Should You Have a Mortgage In Retirement?

I recently read an article in the Chicago Tribune about a new theory from the Journal of Financial Planning.

According to the theory, to achieve a comfortable retirement, you should not only be mortgage-free by age 65, but you should have a reduced debt level by 45.

The recommendation is to have a debt-to-income ratio of 1 at the age of 45, and then gradually reduce it to 0 by age 65.

A ratio of 1 would mean that, if you earned $100,000/year, your total debt (including mortgage, credit cards, car loans, etc.) should not exceed $100,000.



The Tribune article interviewed a financial planner who agreed with the advice - he says he tells clients that their home is "an asset, not an investment". The reason for this is that investment dollars are for living off of during retirement, but it is unrealistic to expect people to sell their house for retirement and move somewhere cheap.

I think this is pretty good advice. I think mortgage debt is something to avoid in retirement because a mortgage payment is fixed, while your retirement income, unless it is 100% social security and/or a fixed pension, will fluctuate with the market.

Also, I think it is unrealistic to expect people to downsize in retirement. My parents and my wife's parents, who are all retired, are proof of this.

We both tell our parents that they would be more comfortable downsizing to a smaller house or condo, but they are set in their ways, and attached to their homes.

The fact that they are mortgage free really helps their finances.

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How My Trading System Answers the Questions For Building A Trading system

Now, I will discuss how my system answers the "Questions to Build a Trading System".

My complete system, along with information on possible variations, effects of commissions, and beneficial tax strategies, are detailed in my book, Stock Trading Riches, which is available on Amazon.com.

You can read more about my book (including testimonials) here.

As I mentioned, these questions need to be answered in order to develop a complete system around constant value investing:

1. Lump Sum or Periodic Investment - My system is designed for periodic investment - I try to buy 1 stock per month. I can always skip a month, or make a large lump sum contribution.

2. cash - I don't keep any percentage of the monthly contribution in cash. As cash builds up through sales, I cap it at 30% of the portfolio value, and then start using the cash to add new positions.

3. Running Out of Cash - If January is coming around, and it looks like I will be short cash for rebalancing, I will save my contributions from the months just before and after to rebalance stocks. If there was a 1920's-type crash, I could always sell some of my positions to rebalance the stocks that I felt most confident about.

4. Investment Choices - I use the newspaper, Forbes magazine, Yahoo, and MSN to find growth stocks that I think will prosper in the future.

5. Control Value(s) - I have one control value, which I apply separately to each stock. My basic rules do not systematically increase or decrease the control value. I might manually change it if my financial picture changed drastically.

6. growth - The control value never changes, so the amount in each individual stock will not grow. But the portfolio will grow, through contributions and a cap on the cash percentage. So, I will have an ever increasing number of stocks.

7. risk - My system assumes risk is controlled because the portfolio is diversified. Also, between rebalancings, any stock can be replaced by another, as long the same dollar amount is bought.

8. Rebalance Frequency - A potential rebalance on each stock is done yearly, in January. However, a rebalancing only occurs if the stock has gone up or down by at least 10%.

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Frugality

Before I got married, I wasn't frugal. In fact, I spent a lot: eating out, traveling, etc. However, I had an modest townhouse in a well-developed suburb of Chicago, where the property tax was relatively low.

Then, I got married and my wife is sort of the opposite. She likes to travel once in a while, but she doesn't like to eat out often, or spend money on experiences. Her main expense priority is having a nice house, and spending money on the house.

We bought a nice, large, relatively new house, at the outskirts of the Chicago area - where suburbia meets farmland, and the farmland is losing. The disadvantage is higher taxes due to demand for infrastructure creation. Our property taxes were high when we bought the house, but still went up 23.6% last year, due to an exploding demand for schools. This means that my mortgage payment (principle + interest + taxes) is about 3 times what it would be at the townhouse.

Now that we have a 1 year old son, we really don't go out to restaurants,
movies, or travel too much. My wife stays at home, so she tries to cook most meals, to keep us healthy.

So I realized that we are pretty frugal. The three of us live in a large house, live off one paycheck, and still save a lot.

But, I just went thru some numbers and realized that wow! We ARE pretty frugal (except for the house):

1. My net pay is my gross minus insurance, taxes, 401K, and commuter (train) benefit.

2. 45% of my net pay (34% of my gross) go to the mortgage.

3. I then save 21.6% of my net pay (this is in addition to my 401K, which is accounted for).

4. So, we live on 33.4% of my net pay (25% of my gross)!!!

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The Sales Tax - Conclusions

I think that a Federal sales tax, possibly combined with one or two of the supplemental taxes, would greatly simplify people's lives and reduce the time spent on tax compliance. It would reduce government's entanglements into people's privacy, and allow citizens to see the cost of government more transparently.

However, as I put in the title of the first sales tax post, this is an Ideal.

Besides "making" things simple, I also thing its important to "do" things simply, step by step.

Next, I will discuss what can be done now to move our tax system towards simplicity, without rocking the boat too much.

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Practical Way to Simplify The Federal Tax Today

As a first step, we should eliminate all deductions, except for: charity, mortgage, property taxes, and local taxes.

This does not sound like much, but it is a baby step in the right direction. The trend in congress is to ever complicate the tax code. Achieving any simplification is a step in the right direction.

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The Sales Tax - Arguments, Hurdles, Supplements

Most arguments against a sales tax is that the tax rate would have to be set high to replace the income tax, and that the tax would be regressive (affect lower income people more).

You can read the first part of this essay here.

I would say that:

1. Having to set a high rate is not really a bad thing. The rate would show, transparently and in real-time, the true cost of government. It would provide an incentive to cut down government and make it more efficient, in order to lower the rate.

2. The regressiveness is removed by the rebate. Using my rebate example numbers, all adults would get a tax rebate on the first $10,000 they spent. For someone making $15,000 a year, this means they would not be taxed for the bulk of their purchases. Bill Gates would also get his rebate but, assuming he spent millions of dollars, he would have to pay sales tax on the bulk of his spending.

The interesting thing would be that people who spent less than the amount to be rebated would make money.


Hurdles
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There are some hurdles to overcome. The main hurdle would be that the 16th amendment authorizes an income tax. So, a constitutional amendment would have to be passed to replace the income tax with a sales tax.

The other issue is that money also has to be collected for social security and medicare. This may be a lot to collect out of sales taxes.


Supplements
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Two ideas to supplement the sales tax, while still being simpler and less intrusive, with respect to the current federal income tax:

1. Tax pollution and/or hydrocarbons (link to global warming). Environmental policy will be covered in other posts.

2. Keep the capital gains tax but make it flat (one rate for long and short term gains), and give it a high exemption (i.e. $500,000). This way, the average family will be taxed on spending and not on saving.

You can read the conclusion of this essay here.

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Ideal Tax Simplicity - The Sales Tax

The simplest and least intrusive tax is a sales tax. The federal goverment should replace the income tax with a sales tax.

Here is how the system could work:

1. The government would set one rate (i.e. 17%).

2. The government would decide how much spending should be exempt from taxes (i.e. $10,000 per adult, $5,000 per child, so $30,000 for a family of four).

3. At the beginning of the year, the government would mail checks or direct deposit to everyone with social security numbers. (i.e. $10,000 x .17 = $1,700 for adults, $5,000 x .17 = $850 for kids, so $5,100 for a family of four).

4. Whenever someone buys something from a store, sales tax would be collected.

5. Since most states already collect sales tax, the government could contract with the states to handle the federal tax collection as well. The states could be allowed to keep say, .2%, for the trouble. For non-sales tax states, the federal government would probably collect it.

You can read the next part of this essay here.

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My Stock Trading System

I became a very successful trader after I developed my trading system, which is based on constant value investing.

I have made a double digit annual return for years now.

My complete system, along with information on possible variations, effects of commissions, and beneficial tax strategies, are detailed in my book, Stock Trading Riches, which is available on Amazon.com.

You can read more about my book (including testimonials) here.

Remember that this is my system for implementing constant value investing. Here is a post where I explain how my system answers the "Questions for Building a Trading System". Future posts will give ideas about even more variations.

I only invest in stocks, ETF's, or closed-end funds.

I don't want you to just follow my system - I want you to start thinking critically, and develop your own system, that you feel comfortable with.

My system is like zen or tao. The market fluctuates and I am at peace with whatever it does. The system has no optimized parameters - it simply uses the formula for each stock to see how many shares it should own NOW. It makes no assumptions about the future or remembers the past.

I am "one with the market" in the present moment, and buy low - sell high.

Here is an example with Amazon.com yearly prices. Just imagine having a whole portfolio, where you buy some stocks at the top, some in the middle, and some at the bottom, all feeding and pumping cash, as the markets cycle over years!

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