Happy Trails With Income Poor

Kolapore Ski Trail Through the Pines

This is the third and final installment on my Asset Rich Income Poor strategy. The road to asset rich sounds simple at a high level but it’s not that easy at the details level, because every decision you make has tradeoffs. The tradeoffs affect the final outcome in ways you can’t know for sure. I wrote about this challenge in What Makes Investing Hard?

Unless you get lucky, the road is long and arduous. I’ve been at it for nearly 20 years; I’m still not there yet. Along the way you might question why you are doing it. Finally travel the world every year in your old age? How about traveling the world every year now, when you are able to enjoy it more?

That’s where the income poor part comes in. When you build up to asset rich, you can quit before others do, when you still have energy to do whatever you want. When you spread your assets over more years, when you put your assets in the right place, your income looks poor but your quality of life isn’t.

When the media talk about income, as in the median household income in the country etc., they are usually talking about the income on the tax return. Income on the tax return isn’t the same as discretionary income — the money you get to spend as you wish. You can have low income and good discretionary income.

When you own a home free and clear, your housing expenses are greatly reduced. You don’t need as much income to cover your housing expenses. Living mortgage-free isn’t income. Compared with other people with the same income on the tax return, your income goes farther.

When you are no longer concerned about job opportunities, you can choose where you live. Lowering your cost of living isn’t income. Your low income on paper just goes farther.

When you withdraw from a taxable account, spending your own money isn’t income. Realizing capital gains is income but it’s taxed at 0% when your income is otherwise low because of your low housing expenses and low cost of living.

When you slowly convert your traditional money to Roth, you pay very low taxes.

When you no longer draw a salary, you stop paying Social Security and Medicare taxes. Your low income goes farther still. You can join seniors in arguing for saving Social Security by removing the wage cap and raising the contribution rate, on those who still work, of course.

When you plug in a number of zeros into the 35-year work history Social Security looks at, your earnings average over 35 years looks low. The government will give you a better deal as if you had low earnings every year for 35 years.

When you spend your own money before age 70, you can afford to delay claiming Social Security until then. The government will give you yet another good deal for the delay.

By the time you start Social Security at 70, you already converted the majority of your traditional money to Roth. Supplementing Social Security with money from Roth accounts keeps your Social Security tax free.

As long as you contribute to Medicare for 10 years, you get the same Medicare as anybody else at 65. Contributing for more years doesn’t give you anything extra.

When your income is low on paper, you get subsidies for your health insurance thanks to the Affordable Care Act. It doesn’t matter if you also have low expenses.

When you have time, you don’t have to spend a lot of money to enjoy leisure. Skiing through the pines as shown in the feature photo is practically free. Fresh air and exercise are your bonus. You cook from scratch, which is both healthier and less expensive. You enrich yourself with books from the library and free online courses.

All of these contribute to a good quality of life at an income that looks low on paper. I look forward to that day. If all goes well it will take another 3 years. Until then, I will keep working on those “decks” my manager wants.

[Photo credit: Flickr user Bobcatnorth]

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  1. KD says

    Great piece! Great news that you are just 3 years away! Congratulations! Few questions about the nuts and bolts of this strategy: How does financial aid for college get affected by this strategy? How about disability insurance? How expensive is it in free market and can one sign up for a policy if one is not working?

  2. Harry says

    KD – Because financial aid only looks at the parents’ income in the previous year, if you are able to pull it off before the kid applies for aid, a lower income on the tax return will only help, not hurt your chances for getting financial aid. Your large assets may still disqualify you but assets are weighed much less than income and also defined narrowly. Your paid-off home doesn’t count. Your retirement accounts don’t count.

    If you are not working, you likely won’t qualify for disability insurance. Why do you need it?

  3. Troy says

    Great post. I’m really cutting back on my living expenses right now so that I can save up my money for my investment account. one day I’ll be rich and pretired.

  4. KD says

    I understand that insurance companies won’t provide disability benefits if you are not suffering a loss of wages. I guess they there is no way to insure “loss of ability” through a policy. I wonder on how to plan if say, you become dependent on care from others due to disability after leaving work. If you were working, then at least there might be a chance of being paid a disability claim.

  5. TJ says

    You can certainly collect on a private disability policy if you are not working when you get disabled, you just can’t qualify for a new policy. So get your policy well before you decide to quit and you won’t have any issues.

  6. dan23 says

    @KD: For financial aid, it really depends on the school and where you have your financial assets. If your financial assets are in 401ks/iras and pensions, and your kid gets into Harvard , you pay nothing for your kid’s education at above median incomes (most of the ivy league, actually, has replaced loans with grants and is similar). If the financial assets that generate your income are in real estate or taxable accounts, you are probably out of luck.

    You could play around with this calculator for Harvard: http://npc.fas.harvard.edu/

  7. investor says

    @dan23: What about a 529 plan? If someone will be in the position to be asset rich and income poor by the time their children attend college, then it is almost counter-producitve to aggressively fund a 529 plan? Where else can you be asset rich but not lose financial aid? What if you reinvest most of the income from your real estate? Say you pay yourself $80,000 per year for your personal overhead. But you have real estate assets with equity at over $5m. Any idea how that would look to financial aid people?

  8. dan23 says

    I believe the 529 plan almost entirely counts against you when it comes to financial aid. Not counterproductive if they have no shot at aid – but if they do, I think it is counterproductive. Not an expert on this, but other items: personal residence is generally okay (don’t know how it would work if you lived in a multifamily and rented out part), business and real estate are maybes if you value them such that debt>asset value. I think if you declared equity over 5m, you’d have no chance. If you had property such that you could say you had very little equity, due to debt, that might work, but I don’t know what type of documentation they would require. There are financial advisers who specialize on telling self-employed types how to get financial aid.

  9. Harry says

    @investor – 529 plan assets count as parents’ assets, same as taxable accounts. If you maximize contributions to all retirement accounts, and pay off you home mortgage, as you should anyway, any additional savings must still go somewhere. You might as well use a 529 plan, for you are not at any disadvantage versus a taxable account.

  10. Jeff says

    So, are you saying you think it’s ok to take advantage of subsidies under the Affordable Care Act to get health insurance if you have a low income, but enough assets to pay your own way fair and square? I don’t think this is really in the sprit of the subsidies… they are intended for those who would not otherwise be able to afford insurance, not for those who are purposely gaming the system.

  11. Harry says

    Jeff – I asked that question in a previous post. I didn’t hear any objection. It’s not gaming. It’s working under the same laws that everybody else works under. If mortgage interest deduction is intended to encourage home ownership but you would buy a home regardless, do you claim the deduction? If you would donate to a charity regardless, do you claim the deduction? If Social Security and Medicare are supposed to provide a safety net but you already saved enough, do you claim Social Security or enroll in Medicare?

  12. Jeff says

    Fair enough… and my reaction to tax planning was different, in that I agreed that the system is set up to allow it, so why not maximize. This just feels a little different… like there should be means testing beyond income in the law. This is different than Social Security and Medicare, because with those, you would have paid into the system for years before getting benefits–a kind of insurance… they are not subsidies.

  13. Harry says

    The health care subsidy is implemented as a tax credit. You calculate how much credit you qualify for. It’s not that different than the child tax credit or the energy efficiency tax credit.

  14. indexfundfan says

    Harry, very interesting. I have been thinking along the same line and planning to relocate to a less expensive part of the country, hopefully in two or three more years. After that, I will just live off my portfolio. With no mortgage, my income can surely be very low at that time. After years of being targeted as being the “rich who has to pay his fair share”, it will be payback time.

  15. Harry says

    It would be a nice change, wouldn’t it? No more AMT, Medicare surtax, tax on dividends and capital gains, all kinds of phaseouts, … Take some enrichment classes at a community college and get 20% in lifetime learning credit. Redeem some I Bonds tax free for the rest. Move to a state with no income tax and deduct the sales tax.

  16. indexfundfan says

    Yes, I intend to keep MAGI very low. That’s why I am asking a question on Bogleheads for a ZERO-dividend diversified stock investment. The closest I can think of is BRK-B.

    When I need money, the shares sold would produce capital gains, which can be offset by any capital losses harvested. This would not add to MAGI. Is my thinking correct?

  17. Harry says

    Yes capital gains are first netted with capital loss carry-forward before they add to MAGI. If you have more harvested losses than gains, your deduct $3,000 off your MAGI until the losses are used up.

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