Financial Independence Progress Report for July 2015

07/31/2015
Emergency Fund ($72K) 100.0% 100.0%
College Fund (80K) 35.00% 35.00%
Passive Income Streams ($4000 pm) $139.55 pm (07/2014)% $319.11 pm (07/2015)
Retirement Fund ($900K) 58.51% 59.10%
Roof for our Family($1 mil) 00.00%
Medical Fund 00.00%
Life Insurance Done (term life insurance payments initiated)

Main Takeaways

  • July is a big letdown w.r.t. dividends compared to June….but, there were no rough spots in July on the personal side. Yeah for that!
    • College fund stayed even again…zero progress for the second straight month is not so good…especially since I pump money into it every month.
    • 401K took a hit in June…so, getting a positive gain in July was good news…not by much, but it is greater than zero ūüôā
  • Passive income for July¬†2015 continued the winning trend vs last year.
    • I compute Passive Income per month as (total passive income in this year) / number of months completed this year.
    • Total passive income is a sum of dividends + capital gains distributions.
    • July¬†Passive Income = (total passive income in this year) / 7== $319.11 pm.
    • Doing it this way keeps the monthly passive income more realistic because I can instantly know which of my monthly expenses are covered by this amount. I keep a separate tracker for this which I will write about at a later date.
  • I made a portfolio change in my IRA…moved some of the profits off to Vanguard REIT Index fund (VGSLX). This is my attempt at investing passively in real estate. I am happy I took this decision….somewhere in September/October time frame, I will think of adding to this REIT pile…I am expecting REITs to go down in ¬†price some more around that time. Lets wait and see!
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Investing in real estate….passively :-)

Over the past couple months, I have been thinking about all things real estate. Basically, the question boils down to: in what ways can I add a real estate component to my financial portfolio.

  • First, I was thinking about what is a “good mortgage amount” that fits my criterion for FI in 10 years. My primary residence will not be an investment in real estate, but will add a real estate component to my financial empire ūüėČ
  • Second, the question that came to my mind was: can I somehow add a real estate component to my portfolio before purchasing my primary residence?
    • I use Personal Capital¬†to track where my portfolio is and it is an AWESOME tool to track all your finances in one place. The one feature I really like is that it breaks down all the funds in your portfolio into the following categories, JUST by taking the names of the different funds like VDIGX, VTCLX, etc. For example,
      • Large cap, mid cap, small cap split
      • Cash and bonds split
      • Alternatives (real estate, etc)
      • US and International split
    • Personal capital pointed out a weakness¬†in my portfolio diversification w.r.t. lack of investment in Alternative Investments like Real estate, hedge funds, commodities, etc.
    • Hence I started looking at how to add a real estate dimension to my portfolio.

This blog talks about the options I investigated.

Option 1: Rental Property Investment

I live in a HCOL (high cost of living area) on the west coast. Real estate is normally expensive in my HCOL area, but it is especially so in today’s market. There are many reasons for it, but primarily I would say that institutional investors and foreign investors are the main reason. For example, many houses that are listed in the market nowadays come from Berkshire Hathaway Property Holdings!

Anyways, I searched for a couple of rental properties (1B and 2B ones) in and around my area (radius of 25 miles max) and used my blog friend Well Rounded Investor’s Real Estate Income/Expenses spreadsheet. She is truly a well rounded investor, with investments in real estate and stocks. I played with numbers for some¬†rental properties using her spreadsheet and I somehow never broken even on any property….not even close.

I could go more than 50+ miles from my area where the nos are a little bit more friendly, but I would not know the area and it would be a maintenance nightmare. Adding the cost of a property manager will make the numbers very unfriendly.

Another option is to go out of state and invest in rental properties. For example, my office colleague invests in Washington State rentals, but his sister is the property manager…huge trust advantage ūüôā I do not have such an advantage and when I barely have time left to breathe…out of state property investment is too much of a reach.

So, I tabled this idea for now. I will continue to learn from the real-estate-wise blogging friends and hope to add one or more rental properties to my portfolio at a later date.

Option 2: Investing in REITs

REIT is a short form for Real Estate Investment Trusts. REIT funds invest in real estate investment trusts i.e. in companies that purchase office buildings, hotels, and other real estate property types and generate income from renting out the properties. Most of the income produced is distributed as dividends to the investors.

Take for example VGSIX/VGSLX (Vanguard REIT Index Fund). This fund invests in many real estate investment trusts..the top 10 holdings of this fund are:

  • Simon Property Group Inc.
  • Public Storage
  • Equity Residential
  • Health Care REIT Inc.
  • AvalonBay Communities Inc.
  • Ventas Inc.
  • Prologis Inc.
  • Boston Properties Inc.
  • HCP Inc.
  • Vornado Realty Trust

One can invest in a REIT Index (VGSLX) or invest in individual REITs themselves. But, I prefer index funds for diversification. We will talk about this later.

Advantages:

There are a few advantages to owning REITs or REIT funds

  • Adds real estate¬†exposure to one’s portfolio with minimal upfront cash.
    • For example, minimum purchase for VGSIX is $3000.
    • A relatively safe rental property investment in my HCOL area needs at least $70000 (20% on a 350K rental).
  • Diversifies the risk
    • A single rental property => all the risk in one single location and with one single tenant.
    • REIT investment => risk is distributed across multiple locations and multiple tenants.
  • Diversification of assets
    • REITs invest in different assets compared to most companies whose Stocks and bonds we invest in.
    • For example, a REIT that operates hospital buildings will generate ¬†income even in market downturns where stocks and bonds may tank.
  • Liquidity
    • A rental property is not a liquid asset i.e. it cannot be sold quickly to generate money….selling a REIT fund is as easy as one click…ofcourse, quick selling both assets can lead to a loss.
  • Low effort (passive)¬†Asset
    • Once you put in the effort to choose a REIT or a REIT index fund and set up the automatic investment option, there is no further effort required. A really nice asset for busy people ūüôā
    • A rental property requires much more effort to manage…even if you are using a property manager. The variables with a rental property are many….quality of tenants, quality of property manager, quality of the property, etc etc

Disadvantages:

  • A REIT is not a tax-efficient investment
    • A REIT generates dividends that are treated as Ordinary Income. So, for folks already in the high income tax bracket, the dividends are taxed at a very high rate.
    • A rental property on the other hand provides an opportunity to claim tax deductions due to mortgage interest deductions, property depreciation, etc etc.
    • For high income tax brackets, tax efficient properties can be a boon.
  • Capital appreciation potential
    • A rental property, bought at the right time, can appreciate many times faster than a REIT fund can.
      • Especially, those that were¬†bought around 2009-2011 time frame.
    • This is especially important when you leverage the buy using a mortgage i.e. pay $70000 down payment for a $350000 property and sell it when it reaches $550000 and make $200K profit leveraging money from a bank mortgage.
  • Single trick pony
    • Rental properties provide the triple threat of an ability to lower taxable income, potential for capital appreciation and doing all this by leveraging money from the bank.
    • REITs are a single trick pony….ordinary income every month.

Conclusion 

Both rental properties and REITs have their own charm. For me, at this point in my life, I am short on two things:

  • Time
    • I do not have time to spare. Between working full time and preparing for a job hunt, I am totally out of time. And a new job means putting in max effort in the first year to establish myself. So, I do not anticipate more time in the next year.
  • Down payment money
    • I am saving¬†for the down payment for my primary home and cannot afford another down payment in the immediate future.

Considering that, I decided to invest in REITs. More specifically, I chose a REIT index fund called VGSLX. It is a Gold rated fund from Vanguard, the low-cost king of mutual funds. I had an IRA in my tax-advantaged portfolio that had accumulated gains over the past 3 years. So, I moved some of my gains in the IRA target date funds into a new position in VGSLX. REITs have gone down a couple percent this year and are close to their 52 week lows. So, I am am getting in with a little bit of a cost advantage. I expect the REITs to go down more this year and I will move a little more of the IRA gains into my real estate position of my portfolio.

I do not expect to tap into my IRA/tax advantaged retirement holdings until many many years from now. If my¬†passive income strategy works out, I may never have to tap into it ūüôā Anyways, the REIT index fund will have many many years to compound all the dividends in a tax efficient way. So, go REITs !!

DIGIT savings‚Ķ.Month 4 update

I started using DIGIT, a new way of squeezing out some extra cash from my¬†bank account, four months ago. I wrote about it¬†here. My goal was to squeeze some leftover money after accounting for all the budgeted categories (expenses, savings and investment goals). Every time the savings account accumulates to a couple hundred bucks, my plan was to withdraw it and apply towards my Financial Independence goals….more specifically, my home down payment fund.

That said, how well did DIGIT save money for me in June?

  • For the month of June¬†2015, DIGIT squirreled away 226.64¬†from my bank account.
    • This is 226.64¬†that I would have spent on something less important than my financial independence goals.
    • Every month, DIGIT is getting more aggressive and squeezing out all the extra fat from my account…way to go!
  • Since signup,¬†DIGIT has saved me $748.50.
    • If money is saved at the same rate for the rest of the year, I will have $1000 (!!) added to my down payment money…this is money I did not know I could save. So, go DIGIT!

But, where is the saved money going? About a month back, I wrote about my plan to benefit from the next recession here. My plan is to buy a house at a price less than the bubblicious prices prevalent in my HCOL area today. So, at the end of every month, the money DIGIT saves for me moves to my home downpayment fund. DIGIT savings is an opportunistic saving for me…apart from the planned savings towards home down payment. I will take the money however I can save it¬†ūüôā

PS: If you want to sign up and try it out, go directly to Digit’s website here at https://digit.co/

If you do sign up at all, please do share your experiences, positive OR negative, via comments on this page. I would love to hear from you on how this works out.

Link to Yahoo Article: http://finance.yahoo.com/news/29-old-invented-painless-way-170000170.html

When you have total control of time, you feel wealthy!

The month of June was a difficult one for me and I re-learnt an important lesson. There was a perfect storm of difficulties i.e. both professional and personal difficulties arriving at the same time and creating havoc.

  • Professionally, my company had a layoff…it was a stressful week while all of this was happening as the laid off folks were not announced at the same time. Fortunately I was not affected, but a friend and colleague was. It left a bad taste in my mouth. Nothing to compare what my friend was going through, but I have been around¬†a few layoffs in my career and it leaves more disgust in its wake each time. My mind was yearning for freedom from all of this for many days. What this event made clear is that¬†the path I am on right now i.e. the path of achieving Financial Independence, is the best choice I could have ever made.
  • Personally, there was a family emergency that forced me to travel across the country and away from my office at the critical time of layoffs. The issue took a week to resolve itself and the resolution was mostly positive. But, while I was spending time out there, my mind kept coming back to my work and the layoff scenario. I know that is really lame, but I kept wishing I had the freedom to spend some more time taking care of the family issue rather than coming back after a week or so.

On my¬†path to Financial Independence, I am learning a lot from my experiences and in a bigger way from all the smart people who share experiences from their financial independence journey. And somehow along the way, my journey has focused mostly on financial goals. Yes, finance is a great part of achieving financial independence, but I think I forgot the true underlying reason to reach for¬†Financial Independence. I would like those who are reading this to pause and rethink the reasons for their FI journey.¬†Anyways, my¬†real reason is hinted in the title of this post, which is a total steal from some wise person. I just do not remember whom¬†to make a proper attribution to….my apologies for this.

True financial independence is not only about having enough money, but it is also about having total control of your time. It is the ability to spend time as you wish and when you wish it. I remember some wise soul saying that everything in life is about trading money for time OR vice versa. FI is about trading money for time i.e. building enough FU money (link below) to be able to gain control of our time in life. The amount of money needed for FI may be different for each person, but once achieved, you have control of how to spend your time and that is being wealthy. While I was waiting for the family situation to resolve itself, I re-learnt this important feeling of wealth. Thanks to June 2015.

PS: I am behind on some of my blog updates and replies to some wonderful comments. My apologies for that along with my promise to get back to them soon.

Links

Financial Independence Progress Report for June 2015

06/30/2015
Emergency Fund ($72K) 100.0% 100.0%
College Fund (80K) 35.00% 35.00%
Passive Income Streams ($4000 pm) $104.34 pm (06/2014)% $277.37 pm (06/2015)
Retirement Fund ($900K) 59.29% 58.51%
Roof for our Family($1 mil) 00.00%
Medical Fund 00.00%
Life Insurance Done (term life insurance payments initiated)

Main Takeaways

  • For me, June is the second biggest month for passive income. So, when I wrote the progress report for May 2015, I was eagerly waiting the end of June. But, June has its own ideas…it was a rough month on the personal and professional side for me and looking at the FI progress report, it looks like FI progress also has some rough spots.
    • College fund stayed even…which is great news actually considering the performance of the stock market this month. But, still, zero progress was depressing.
    • 401K took a hit in June….especially after a great month of May. A 1% drop is a chunky drop and that stings.
  • Passive income for June 2015 increased quite well in comparison to June 2014, even though the mutual funds did take a hit to the principal. This was the only bright spot this month.
    • I compute Passive Income per month as (total passive income in this year) / number of months completed this year.
    • Total passive income is a sum of dividends + capital gains distributions.
    • June Passive Income = (total passive income in this year) / 6 == $277.37 pm.
    • Doing it this way keeps the monthly passive income more realistic because I can instantly know which of my monthly expenses are covered by this amount. I keep a separate tracker for this which I will write about at a later date.

My investments went a bit down this month. So, I am going to look at my mutual fund investments this month and see if there are any investment opportunities to dollar cost average down the cost. More on this later.