Another 4% question

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cliff
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Another 4% question

Post by cliff » Wed Mar 25, 2015 9:36 am

Assume I would like to follow the 4% rule. I have a mortgage. Should the principal count as retirement spending? I would argue no. That in essence you are exchanging one asset type for another - cash, stock, bond or whatever for real estate? Same question but for a second home. Again I would argue that any interest payments count as part of the 4% but not principal. Opinions?

Professor Emeritus
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Re: Another 4% question

Post by Professor Emeritus » Wed Mar 25, 2015 9:59 am

Truthfully I cannot understand your question. are you retired? etc

forget any connection between the house and the loan. you own the house its an asset it gives you imputed income in the form of housing. you are paying back the loan. a loan is a portfolio liability which is subtracted for net worth analysis. Are you doing a cash flow or a net worth analysis? The 4% rule is designed for portfolios asset analysis not net worth or overall cash flow analysis

Eg you own a 500 K house and a 600 k portfolo and have a 200 k loan.
your net worth is 900 K but since 500 k is in house you are over housed or house poor.

Your cash flow analysis depends on the interest rate.

FRANK2009
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Re: Another 4% question

Post by FRANK2009 » Wed Mar 25, 2015 10:10 am

I'm also not too clear about your question. You may be over thinking the 4% guideline. My understanding is in its simplest form, you withdraw 4% of your portfolio for the year. You may add an inflation number every year to help with theoretically increased expenses due to inflation. Mortgages are an expense that still needs to come from the 4% (assuming no other income sources, a pension for example), just like when you are working.

Gropes & Ray
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Re: Another 4% question

Post by Gropes & Ray » Wed Mar 25, 2015 10:18 am

Do you consider home equity part of your retirement portfolio? Would you sell your home or take a reverse mortgage in order to pay your living expenses? If both answers are yes, then it may make sense to not count the amount you withdraw to repay your mortgage principal as part of your 4% withdrawal. Just be prepared to begin liquidating real estate when the time comes, realizing you will lose some value to transaction costs.

For those who didn't understand the question, I think OP wants to withdraw 4% for living expenses, and on top of the 4% he wants to withdraw an amount equal to his principal repayments on his mortgage. So if he repays $10,000 in principal this year, he would withdraw 4%+$10,000 from his retirement accounts.
Last edited by Gropes & Ray on Wed Mar 25, 2015 11:44 am, edited 1 time in total.

Gill
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Re: Another 4% question

Post by Gill » Wed Mar 25, 2015 10:23 am

I agree with the OP that paying principal on a mortgage is not an expense, but rather is exchanging assets.
Gill

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Sbashore
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Re: Another 4% question

Post by Sbashore » Wed Mar 25, 2015 10:33 am

Gropes & Ray wrote:Do you consider home equity part of your retirement portfolio? Would you sell your home or take a reverse mortgage in order to pay your living expenses? If both answers are yes, then it may make sense not count the amount you withdraw to repay your mortgage principal as part of your 4% withdrawal. Just be prepared to begin liquidating real estate when the time comes, realizing you will lose some value to transaction costs.

For those who didn't understand the question, I think OP wants to withdraw 4% for living expenses, and on top of the 4% he wants to withdraw an amount equal to his principal repayments on his mortgage. So if he repays $10,000 in principal this year, he would withdraw 4%+$10,000 from his retirement accounts.


That's what I got too and I agree that OP should be prepared to liquidate real estate to provide income. I'm retired and make payments to principal on two different properties, but I count the payments as part of the distribution. It's just simpler that way. I do a lot of projections and adding the variable of trying to decide when I'll have to move as part of my distribution plan would just be too complicated.
Steve | Semper Fi

randomguy
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Re: Another 4% question

Post by randomguy » Wed Mar 25, 2015 10:55 am

Gill wrote:I agree with the OP that paying principal on a mortgage is not an expense, but rather is exchanging assets.
Gill


The question then is does that asset count in the 4% rule? If you are willing to take out a reverse mortgage, refinance, or take out a home equity loan, then sure you can count the house as an asset. If you are not willing/able to do that then the house isn't a really useful assets.

The other thing is the 4% rule is based on a portfolio of US stocks and bonds. It says nothing about a portfolio where you have a bunch of the assets in real estate. Estimating returns for a single house is very hard and very market specific.

jebmke
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Re: Another 4% question

Post by jebmke » Wed Mar 25, 2015 11:19 am

Does anyone actually follow this 4% (or X%) in practice? I know a lot of retirees and not one of them uses any mathematical guidelines for withdrawal (AKA spending).
When you discover that you are riding a dead horse, the best strategy is to dismount.

cliff
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Re: Another 4% question

Post by cliff » Wed Mar 25, 2015 11:49 am

Sorry the question wasn't clear....Yes, retired. I stay under 4% of portolio value at beginning of year and do not adjust for inflation. Consider 4% of cash/bonds/stocks as the max I can withdraw as a guideline. Was just curious as to opinions on exchanging assets and whether that should be counted in my 4%. To this point I have counted it for my primary home (principal and interest) but only interest on second home.

alex_686
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Re: Another 4% question

Post by alex_686 » Wed Mar 25, 2015 12:15 pm

I would say no. The 4% rule is about the amount of drawdown a portfolio can handle. In that sense, it is almost more about cash flow than anything else. Your monthly mortgage payment is a required monthly outflow.

I would change my mind and say yes if your plan was to finance your retirement by selling your home. For example, if your plan was to spend the first X years in your primary home and then move into a rental unit for the remaining Y years. Even then I would urge caution. Estimating the value of a home has a wide margin of error.

lack_ey
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Re: Another 4% question

Post by lack_ey » Wed Mar 25, 2015 12:34 pm

No.

I disagree with some of the exact reasonings given so far, though. Even if you're willing to sell the properties or otherwise tap the principal, the fact remains that 4% is a figure determined based on stock/bond portfolios (over 30 years) and real estate does not figure into it. That doesn't mean that real estate is not an asset and should be considered as a pure expense, but even liquidity aside, the behavior of returns and volatility of real estate is different from stock/bond allocations studied.

Ideally you would rerun the analysis while making some assumptions about the returns of real estate, which can vary widely based on a number of factors.

On the other hand, 4% of portfolio value (does this mean starting value, as usually assumed, or current value?) as a maximum, not inflation adjusted, is quite a different assumption than usually taken anyway, so you're getting far enough away from previous analysis that I don't see much point in following this kind of "rule" in the first place, even as a guideline.

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