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« Rent Versus Buy Decision: New Rule-of-Thumb? | Main | Free Money Finance March Money Madness, Sweet 16, Posts 5-8 »

March 16, 2011


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IMHO FMF you're a bit harsh with #1. You are in effect buying some insurance. If you buy it and die after 2 years you at least knew while you were alive you were guaranteed the income stream. With all of the others you will feel a bit uneasy. For example, what if you lose the part time job or interest rates drop sharply (like they have done recently) etc.
Also, having a goal of $1,000/month is problematic in that it doesn't account for inflation. 20 years from now it will be equivalent to $500/month.
I agree 100% with comment on reverse mortgages.

For #3, you could invest in dividend paying stocks that pay an average of 4% or higher and then not have to touch the principle or rely on an increase in stock price.

#1 $172k divided by $12k a year is around 17 years if you include 2% interests on the remainder. That puts you at 82. The average life expectency of a person at retirement of 65 is 18 years according to SS. Immediate annuity would give you 2 more years of the 20 but they are counting on you not claiming. Imediate annuities are sold for the scared and who are not sure of risk management.

#2See above money example for answer to #2

#3 no comment.

#4 Reverse mortage? I never liked unless it is a family member who is the underwriter

#5 no way.

#6 I will have to get close to that age to determine. What if I had a healt problem and need to stop working. Then you probably will need SS.

I actually do not like this list as I am afraid it will tempt some people to make unwise decisions. (Well, mostly the reverse mortgage option.) I would think of a reverse mortgage as an absolute last choice scenario, not something to generate revenue. (Not to mention, what retiree needs a 450,000 house??)

Regarding an annuity, I go back and forth on that one. I think I would prefer to keep my money and put it in a safe, interest-bearing vehicle. My mind may change as I get older though.

Seems like Option 1 isn't too bad, its guaranteed and if you are playing the odds by retiring at 62, it should work out. What if you live to be 105 and don't take the annuity?

Reverse mortgage is the way to go!

#1 & #5 are really the only good options. #3 is alright but I wouldn't risk my entire nest egg on the stock market as I might have a decade ago. I'd diversify my savings across a bunch off these options.

Are we to assume from example #1 that by investing $860,000 in an annuity that you could pull $60,000 annually? Throw in SS and you should have a pretty comfortable retirement. With all the volatility and uncertainty about the stock & bond markets I foresee annuities becoming more and more popular.

The value of any of these depend on your circumstances.

An annuity buys you security, but leave your heirs nothing (usually). The CDs cost more but leave your heirs the principal.

The reverse mortgage is not income but it allows you to access the equity in your home without selling it. If you need the money, and don't care who has how much when you die, then what's so bad about that?

How about finding a rental property that sells for $172k and rents out for just over $1k a month? Check Texas and the mid-West for deals...


#2 is the approach that was right for me. As was pointed out, the management costs are zero.

I have a ladder of CDs going out to 2019 yielding an average of 4.927%. The only problem has been that several banks were seized by the FDIC. I quickly received my principal and interest back but in the intervening years interest rates had dropped and new CDs were unattractive so I have had to put that money into low volatility, income, mutual funds.

I have a ladder of Muni Bonds going out to 2023 yielding an average of 4.934%.

Having the bulk of our money in CDs and Muni Bonds insulates us from the stress, worry, and anxiety of having our money in the stockmarket. It has enabled the two of us to live a very quiet, happy, serene, secure, and enjoyable retirement doing just what we please regardless of what's going on in the frantic & hectic working world around us. We also avoid the daily commute period like the plague.

One piece of advice I would give younger people is to pay particular attention to where you make your final retirement home regarding issues over which you have NO CONTROL. In other words, stay away from areas prone to Forest Fires, Floods, Tornadoes, Hurricanes, Tsunamis, Earthquakes etc. wherever possible.

As a structural engineer I can tell you that hillside and creekside homes with great views look very appealing on a nice day but in earthquake country particularly you are better off living in a single story, wood frame home that is built upon flat undisturbed land well away from creeks and rivers and underground springs and as far from the fault line as possible. The house framing also has to be securely anchored to the foundation. We lived through the 1989 Loma Prieta earthquake that was 6.9 on the Richter scale, killed 63 people and caused $11 Billion damage in current value. It was the largest one since we moved to California in 1960. Our only damage was 2 bottles of wine fell out of a cupboard and one table lamp fell over requiring a new lightshade. Homes in hilly areas bordering our valley fared far worse with many sliding off their foundations and having collapsed chimneys. I was working on the top floor of a 5 story building at the time and every file cabinet fell over and every bookcase unloaded its contents on the floor - the company learned its lesson from the experience and soon anchored them all.

You also don't want to retire in an idyllic setting in the woods miles away from the nearest town. It may look wonderful when you are both young, healthy and have full mobility but how about much later in life when you face great disruption when winter storms bring down trees, cause mud slides leaving you without electricity and other services for days and maybe trapped until road crews arrive, or in a dry year having your well go dry. The older you get the more you appreciate being very close to emergency services, city utilities, a shopping mall, and your healthcare service providers. Don't forget that if you live long enough there will also come a time when you have to give up your driver's license. I am speaking from experience about people that I know that didn't do their homework.

The more thought you give to your retirement the happier you will be. Learn from the mistakes of others.

Not exactly fair to compare #3 to the others as #3 has inflation protection built in. You can 'safely' (~95% success) draw 6-7% from a stock portfolio over 20 years if you're not trying to keep the principal/payments increasing with inflation. On the flip side, try to get an immediate annuity at 65 with 100% spouse beneficiary AND inflation protection and it quickly approaches a 4% yield, not the 6.9% shown.

#5 was written as miserably as possible. Think consulting for a better rate, tutoring kids that you might enjoy, etc.

I am all for a little diversification. So in regards to the annuity, I would be tempted to take it for a chunk (say 30-40%?) of my portfolio, and try to grow the rest with a blend of investments. I would like to bet that I would beat the actuarial tables in longevity!

My 2¢ :

Option #1 is the best. It requires the least amount of money up front has has virtually no risks. If you don't like the idea of 'losing' the money if you die early then you can get an annuity that will return at least the premium to beneficiaries.

Option #2 requires too much money. At least right now since interest rates are horribly low. If interest were higher this one would be more appealing. Plus its safer.

Option #3 requires a lot of money and has too much risk. If you really want to gamble your retirement in the stock market then I think you just need to review the past 3 years. Lots of senior citizens wished they hadn't done that recently after the Great Recession wiped out their retirement.

Option #4 is a last resort but feasible for someone in a pinch. If you have no other way then its one way to get yourself some money to live on. But I'd only do it if you are struggling to get by and are house rich.

Option 5,6 I don't really consider 'retirement' if you're still working.

I second Mike's example of real estate, though with $1,000 a month in rent on a $172,000 house, you'd be making significantly less than $1k a month after taxes, insurance, maintenance, and vacancy. But it can certainly be done! I recently bought a house (in Southern California!) for $112,000 and it rents for $1,100. I only put in about 25% of the purchase price and net around $400 a month (plus about $100/month of principal paydown). 2 more like it and I'd be comfortably at $1,000 a month even assuming much more maintenance and vacancy than I've experienced.

Rental properties have worked out very well for my father. They also have inflation built in since rents go up. But you have to work on them and as you get older it will be harder to manage rentals. Paying a property manager can work but thats extra cost and you still have to manage the property manager. Then you have to consider that properties deteriorate over time. So say you buy a house now at age 62 then live into your 90's, then that property has aged 30 years and will require major repairs over that time.

Still, rentals are a good option for some folks and like I said they have worked well for my dad.

One detail on option #1 the annuity. They are probably quoting the price for a single life annuity. Thats an annuity for just 1 person. However if you are married then you'll want to provide income for the entire life of both spouses which is called a joint life annuity. Joint life annuity covering both the man and wife will cost you a bit more. Also that annuity has no inflation adjustment which is something to keep in mind. A joint life annuity will probably run you closer to $200k. If you wanted a joint life annuity with inflation adjustment then that might run $225k to $250k.

I have heard too many horror stories about renters that turned out to be total slobs and that when they finally moved out the landlord was left with major damage that had to be fixed before the unit was rentable again. The biggest culprit seems to be leaking water problems that were habitual, never reported to the landlord, and in the worst cases required subflooring and sometimes even floor beams to be replaced Next in line is pet damage resulting in ruined drapes and all of the carpeting having to be removed and carted to the dump (even when you don't allow pets). Repainting and patching walls is a given in most cases. I have known people with 8 or 9 rentals and it finally drives them nuts, especially when they are retired and hoping to have a relaxing lifestyle. Also don't forget that when the rental has been fully depreciated and has probably increased significantly in value there will be a huge tax bite when you sell it.

Another potential problem is non-paying tenants. My ex-son-in-law is an eviction attorney and his office with 3 other attornies, grosses over $4M/year just processing evictions from homes, apartment complexes and the occasional business property. The landlord seldom gets the unpaid rent back but is happy to just get rid of the deadbeat tenant.

I think you instinctively know whether you are suited or not suited to be a landlord - I'm not!

I prefer interest from my CDs and Muni Bonds - it arrives in my investment accounts like clockwork every month and if you put the CDs in an IRA and the Muni Bonds in a taxable account your taxes will be minimized.

Old Limey,
Suited for landlordship or not, and problem tenants or not, rental property seems to be one of the most consistent paths to
true wealth from what I've seen. Sure there are hassles now and then, and obviously there will be costs associated with tenant turnover and with evictions. And it's not really a job for the thin-skinned. However, the cash flow well-planned real estate investments can generate is huge, with very little day to day management. The added benefits of real estate include the ability to borrow against them, to roll the proceeds from the sale of a property directly into another real estate investment through a 1031 exchange, the typical appreciation of rent rates, etc. And don't forget MUCH higher returns than CDs and bonds (again, assuming a well-planned investment). When you have enough rental cash flow, you can afford to pay a manager to take care of the day-to-day management and eliminate many of the problems people have with the idea of being a landlord.

@Jonathan: As you so rightly pointed out, rental property is a JOB not a free ride to wealth. It is hardly fair to compare the return from a job (managing a property) to that from an investment.

If you simply purchased the property and let it sit unoccupied, you would have an investment - and the return would not be as great as if you did the WORK to rent it out and maintain it.

Your point is well taken - In what was then considered a very normal housing market, real estate returns were greater than CDs or Muni Bonds. Between 1963 and 1977 our first home increased in value by a factor of 3.2 which is an APR of 7.5%. Between 1977 and 2008 our present home increased in value by a factor of 10.5 which is an APR of 8.15%. It was easy money. The question though is will those glory days return anytime soon. During that period the national budget was well under control, the national debt was very low, jobs were plentiful, particularly in defense & aerospace because of the cold war and the space race, and we had full employment and easy credit. America was manufacturing all kinds of "Stuff" in those days, now it's rare to see "Made in the USA". I also never heard the terms 'foreclosure' or 'being underwater' mentioned in those good old days.

In our particular case thanks to the 'once in a lifetime' bubble our investments turned out far larger than I ever expected them to be when we retired so the income from our CDs and Bonds plus our two pensions and two SS checks add up to 4.2 times our combined gross income when we retired. We also retired with zero debt and only withdraw money from our investments to pay the taxes due on the mandatory required distributions on our IRAs (now that we are over 70 1/2) so our investments are still growing by about 5%/year. The bottom line is that we were very lucky and in retrospect our timing on everything was about as perfect as it gets. The events that made our timing so opportune were due to factors completely outside of our control, we were just very lucky. Our generation had a downhill path to travel, now it's an uphill path for our children's generation.


You're right, there is a certain (and highly variable) degree of "work" involved in property management.


I have seen your story many times in comments on this blog, and it is very interesting and you clearly have been very fortunate, which is great! And I suspect that you probably know a lot more about real estate investment than I do as I am 26 and just bought my first rental property. But I do have some great older and experienced mentors on this and the actual appreciation in value of the property is a small component of the evaluation of a deal here. Obviously any appreciation can be a major benefit, but as we have no plans to sell our property (and future acquisitions) anytime soon, we're mostly interested in the cash flow. And our first acquisition is paying 16% cash flow return on our investment, regardless of the value of the property.

When I was 26, it was 1960 and my wife and I and our two small girls had just driven across country in our '55 Chevy to start a new job in the Santa Clara Valley in California. We were looking for a cheap rental ourself in those days and found a brand new 2br Duplex for $95/month. We were very happy there until we had saved up enough money to buy our first home in 1963. We still live only a couple of miles away from it and drive past it frequently - it still looks just as nice from the outside as it did 50 years ago in 1960.

I think that your rental will turn out to be a great investment since it has a great cash flow for its value. It's probably near the bottom of the rental market in Southern California and won't attract the most affluent renters by any means. I would try my best to establish a good rapport with the renters. This way they will be more likely to take good care of it. I would also ask them to please let you know immediately if a problem develops that needs fixing. It's better to fix a small problem right away rather than doing nothing and allowing it to turn into a big problem. If you bought it for $112,000 it's unlikely to drop very much because of the demand for low price rentals. I wish you all the best of luck.

IMO, annuity would be a bad choice, unless it was just 10 or 20% of your assets.
If we get hyperinflation, your wiped out
If we get high inflation 5 to 10% your, then your losing big.
What happens if the insurance company goes bust, the state will back you, but alot of state now could be in trouble.

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