For Yourselves or For Your Children?

Is one of your financial objectives to leave some inheritance for your children and/or your remaining family? Or are you hoping to spend it all during your own lifetime, enjoy the fruits of your labor and your personal planning, and die with $0 in the bank but owing nothing to anyone? The answer to that may depend on how much money you have to begin with. It is a nice, generous thought to believe that you can leave an estate to your children, but most people don’t have that luxury because they are living paycheck to paycheck and fighting to keep afloat during their own lifetimes. For most people, the legacy they leave to their children is the love that they give them and the money that they spend to feed, raise, and educate them when they are still children. They couldn’t afford to do much else when their children are younger, and they likely won’t be able to afford to provide more for their children upon their death. For most people, Social Security is a very important part of their retirement income, and whatever personal savings they might have they spend themselves, hopefully in some orderly fashion that will leave them still with some money even if they live to a very old age.

Planning to Leave an Inheritance

However, if you are lucky enough to be among the few who already have enough money to live comfortably during retirement and will likely have something left over to leave to their children, you will likely have a different plan both for investing and for your rate of spending your savings during retirement. For instance, if you are not planning to leave an inheritance, something like the 4% Rule should be part of your plan. Withdraw 4% +/- of your net worth every year and hope your money lasts long enough. If you instead are trying to leave something to your kids, then you shouldn’t think about how much of your net worth you can withdraw each year. Instead, you should invest such that you can generate enough current income from your portfolio to live on comfortably during retirement without having to draw on the principal. Easier said than done in this day and age because current income is hard to come by with interest rates as low as they are. It may mean you consider investing in alternative asset classes that pay current income, such as real estate or oil and gas partnerships. You should invest also in traditional income-generating assets such as stocks that pay dividends, preferred stocks, or corporate or mortgage-backed bonds or mortgage REIT’s. All of these pay current interest or dividends but are further out on the risk spectrum than are traditional bonds.

Step-Up In Basis

Another part of the “Inheritance” plan is to own assets for a long time, preferably several years. Hopefully these assets will appreciate in value during that time. If they do, when you pass away, your heirs receive a step-up in basis. This means that your heirs’ tax basis in these assets will be the market value of those assets at the time the heirs became the owners. This is a significant tax advantage to them because they could sell these assets for whatever reason and not incur a capital gains liability. Direct ownership of real estate works well in this regard.

Another Option

Another option to consider is my strategy to own index funds and to write call options against them for current income. Depending on how much you have and are willing to dedicate to this strategy, if you just withdraw the amount of income that you generate from the call option writing (or less), then you may be able to live comfortably during retirement without having to withdraw any of your principal, and therefore you should be able to leave something to your children. This strategy doesn’t work as well if you are trying to leave your heirs with assets at a low basis because of the likelihood that your assets will be called away from you from time to time, necessitating that you re-buy them in order to keep the strategy going. Please contact me with further questions about this option.

IMO

What you want to have done with your assets when you pass away, assuming you have any assets at that time, will dictate how you invest those assets during your lifetime. If you have enough money to live comfortably during retirement and you have a desire to leave something to your heirs, then you should think about investing long-term and about making sure your assets generate current income for your own needs. Otherwise you may die with $0 in the bank even if that wasn’t your intent.