Fear is an emotion that protects us when we face danger. This article will address three questions: [1] how scared should you be that your money will run out? [2] why most people who are not afraid of their money running out do not recognize the danger? [3] what you can do to avoid your money running out?
The fear of not having enough money for food, shelter and medicine at any time in our lives motivates us to assure that we will not run out money. It turns out that many people are not scared of running out of money because they are not aware of the danger, so they don’t figure out how to avoid this danger.
You can find out where you are relative to the rest of the US population for your age based on data just published for 2016 (source: https://dqydj.com/net-worth-by-age-calculator-united-states/).
Figure: Median Net Worth of US Individuals by Age – Excluding Primary Residence
The Figure shows the median net worth of American individuals by age, excluding the equity in their primary residence. The reason to exclude peoples’ homes is that the equity in a person’s personal residence is usually not liquid, except through a home equity line of credit or refinance. Even if they did access that money through a loan, it should not be wasted on non-emergency expenses and certainly not for consumption.
These numbers should be scary for people in just about every age group if the liquid portion of their net worth is anywhere near the median numbers shown in the graph. For all the age groups younger than retirement age, there doesn’t seem to be a lot of cushion for emergencies from liquid net worth they can access. Many can’t survive job loss for very long. Many can’t help their kids with college expenses (non-emergency) in their 40’s and 50’s when they need to be accumulating for their nest egg in retirement.
In retirement, the numbers look even worse. According to one study, the amount of money needed in retirement is $748,000 (I think that is a low number). Social security payments average about $1,350 per month and expenses average about $3,700 per month, including high healthcare costs but not including home healthcare aides or assisted living (https://www.fool.com/retirement/general/2016/01/25/heres-what-the-average-retired-americans-budget-lo.aspx)
That means that retirees need to make up a shortfall of more (or much more) than $2,000 per month. If the median liquid net worth of retirees is about $100,000 and if we assume that their funds are invested conservatively to roughly match inflation, then that money will last about 4 years. That is more than scary!
Since you are reading this article, you probably are an investor and your numbers are likely higher or MUCH higher than those shown in the Figure. You need to figure out if you are on track to never run out of money.
In order to do that, you need to understand your “financial model.”
“Accumulation-Deaccumulation”
Most certified financial planners, brokerage houses and even television commercials, inundate us all our lives with a simple and dangerous approach to finances that has been accepted in society at large as conventional wisdom. This approach is called “Accumulation-Deaccumulation” and you probably never heard of this term but you know how it works.
The accumulation-deaccumulation model starts with saving money from your income (accumulation), then investing that money to generate and grow a nest egg (accumulation), withdrawing as little as necessary only for emergencies (deaccumulation) then spend down that net worth at some rate when you stop working (deaccumulation).
Some deaccumulation models take into account investment performance during deaccumulation and some take into account inflation. However, the return on investment during deaccumulation should be much lower than during accumulation in order to minimize risk of an investment downturn since such a downturn can be irreversibly devastating. Those downturns do occur every few years and they are nearly unavoidable over a 20+ year retirement term.
As a result, it is not prudent to assume that investment returns will consistently greatly exceed inflation.
A couple of weeks ago, I attended a workshop conducted by a certified financial planner. He explained the accumulation-deaccumulation model and the large audience pretty much accepted the fact that this financial model is not only valid, it’s probably the way the world really works.
Then he showed numbers similar to those in the Figure and plugged in various deaccumulation assumptions. The results were disaster for most people in the seminar room.
He then explained why people need to delay taking Social Security payments until age 70 and noted that only 1% of Social Security recipients do that! So, there is still a shortfall and people will run out of money. He talked about pensions, but most people don’t have them anymore. He talked about cash value of whole life insurance policies as well as guaranteed income from whole life insurance or annuities. He didn’t mention that the ROI on the premiums are not high enough to sustain financial life unless you invested huge amounts that most people don’t have. Of course, if you had those large sums of money, you might not need whole life insurance, unless you wanted to leave a nice tax-free inheritance to your heirs.
If you have ever received in the mail an invitation to a fancy local restaurant sent out by a financial advisor, chances are they were trying to sell you some form of a whole life insurance policy, possibly with a cap on upside that is traded for a “guarantee” that you can never lose money even if the stock market goes down. I receive these invitations all the time, maybe because I am nearing classical retirement age and the fact that I get so many of these invitations is scary because it reflects on how financially illiterate is most of the population.
How to Avoid Money Running Out?
Simply put, in order to avoid money running out, you either need to have a big pile of liquid net worth or you need to have enough passive income to cover your routine expenses. If you have enough passive income, then the liquid portion of your net worth needs only to cover your special expenses, not your routine expenses. Think about it…if you have passive income that covers routine expenses, then as long as you don’t have special expenses, you do not deplete your net worth! In theory, your net worth can last forever if you have no special expenses. There would be NO deaccumulation. Of course, special expenses always happen, so we do need adequate liquid net worth, but when you have passive income, the size of the li quid portion of your nest egg can be lower.
While special expenses are to be expected, having passive income means that the ONLY deaccumulation you experience is from special expenses. Not having deaccumulation due to routine expenses month after month, results in a totally different confidence level in your money not running out. In fact, there is no projected date of running out.
This video shows the detail how to calculate your routine expenses and special expenses. It is essential to separate these two categories of expenses since routine expenses are recurring and special expenses are not. This affects your money management a lot more than most people realize and it is crucial to get to the point that you have the confidence that you won’t run out of money.
There are many ways of generating passive income outside of Social Security payments and pensions. They include rental real estate, annuities, whole life insurance, buying notes, winning the lottery and more.
A major advantage of rental real estate over the other methods cited above is that the underlying asset doesn’t go away. Annuities, notes and whole life insurance all have some combination of amount and term limits. This is necessary since these instruments are all based on injecting money then withdrawing money without creating any lasting underlying physical asset.
In contrast, rental real estate generates passive income (at least it is semi-passive) while the underlying asset does not disappear unless there is an earthquake, tsunami, volcano or an asteroid hits the house, and even then, you usually have insurance to cover those rare worst case scenarios. The value of the underlying asset of rental real estate may fluctuate but it never goes away. Rental real estate is designed to stick around.
So, if you need $2,000 per month of passive income to supplement Social Security payments, you can achieve that with two free and clear rentals that you buy with a 30-year mortgage loan in your 30’s, or you can buy a handful of financed rentals in your 50’s. If you need an extra $4,000 per month, just double those numbers. It is not overburdensome to buy a rental home every year or two for a few years and never have more than 10 rentals at any given time. That’s my situation. That’s why I will never run out of money unless some huge totally unforeseen disaster strikes.
To learn how to leverage other people’s money to buy rentals, watch this video.
To learn how to choose houses for rentals, watch this video.
To learn how to optimize your financial performance through rentals without driving yourself crazy, watch this video.
If you are not scared of running out of money, don’t worry, be happy, until you run out of money. Then you best bet is prayer. Do yourself a favor and now invest in the Smarter Investing home study course and learn about how to achieve financial freedom without driving yourself crazy, which often means through part-time real estate investing. That’s not only how I did it, that’s also why 89% of the 17.7 million single family home rentals in the US in 2016 were owned by people who owned 10 or less such rentals.
If you’re not scared of running out of money, then maybe you’re right and the rest of us mom and pop landlords are wrong. Is that a risk you’re willing to take? I didn’t think so. Now buy the Smarter Investing home study course if you haven’t already done so and invest in your life.
