, I know. But really, 13.3%?
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Re: Help me grow a huge windfall for charity

Post by livesoft »

windfall900 wrote:Got it. Makes sense. Why not put new cash in tax-managed international, though?
My circumstances have changed. I haven't needed to add to taxable accounts in a couple of years because I am semi-retired and have college expenses. Also my asset allocation is changing as I age and calls for more fixed income. Plus if I need more international, I can rebalance in my 401(k) without tax consequences.

I am in a rather low marginal income tax bracket, too, because I practice what I preach:
http://www.bogleheads.org/forum/viewtopic.php?t=79510
http://www.bogleheads.org/forum/viewtopic.php?t=87471

Finally, "tax-managed" is relative. The tax difference between owning something like VEU and VEA (this is the tax-managed int'l fund) is probably not signficant, where significant is more than the average daily change in value of the holding.
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letsgobobby
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Re: Help me grow a huge windfall for charity

Post by letsgobobby »

windfall900 wrote:
letsgobobby wrote:With the 20%, tell me what is wrong (from your perspective) with something like:

20% muni bond ladder
40% total international
40% total stock

I encourage starting with this very basic 3 fund portfolio, then you explaining why that doesn't meet your needs.

It isn't always necessary to make it more complicated.
You make a compelling case. There's nothing "wrong" with it, I just wonder if it's sufficiently aggressive given that I may not touch this money for 60 years. That's why I added the small cap and value tilts.

Also, can you clarify the benefit of a muni bond ladder over Vanguard Interim California Muni Tax-Exempt Institutional?
with your assets you may able to manage a muni bond ladder at a lower cost, and have more control over duration and tax loss harvesting. It's a personal decision as to whether it is 'worth it' or not.

I think there's good reason to hold small and value, but for the taxes. As far as your 60 year time horizon, that is probably overstating things. You are 29, so you will probably need to generate income from the assets before age 89. Even if you want to work til you die, you may not be able to. So let's call it a 40 year horizon. That is long... but not indefinite. Institutional money often sits in a 60/40 (give or take) ratio so 80/20 is already more aggressive than most. And they truly do have an infinite time horizon. A little bonds adds a lot of stability without costing a lot of returns. If there is such a thing as tax-managed small or value, I'd go for it. I don't know if there is, but I'd rather do that to increase expected returns than give up the 20% bonds.
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Re: Help me grow a huge windfall for charity

Post by ihckennedy »

The recommendation re donor-advised funds is excellent.

"Lottery-sized" is rather vague. If the assets amount to tens of millions of dollars, you might consider creating a family foundation, which would be a tax-exempt entity, but this would constitute an absolute commitment to donate a minimum amount every year.

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windfall900
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Re: Help me grow a huge windfall for charity

Post by windfall900 »

letsgobobby wrote:with your assets you may able to manage a muni bond ladder at a lower cost, and have more control over duration and tax loss harvesting. It's a personal decision as to whether it is 'worth it' or not.
Is a ladder something I could easily set up and maintain on my own?
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windfall900
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Re: Help me grow a huge windfall for charity

Post by windfall900 »

ihckennedy wrote:"Lottery-sized" is rather vague. If the assets amount to tens of millions of dollars, you might consider creating a family foundation, which would be a tax-exempt entity, but this would constitute an absolute commitment to donate a minimum amount every year.
Yes, that is the correct range. Thank you.
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Re: Help me grow a huge windfall for charity

Post by letsgobobby »

windfall900 wrote:
letsgobobby wrote:with your assets you may able to manage a muni bond ladder at a lower cost, and have more control over duration and tax loss harvesting. It's a personal decision as to whether it is 'worth it' or not.
Is a ladder something I could easily set up and maintain on my own?
Easy is subjective. If you bought $1M each at 5 different maturities, it is my understanding you would get excellent pricing and other than buying again one bond each year, no additional work would be required.
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Re: Help me grow a huge windfall for charity

Post by DSInvestor »

letsgobobby wrote:
windfall900 wrote:
letsgobobby wrote:with your assets you may able to manage a muni bond ladder at a lower cost, and have more control over duration and tax loss harvesting. It's a personal decision as to whether it is 'worth it' or not.
Is a ladder something I could easily set up and maintain on my own?
Easy is subjective. If you bought $1M each at 5 different maturities, it is my understanding you would get excellent pricing and other than buying again one bond each year, no additional work would be required.
Wouldn't he need some expertise to determine which individual munis to buy and which to avoid? If I were to buy individual bonds, I'd be more comfortable buying treasury bonds and TIPS. I'd gladly pay the expense ratio to have a fund manager select the muni bonds but my portfolio is much smaller so the value of expense ratio isn't that big.

CA Intermediate term Tax exempt er=0.12%. A $5 million position in this fund is around $6,000/yr in expense ratio. How much would a bond default cost if you owned 5-10 bonds?
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Re: Help me grow a huge windfall for charity

Post by letsgobobby »

a disclaimer: I've never been in a position where buying individual bonds has made sense, so this is just based on what I read. From Swedroe's book about bonds, it seems he suggested that someone with a $500k-$1M portfolio could build their own ladder. Risks are higher with munis and in particular with CA, which I guess is the second lowest-rated state. But it seems that $5M should be able to build you a diversified enough ladder to perhaps make it worth saving $6k per year but more importantly having control over what you own.
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Re: Help me grow a huge windfall for charity

Post by exeunt »

If you want to give money to charity, about as much (or maybe more) work should be done to identify the highest-returning ones. Some charitable interventions may have far higher social returns than you could get in the highly efficient capital markets, so it would make sense to donate now than later. The best charity assessor, I believe, is GiveWell.
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Re: Help me grow a huge windfall for charity

Post by windfall900 »

dragon wrote:
Does it make sense to pay off the mortgage? On the one hand, the interest rate is very low -- the mortgage tax deduction puts it in the mid 1% percent -- and I could likely beat that in the market. On the other hand, this is effectively equivalent to investing on margin as I understand it, and my portfolio size qualifies me for 1% margin loans that are themselves deductible [via the interest income deduction].
I would keep the mortgage. The effective interest rate is so low that your investments will probably beat it.

There are at least 3 advantages of the mortgage vs. a margin loan: (1) as you mentioned, mortgage rate is fixed for 5 years while margin rate might increase at any time; (2) if you take out a very large margin loan, in the event of a severe drop in the stock market, you might be forced to sell at the absolute worst time due to a margin call; and (3) margin interest is not entirely tax deductible since you own tax-exempt bonds. Roughly 75% of your margin interest would be tax-deductible since 75% of your investments are taxable while 25% are tax-exempt.
Re #1: Aren't interest rates set to remain low for years to come? Given that I don't *need* the mortgage, aren't I potentially better off just riding the low margin rates now, and I can always pay off as needed if rates rise?

Re: #2, is this really an issue if I were only taking out a $1.1M margin loan (same as my current mortgage) and I had the funds to pay off the loan at any time?

Re: #3, wouldn't I just get around this by spending the entirety of the $1.1M margin loan on the taxable portion of my investment portfolio?
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Re: Help me grow a huge windfall for charity

Post by windfall900 »

dragon wrote:
Is it dumb to hold REIT if I have to hold the bulk of it in taxable? I'm never sure where it makes sense to let the tax tail wag the dog, but surely there are more tax-efficient ways to add risk and diversity to my portfolio (which is my intent in holding REIT)?
You should investigate the possibility of holding REITs in a Vanguard Variable Annuity. Your situation is one of the few where a variable annuity actually might make sense.
Would you mind shedding more light on why this could make sense? It's the first I've heard of this option. I just spent a bunch of time investigating, and though intriguing, here's what gives me pause: "You should also be aware that any earnings you withdraw from your annuity will be taxed as ordinary income rather than as capital gains."

Do the benefits of tax deferral outweigh the additional cost of converting the potential long-term capital gains of REITs into ordinary income, not to mention the additional expense ratio of an annuity?
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Re: Help me grow a huge windfall for charity

Post by letsgobobby »

windfall900 wrote:
dragon wrote:
Is it dumb to hold REIT if I have to hold the bulk of it in taxable? I'm never sure where it makes sense to let the tax tail wag the dog, but surely there are more tax-efficient ways to add risk and diversity to my portfolio (which is my intent in holding REIT)?
You should investigate the possibility of holding REITs in a Vanguard Variable Annuity. Your situation is one of the few where a variable annuity actually might make sense.
Would you mind shedding more light on why this could make sense? It's the first I've heard of this option. I just spent a bunch of time investigating, and though intriguing, here's what gives me pause: "You should also be aware that any earnings you withdraw from your annuity will be taxed as ordinary income rather than as capital gains."

Do the benefits of tax deferral outweigh the additional cost of converting the potential long-term capital gains of REITs into ordinary income, not to mention the additional expense ratio of an annuity?
potentially, given the right assumptions about growth, tax rates, and time. Excel can do this for you.
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Re: Help me grow a huge windfall for charity

Post by zaboomafoozarg »

If institutional shares are only 10% of the portfolio... that's at least $50 million. :shock:
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Re: Help me grow a huge windfall for charity

Post by RenoJay »

Hi. Congrats on the windfall. To be honest, I only quickly skimmed the original post and the responses so I apologize if anything is redundant or not what you're interested in, but a few thoughts:

1. I agree with those suggesting a charitable endowment. I can understand not wanting to put in 80% - 90% in four weeks, but keep in mind, it's not out of the realm of political possibility that deductions, including charitable, could be capped at quite a low level in future years. So if you're sure a large portion will go to charity eventually, I'd at least set up the account ASAP because there's usually a few days lead time on transferring the assets into a donor advised fund after you request it, especially around holidays. Given that this seems to be the year you made the big $$$, and that you may not get to deduct the donation later, this would be a good time to think seriously about at least putting in a large amount.

2. Have you considered moving to Nevada? I moved here in 2005 when California raised the state income tax on high incomes from 9.3% to 10.3%. Recently, they raised it up to 13.3%. I'm not sure what kind of income your portfolio is kicking off, but keeping an additional 10% of it each year can make a huge difference over time. If you visit Incline Village, it's like 50% ex-California entrepreneurs and 50% ski bums.

3. For what it's worth, I don't believe that the asset allocation should be different for huge portfolios vs. smaller ones. If you can get a slightly better expense ratio for the same thing, go for it, but I know lots of people who got rich then started investing in exotic stuff and it seems that they do it more to have something to discuss at parties than for any real wealth-building advantage.
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Re: Help me grow a huge windfall for charity

Post by Easy Rhino »

Congratulations on winning the ipo lottery :beer

Moreover, congratulations on "winning" at retirement planning, it sounds like as long as you don't screw anything up, you're going to be set for your own needs. :sharebeer

I really like the idea of throwing a chunk of money at charity this *year*, (yes, for tax purposes). unfortunately, I'm ignorant on that subject and will defer to others.

Let's talk about whatever money is left *in your name. *

Also, it seems like you yourself are a little bit uncertain about risk, taking too much vs too little. Since you've already won the retirement game, this is a very personal decision. Do you want to play the lottery twice and hope for an even larger windfall for charity or your estate? If so, go stock-heavy. Do want to take it easy and ensure that you have at least something decent to donate at the end? Go more conservative. Discussions about small cap allocations and paying down the mortgage are just trimming around the edges. Decide on what your goal is first.

The only thing I wouldn't do is go go aggressive into margin loans, a bad stumble could wipe out huge portions of your portfolio (this would be the "don't screw it up" admonisment above). Maybe a smaller one used to pay down the mortgage, and then set up payments (perhaps from bond/reit income) to the margin loan itself gradually pays off in 5-10 years.

I think stocks in your portfolio would be useful because you could sporadically gift the appreciated shares to charity (I don't know if any tax laws may change on that?), and also, they generally will get a stepped up basis upon death for any future potential heirs.

I wouldn't go long-term on any bonds or bond fund. Too risky. A bond ladder might make sense, but again, I'm not expert on that.

your international stocks are about 26% of your stocks. That's acceptable. You could go higher too (international is over 50% of global market cap). Or not, it's a fairly personal decision and any choice is reasonably efficient. If you do go higher, take it from US stocks.

REITS in taxable don't make any sense. In a tax-deferred account (or even an annuity) then they'd be okay if you want some exposure to real estate beyond your home. Again, a fairly personal decision.

Oh, and don't forget to buy $10k of I-bonds and $10k of EE bonds this year, to increase your tax-deferred holdings. :)
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Re: Help me grow a huge windfall for charity

Post by windfall900 »

Thanks so much for your feedback, Rhino. I have started a new thread here with a (hopefully) improved portfolio based on feedback offered in this thread. Would you mind checking it out?
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Re: Help me grow a huge windfall for charity

Post by windfall900 »

Easy Rhino wrote:Oh, and don't forget to buy $10k of I-bonds and $10k of EE bonds this year, to increase your tax-deferred holdings. :)
As long as I'm here, though...could you clarify the value of buying these types of bonds over holding tax-exempt state munis?
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Re: Help me grow a huge windfall for charity

Post by letsgobobby »

I think rhino is being facetious, since $20k of I and EE bonds is something like 0.02% of your portfolio.
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Re: Help me grow a huge windfall for charity

Post by windfall900 »

letsgobobby wrote:I think rhino is being facetious, since $20k of I and EE bonds is something like 0.02% of your portfolio.
Ah. Well, if they are meaningful in terms of absolute return, I don't mind taking the ten minutes a year to purchase them. As I said in the original post, I really don't want to fall into the "rich person" trap of thinking that amounts which are small in the context of my own portfolio are small in the context of the world. I know of others who throw away thousands of dollars like it's nothing, which is disappointing because that money would be very useful to a lot of people.

That said, I'm not sure I'm understanding the value of I and EE bonds from my research tonight. They don't seem to yield anything.
letsgobobby
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Re: Help me grow a huge windfall for charity

Post by letsgobobby »

I bonds guarantee real purchasing power. That is worth something. But I really think there are better things you could do with your time. I have better things I could do with my time, and my time is worth a fraction of yours, although I did just buy I bonds this year for only the second time.

EE bonds are guaranteed to double in 20 years, which is about 3.5%, pretty good these days. Of course you have inflation risk.
jhd
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Re: Help me grow a huge windfall for charity

Post by jhd »

windfall900 wrote: I've seen this type of attitude a lot on the board (I'm a lurker) and I'm sort of surprised by it. Is there a certain point of wealth at which Boglehead philosophies no longer hold true and you should get into exotic alternative investments, or something? My world didn't suddenly become a whirlwind of hedge funds and Cayman trusts when I collected my windfall, and I would hope that all of the sound advice given on this board is applicable to everyone.
Some new investment opportunities do open up for really large portfolios. Many of these aren't worth considering for someone who follows the Boglehead approach, like hedge funds. But others may be. Two examples:

Real estate. Good real estate investments make double-digit returns on an asset class that is transparent, uncorrelated with stocks and bonds, and at least somewhat predictable. High-net-worth folks have traditionally made real estate a bigger part of their portfolios than the rest of us. There are probably a few reasons for this: it is illiquid, requires insider knowledge, and requires large amounts of money.

I can't afford a 30-unit apartment building on my own, but I have invested in a couple of private real estate partnerships with developers who I know personally and have good track records. They produce about an 8% cash return (generally tax free), plus loan amortization. Appreciation is a bonus if it happens.

Private equity. A terrible investment for most people, because the returns are concentrated in a tiny number of top-tier firms that are generally closed to new investors. But if your windfall came from a venture-backed startup, you might have an inside track. Some VCs allow their founders or key execs to invest in their funds. (Full disclosure: I've done this with a small amount of my portfolio. We'll see how it goes.)

Of course, there are costs to these sorts of investments, like complexity and illiquidity...
dragon
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Re: Help me grow a huge windfall for charity

Post by dragon »

windfall900 wrote:
dragon wrote:
Does it make sense to pay off the mortgage? On the one hand, the interest rate is very low -- the mortgage tax deduction puts it in the mid 1% percent -- and I could likely beat that in the market. On the other hand, this is effectively equivalent to investing on margin as I understand it, and my portfolio size qualifies me for 1% margin loans that are themselves deductible [via the interest income deduction].
I would keep the mortgage. The effective interest rate is so low that your investments will probably beat it.

There are at least 3 advantages of the mortgage vs. a margin loan: (1) as you mentioned, mortgage rate is fixed for 5 years while margin rate might increase at any time; (2) if you take out a very large margin loan, in the event of a severe drop in the stock market, you might be forced to sell at the absolute worst time due to a margin call; and (3) margin interest is not entirely tax deductible since you own tax-exempt bonds. Roughly 75% of your margin interest would be tax-deductible since 75% of your investments are taxable while 25% are tax-exempt.
Re #1: Aren't interest rates set to remain low for years to come? Given that I don't *need* the mortgage, aren't I potentially better off just riding the low margin rates now, and I can always pay off as needed if rates rise?

Re: #2, is this really an issue if I were only taking out a $1.1M margin loan (same as my current mortgage) and I had the funds to pay off the loan at any time?

Re: #3, wouldn't I just get around this by spending the entirety of the $1.1M margin loan on the taxable portion of my investment portfolio?
#1 - Yes, you are potentially better off with the margin loan. Frankly, if I were in your position, I would both keep the mortgage and also take out an additional margin loan (but keep it small relative to your portfolio size). The main point is that your investments will probably outperform the mortgage on a tax-adjusted basis, so why pay off the mortgage now? Even if you get unlucky and your investments underperform the mortgage interest rate, it won't have a devastating effect on you, so it's a risk you can easily afford to take. And you should take it, because the odds are strongly in your favor.

#2 - No, it is not really an issue if your margin loan is small relative to your portfolio size.

#3 - No, sadly, that is not how the tax laws work. Please refer to MarkNYC's excellent comments in this thread: http://www.bogleheads.org/forum/viewtopic.php?t=57182
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