Portfolio Advice for Upcoming Life Events

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Portfolio Advice for Upcoming Life Events

Postby UMHockeyFan » Mon Mar 04, 2013 12:59 am

Hi Bogleheads! I’m a believer in the three-fund portfolio and re-balance annually when I do my taxes and make my Roth IRA contributions. There are a few life events that have happened or will be happening in the near future, so I wanted to check in and get your thoughts on what I should do before I make any moves this year. Here is the current situation:

Emergency funds: 3-4 months of expenses
Debt: $348k
  • His student loans: $27.7k@8.25%, $43.5k@7.65%, $41.3k@6.55%
  • Mortgage (former residence, now rental): $148k@6.125% fixed
  • Car Loan: $7.4k @ 4.95%
  • Her student loans: $80.1k@2.625%
Tax Filing Status: Married Filing Jointly
Tax Rate: 28% Federal, 9.3% State
State of Residence: CA
Age: Both 31
Desired Asset allocation: 70% stocks / 30% bonds
Desired International allocation: 20% of stocks

Current retirement assets
Taxable
6% DTE Energy (DTE)
2% Occidental Petroleum (OXY)
(Gifts to us from her family that are non-negotiable. I include here as it impacts how I distribute my other funds, but these investments will remain where they are for the foreseeable future.)

His 401(k) at Fidelity
9% Spartan® 500 Index Fund (FUSEX) (0.10%) Company 50% match up to 6% of income

His ESOP at Fidelity
11% Spartan® 500 Index Fund (FUSEX) (0.10%)

Her 401(a) (UC DCP) at Fidelity
4% Spartan® Total Market Index Fund (FSKTX) (0.07%)

His Rollover IRA at Vanguard
12% Vanguard Total International Stock Index Fund Admiral (VTIAX) (0.18%)
26% Vanguard Total Stock Market Index Fund Admiral (VTSAX) (0.06%)

His Roth IRA at Vanguard
14% Vanguard Intermediate-Term Bond Index Fund Admiral (VBILX) (0.11%)

Her Roth IRA at Vanguard
10% Vanguard Intermediate-Term Bond Index Fund Admiral (VBILX) (0.11%)
6% Vanguard Total Stock Market Index Fund Admiral (VTSAX) (0.06%)

Annual Contributions
$10k His 401(k) (including match)
$5.5k His Roth IRA
$5.5k Her Roth IRA
$7k Her 401(a)

Available funds
Other Funds available in his 401(k) and ESOP
Vanguard Target Retirement funds (0.16-0.18% exp ratio)
Fidelity® Strategic Income Fund (FSICX, 0.70%)
PIMCO Total Return Fund (PTRAX, 0.71%)
Multiple managed mutual funds with exp ratios >1%

Other Funds available in her 401(a)
183 options available (Investment option list: http://map.ais.ucla.edu/go/1002217)

General strategy:
My strategy has been to fund my 401(k) up to employer match, max out both of our Roth IRA contributions, and then pay down the principle of the student loan with the highest interest rate as aggressively as possible.

I’ve set 100% of my 401(k) and ESOP contributions to FUSEX because it is the only fund available to me with a competitive expense ratio. I use the funds available in the other accounts to achieve my desired mix while minimizing expense as much as possible.

Important life changes/events:
  • We moved from NC to CA in mid-2011 and were not able to sell our home in NC. We converted the property to a rental and it has been occupied the entire time since we moved. We currently have a net loss of ~$220/month (Rent Income-Mgt Fees-Mortgage-Insurance-Taxes-HOA).
  • We are expecting our first child, due in September this year.
  • My employer was purchased by a larger company and I will be receiving a lump sum retention bonus worth about an additional year’s salary late this year. I have been offered a job with the acquiring company, so I will be employed with a slightly higher salary moving forward.
  • My wife is a physician and will be completing her MFM fellowship in July 2014. She will become an attending physician at an academic medical center and will have a substantial salary increase.

Questions:
1. General question: do you agree with my general strategy, or should I consider different priorities/investment choices?

2. What should I do with our rental property? Our current tenant has a lease that expires in August. I am tempted to hold on to it for another year or two in hopes of selling in a better market, but might consider putting it on the market this summer so we can sell it after the current lease expires.

3. I plan to use the severance/retention lump sum payment to pay off my student loans. I am not going to touch her student loans because the interest rate is so low, I don’t think it makes sense to those off early. Should I consider a different use for that money? Also, what action, if any, should I take to address any tax concerns from this one-off additional income?

4. Are there any special considerations or changes I need to make to prepare for the change in my wife’s employment situation and our growing family :happy ?

Sorry for the verbose post and thanks in advance for your advice!
UMHockeyFan
 
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Re: Portfolio Advice for Upcoming Life Events

Postby Bob's not my name » Mon Mar 04, 2013 6:57 am

I believe the extra $110,000 of income may put you in the 33% bracket or the AMT, in the ATRA personal exemption phaseout, in the ATRA itemized deduction phaseout, in the ACA 3.8% investment tax zone, and in the ACA 0.9% payroll tax zone. Your total marginal rate will be close to 50%. At that rate, I don't think prioritizing post-tax (Roth) contributions makes sense even if you will be high earners starting in 2015. I would use your pre-tax plans to get your AGI under $300,000 to avoid the ATRA phaseouts at least.
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Re: Portfolio Advice for Upcoming Life Events

Postby nydad » Mon Mar 04, 2013 2:30 pm

A few scattered thoughts:
1) When you say "non-negotiable" does that mean, you can accept these gifts of stock, but you aren't allowed to sell the stock?
If that is the case, then plug your numbers into the morningstar xray. It looks like you're trying for a total stock market approach, but may be drifting due to 8% in two large-cap stocks + a few allocations to S&P 500. If that is the case, you may want to balance it with an allocation to a small blend fund or extended market fund, so that you get back to the total stock market you're trying to emulate. If you play with different allocations you can find the right amount to add of say VEXMX to approximate total stock market as a whole (leave the international out of your calculations, just plug in domestic numbers, and compare to just TSM.)
2) Consider opening a 529 at some point in the future; and ask the generous grandparents to put some money there as well for the little one :)
3) Also agree with plan to get rid of the debt - and try to not take on any more!
4) may want to build up emergency fund a little + if your wife goes back to work, you will have childcare expenses + many other thing you will want to buy, so stock some more cash aside for that and assume higher expenses once the little one is born.
5) If you're taking a loss on the rental property and it's halfway around the country, I'd cut your losses and sell. Timing a RE market is impossible, and it could just as well stay flat. And your mortgage is expensive.
6) To reduce taxes, see if you have any harvestable losses on those stock shares. And, max out 401k for both of you - that will reduce your income further.
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Re: Portfolio Advice for Upcoming Life Events

Postby UMHockeyFan » Tue Mar 05, 2013 2:02 am

Not Bob and NYDad: I did not realize the significant tax implications of AGI >$300K in terms of the ATRA deduction phase-outs and will re-prioritize to increase my 401(k) contributions to the limit to ensure I don't exceed that AGI threshold. The Bogleheads wiki article on ATRA was very clear, but I was very confused by the wiki entry for ACA. I did not understand the tables on that page. Will keeping AGI below $300k be enough to avoid ACA tax implications, or do I need to consider more? Do you have any suggestions on additional material to help clarify that topic?

NYDad, addressing your thoughts:
1) You are correct. We are given a check made out specifically for DTE stock every year from my wife's grandparents. I am very grateful for their generosity and I'm happy to put the money where they wish. I mentioned the possibility of moving some of that money to other investments once and the suggestion elicited a very emotional response. So, the money will stay there for the near term, at least. Thank you for the link to the X-Ray tool, I will look to re-balance to more closely reflect the total market using that tool.
2)529 is definitely on the list, thanks!
3)Agreed!
4)Emergency fund vs. Maximizing debt payments: I struggle with this one and would like to hear more from you and/or others. My student loans carry high interest rates and I feel compelled to pay them down as quickly as possible. Do you think it is worth building up emergency funds, which earn 1% return if I'm lucky, beyond 4 months when I have such expensive debt? I have a fairly significant amount of principle on our Roth IRA funds that could extend emergency funds penalty-free in a true emergency (I know, far from ideal, but not the end of the world) and my wife's income will be significantly higher in one year, so I felt the risk of 4 months emergency in the short term is worth taking. Am I being foolish? I do hear you on the expenses for the baby and will be using a portion of my retention bonus towards baby-related expenses for sure.
5)I hadn't thought of it this way. I wouldn't try to time the stock market, so why would I try to time the real estate market? Follow up question: if I can get my existing tennants to agree to an increase in rent to make it a true break-even proposition, does that change your advice?
6)Addressed 401(k) earlier, but most of these stocks were purchased in the 80s, no losses to be harvested, unfortunately.

One more question: I saw the video on tax efficiency and noticed I should move my bonds to 401k/401a accounts and have my US equity in my Roth IRA as I expect higher returns and would pay no future taxes on the (hopefully) higher returns. Any disadvantage to moving all my bonds to the tax advantaged accounts and having only equity in my tax free accounts?

Thanks Again!
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Re: Portfolio Advice for Upcoming Life Events

Postby nydad » Tue Mar 05, 2013 3:09 am

1) You are correct. We are given a check made out specifically for DTE stock every year from my wife's grandparents. I am very grateful for their generosity and I'm happy to put the money where they wish. I mentioned the possibility of moving some of that money to other investments once and the suggestion elicited a very emotional response. So, the money will stay there for the near term, at least. Thank you for the link to the X-Ray tool, I will look to re-balance to more closely reflect the total market using that tool.

Perhaps you could buy them the bogleheads guide to investing as a gift, and discuss with them over time - explain that you are so grateful for their generosity, but that you are fearful of the risk of putting so many eggs in one basket, and that you have a plan to invest responsibly and conservatively for your family's future, and experts you trust have recommended index funds. Don't rush this, just see if you can open a dialogue about investing styles. Otherwise, I guess you can treat it as a bit of a gamble - if all goes well it will soar, or it may one day crash - so perhaps discount its value in your mental model. Also I'm not sure if there is something that zigs when utilities zag... experts here may have other ideas on how to hedge this position. At some point, you could show them this http://quote.morningstar.com/fund/chart.aspx?t=VFINX&region=USA&culture=en-US&statePara=%7Bsecurities%3A%5B%7Bn%3A%22Vanguard%20500%20Index%20Inv%22%2Cids%3A%22FOUSA00FS1%7C0P00002SZH%7CCU%24%24%24%24%24USD%7C1%7C1%7CFO%7C1976-8-31%7C%7C%7Cfalse%7CUSA%7C18%22%7D%2C%7Bn%3A%22DTE%20Energy%20Holding%20Company%22%2Cids%3A%220P000001MG%7C0P000001MG%7CCU%24%24%24%24%24USD%7C1%7C1%7CST%7C%7C%7C%7Cfalse%7CUSA%7C3%22%7D%5D%2CchartType%3A%22GrowthChart%22%2Crange%3A%221978-3-31%7C2012-12-31%22%2Cperiod%3A10%2Cregion%3A%22USA%22%2Ctc%3A%22USD%22%2CisD%3A%220%22%2CisR%3A%220%22%2CrM%3A3%2Cscale%3A%221%22%2CbMenu%3A%22%22%2Csma%3A%220%2C0%2C0%22%7D - comparing S&P 500 vs DTE since 1976 (hint: S&P wins). Now, if they were gifting you shares of Berkshire Hathaway, this might be a different conversation - that crushed S&P :) Or, just don't press it, count your blessings, and move on...

4)Emergency fund vs. Maximizing debt payments: I struggle with this one and would like to hear more from you and/or others. My student loans carry high interest rates and I feel compelled to pay them down as quickly as possible. Do you think it is worth building up emergency funds, which earn 1% return if I'm lucky, beyond 4 months when I have such expensive debt? I have a fairly significant amount of principle on our Roth IRA funds that could extend emergency funds penalty-free in a true emergency (I know, far from ideal, but not the end of the world) and my wife's income will be significantly higher in one year, so I felt the risk of 4 months emergency in the short term is worth taking. Am I being foolish? I do hear you on the expenses for the baby and will be using a portion of my retention bonus towards baby-related expenses for sure.

No, this makes sense. There are always tradeoffs, you're trying to optimize for an uncertain future. Do the math and then follow your gut.

Just look at this though:
We are expecting our first child...
I will be receiving a lump sum retention bonus worth about an additional year’s salary late this year...
I will be employed with a slightly higher salary moving forward....
She will become an attending physician at an academic medical center and will have a substantial salary increase...

Notice that these are all future-looking statements. It may all come to pass as you have predicted, or, the vagaries of life could get in the way... I'll give you an example - a the wife of a colleague of mine went to a top law school, had the best internships, and got a great job with a high salary at a top law firm. The problem is, she didn't like her job...

It reminds me of an old joke:

"Do you know how to make God laugh?"

"Show him your plans"...

5)I hadn't thought of it this way. I wouldn't try to time the stock market, so why would I try to time the real estate market? Follow up question: if I can get my existing tenants to agree to an increase in rent to make it a true break-even proposition, does that change your advice?

Hmm. I guess the question is, do you want to be a landlord, for a house halfway across the country? Do you see yourself moving back there someday? Is there a reason to keep this house (and mortgage)? what happens if major repairs are needed, or a storm damages the house, etc? I'd get advice from others here, I don't manage rental properties, but my wife has one in Europe, and it's rather a pain to manage from the US. With two working parents, and a baby, just seems like a lot of load, in order to ... break even... The equity in that house could perhaps serve as a downpayment on a new house for your growing family.

OTOH, my wife's mother is an old school property investor. Her feeling is, you buy property with cash, and then never ever sell it. Different people feel differently about property...

One more question: I saw the video on tax efficiency and noticed I should move my bonds to 401k/401a accounts and have my US equity in my Roth IRA as I expect higher returns and would pay no future taxes on the (hopefully) higher returns. Any disadvantage to moving all my bonds to the tax advantaged accounts and having only equity in my tax free accounts?

Read up about tax-adjusted asset allocation. Several big threads and debate on this subject. Some claim it doesn't make a difference, others claim it does. At the end of the day, I think it comes down to whether you do tax-adjusted asset allocation or not; also what is available in your 401k matters - it seems you've optimized on the 500 fund since others are more expensive, so putting bonds in your roth seems reasonable, or if you want Roth for stocks, put the bonds in your rollover IRA. FWIW, I have both - stocks and bonds - in Roth and 401k.

Net net you seem very thoughtful, you have one of the cleanest pseudo-3-fund portfolios around (seems much improved from your original post in 2008!), you're asking questions which don't have easy or certain answers, and you're not likely to fall into a pit either way in any case. Just make the decisions that seem right to you, and that you can stick with.
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Re: Portfolio Advice for Upcoming Life Events

Postby Bob's not my name » Tue Mar 05, 2013 5:11 am

UMHockeyFan wrote:I was very confused by the wiki entry for ACA. I did not understand the tables on that page. Will keeping AGI below $300k be enough to avoid ACA tax implications, or do I need to consider more? Do you have any suggestions on additional material to help clarify that topic?
Avoiding the 0.9% ACA tax on wages is hopeless because it's not based on AGI. The only ways to reduce your wages are FSA/HSA conributions. The 3.8% ACA tax on investment income applies if your AGI is over $250,000 and if you have taxable investment income. Here's an article: http://thefinancebuff.com/how-much-will ... rners.html and Part 2: http://thefinancebuff.com/how-much-will ... ilies.html
UMHockeyFan wrote:One more question: I saw the video on tax efficiency and noticed I should move my bonds to 401k/401a accounts and have my US equity in my Roth IRA as I expect higher returns and would pay no future taxes on the (hopefully) higher returns.
This is nonsense. Here's an article: http://thefinancebuff.com/stocks-or-bonds-in-roth.html
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Re: Portfolio Advice for Upcoming Life Events

Postby UMHockeyFan » Tue Mar 05, 2013 8:21 pm

Not Bob: Thank you for the links. They were very helpful. I do view my Roth IRA as a backup to my cash emergency fund and agree it makes sense to use bonds for that purpose, so I will keep the Roth IRA funds in VBILX. I have an HSA/HDHP for my health insurance and will max out my contributions.

NYDad: Thanks again. Agreed, you never know what the future may hold! I think you've convinced me to sell the rental property. I've been leaning that way recently, especially with the baby on the way, and it might be nice to have one less thing to be concerned with.
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Re: Portfolio Advice for Upcoming Life Events

Postby UMHockeyFan » Tue Mar 12, 2013 4:59 pm

Thanks again for your advice! Here is what I plan to do, any additional comments?

1) Attempt to sell the rental property
2) Increase my 401(k) and my wife's 403(b)/457(b) contributions to ensure our AGI is below $300K this year
3) Max out my HSA contribution
4) Re- balance the current investments as follows:

Taxable (DRIPs)
5% DTE Energy (DTE)
1% Occidental Petroleum (OXY)

His 401(k) and ESOP at Fidelity
21% Spartan® 500 Index Fund (FUSEX) (0.10%) Company 50% match up to 6% of income

Her 401(a) (UC DCP) at Fidelity
2% Spartan® 500 Index Fund - Institutional (FXSIX) (0.03%)
2% Spartan® Small Cap Index Fund (FSSVX) (0.30%)

His Rollover IRA at Vanguard
14% Vanguard Total International Stock Index Fund Admiral (VTIAX) (0.18%)
24% Vanguard Total Stock Market Index Fund Admiral (VTSAX) (0.06%)

His and Her Roth IRAs at Vanguard
31% Vanguard Intermediate-Term Bond Index Fund Admiral (VBILX) (0.11%)
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Re: Portfolio Advice for Upcoming Life Events

Postby frequentT » Tue Mar 12, 2013 5:57 pm

Hockey Fan:

Overall, you two are doing a very good job with finances. I have spent significant parts of my corp. career in both NC and CA so I will give you some different ideas. I still own a house in Raleigh as a rental. (no mortgage). It has always been my emergency shelter if a corp. job blew up. Always knew I would have shelter, have not had to use yet :-)

Agree: payoff your student loan, keep your wife''s until, inflation makes the real interest rate zero, then smile every time you make a payment

Rental property: lots of options to think about, negative cash flow is a bummer; you probably will not be able to deduct passive losses? will rental market rates rise soon enough to get you to neutral? have you thought about offering a lease purchase agreement when your current renter leaves? Could be attractive to a buyer with property values starting to rise; it could get you to neutral cash flow----time for some spreadsheet work to project the future of the property, breakeven pts. under different scenarios

Investigate & budget term life insurance for both of you; can use term from work for part of your needs, but be sure to get private policies also because you don't want your family security dependent on corp world if health status changes

+++ on increase of emergency reserves

when you start accumulating taxable investments, you can put some of your bond allocation in individual CA GO's, start learning CA muni bond mkt; don't let the fear mongers scare you off. Some issuers are definitely to be avoided! Taxes are hell in the Golden State, particularly with your future income prospects.
Zero coupon CA bonds can be useful tools for college education timing and other predictable events

Good luck!
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Re: Portfolio Advice for Upcoming Life Events

Postby UMHockeyFan » Wed Mar 13, 2013 6:51 pm

Thanks for the info, frequentT!

frequentT wrote:Rental property: lots of options to think about, negative cash flow is a bummer; you probably will not be able to deduct passive losses? will rental market rates rise soon enough to get you to neutral? have you thought about offering a lease purchase agreement when your current renter leaves? Could be attractive to a buyer with property values starting to rise; it could get you to neutral cash flow----time for some spreadsheet work to project the future of the property, breakeven pts. under different scenarios

Correct, passive loss deduction was completely phased out for our 2012 taxes and our income should be higher 2013 and beyond. At least I can carry forward the losses to reduce any gain we may get when we sell. The rental market in Durham is good, but I highly doubt we could increase rent enough to break even in the next 2-3 years. As for lease to own, everything I've read sounds like it favors the renter and not the owner. A lease with the renter holding an option to buy doesn't sound that attractive to me. They will take the option if they can get a mortgage and if the value of the home is as good or better than the option price and walk away otherwise. Why would I do that? Am I missing something?

frequentT wrote:Investigate & budget term life insurance for both of you; can use term from work for part of your needs, but be sure to get private policies also because you don't want your family security dependent on corp world if health status changes

Good idea. I will look into that.

frequentT wrote:when you start accumulating taxable investments, you can put some of your bond allocation in individual CA GO's, start learning CA muni bond mkt; don't let the fear mongers scare you off. Some issuers are definitely to be avoided! Taxes are hell in the Golden State, particularly with your future income prospects.
Zero coupon CA bonds can be useful tools for college education timing and other predictable events

Hadn't thought of that, will keep it in mind. 8-)
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Re: Portfolio Advice for Upcoming Life Events

Postby frequentT » Fri Mar 15, 2013 5:32 pm

Durham real estate: lease to own would make sense if you can get monthly lease payments close to breakeven on cash flow. It can be advantageous for the seller and buyer if both get what they need. The contract terms have to satisfy both. If you have renter/buyer who does not have the down payment and you allow some or all of the rent to apply to a down payment it could be attractive. For you its getting to breakeven, while prices are rising.Then you complete the sell in 24-36 mos. w/o broker commissions. The buyer gets to lock in the price, build equity, and build credit record. Of course you will have attorneys fees.

Or as you say make the sale asap and remove any worries.......
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