More on Holistic Financial Health – Present Value and the Rest of Your Life

In my last  post I talked about how important it is to use  your personal rate of discount and to think “holistically” about your financial life. In particular, I spoke about how critical this is during your working years when you are accumulating assets of all kinds and incurring both near term and long term liabilities. That need to consider your whole balance sheet does not end when you stop working and consider the rest of your life, and in this post we will talk about that (looming and long) period of your life

While what I said in the last post about holistic financial health might be considered idiosyncratic and contrary to mainstream financial planning, there is one financial expert who, when it comes to the “decumulation” phase of life, has been advocating the holistic approach for nearly a decade. His name is Steve Vernon, and those who read “What’s Your Future Worth?” may remember him as the actuary who wrote 5 excellent books on planning for retirement and started a consulting firm called, appropriately enough, “Rest of Life Communications” ( http://www.restoflife.com/ ). To my mind there is no one better than Steve in helping you think through the challenge of converting all that you have accumulated into income that you can live on.

I had dinner with Steve last week, and I got the opportunity to hear about the fascinating current research projects he is involved in, but mostly our conversation focused on the more general problem of how to help people manage their financial world, both during their working years when income (generally) exceeds outgo as well as afterward when the reverse is true. Steve and I are very much on the same page when it comes to taking a holistic approach to financial decision making and if you want to get his take on the big picture of how to approach the problem, you should check out this article http://www.forbes.com/sites/nextavenue/2014/11/12/how-to-generate-retirement-income-from-savings ) as well as this post http://www.cbsnews.com/news/3-ways-to-turn-your-ira-and-401k-into-a-lifetime-retirement-paycheck/  where he lays out most of the possible ways to generate retirement income and this example where Steve explains one of his “retirement income generating strategies” http://www.cbsnews.com/news/understanding-how-systematic-withdrawals-affect-retirement/ .

As extraordinary and on target as Steve is, there are a couple of areas/techniques that Steve generally passes over but I believe should also be considered when you think about your entire financial life and your objectives. It is those areas I would like to briefly describe now, and in future posts I will expand a bit and provide a more complete explanation of why I think they are so important.

Perhaps the most important area that I think needs to be integrated more tightly into a holistic view of financial health is the real estate most of us own. I spoke last time about considering both the value of your house and the mortgage you pay as a key part of your personal balance sheet, but the value of your house goes well beyond being just a (usually) good financial investment and a place to live. Your house can also be used, to use Steve’s term, as another “retirement income generator”. I alluded to this point last time when I introduced the concept of a “reverse mortgage” which is essentially a home equity loan with no need for repayment until you sell or move out of your house. The availability and the effectiveness of this income generator is growing and becoming better known, and in the coming weeks I will devote an entire post to reverse mortgages and the role that they can play in your decumulation strategy, but for now I would just direct you to two links that can provide you with some basic knowledge on the subject. The first is http://crr.bc.edu/wp-content/uploads/2014/09/c1_your-house_final_med-res.pdf which is an excellent discussion of reverse mortgages and the use of home equity in general put out by a group with no financial interest in having you buy anything. The second is  https://www.onefpa.org/journal/Pages/Reversing%20the%20Conventional%20Wisdom%20Using%20Home%20Equity%20to%20Supplement%20Retirement%20Income.aspx  which is a paper published by Barry Sacks (an expert in the field) that pretty clearly demonstrates the benefits of incorporating a reverse mortgage into your decumulation strategy. In the future we will discuss both of these pieces in greater detail.

As described in the links, contrary to popular myth, taking out a reverse mortgage does not mean that your children will be deprived of their legacy. Beyond that, and implied in much of what passes for financial planning these days, is the notion that the ideal “decumulation” strategy will result in an exact match of your income and your life expectancy, i.e. that if you die without having spent all your assets (except for the house) you will not have gotten the “most” out of your retirement. I disagree, and think that for most of us, our planning horizon does extend beyond our lifetime and includes a concern for both the loved ones we leave behind and the world that they will live in. In fact, to truly take a present value approach to managing your financial life you need to imagine that part of the future (when you are gone but others that you care about are still around) and consider how much value you place on it vs the current time frame and the mid-term future that comprises your retirement years. In terms of the ideas in “What’s Your Future Worth?” this means that when considering your decumulation strategy, you need to make sure you don’t skip step 2 (imagining the future) and step 4 (developing your personal rate of discount) all the while considering a time horizon that extends beyond your death.

Next time we will delve more deeply into this notion and talk about 2 or 3 other financial products that you should consider as well as part of your holistic approach to ensuring your financial health for the rest of your life and beyond.

 

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