Your Home Shot Up in Value. Now What?

Apr 25, 2022 David Kennon

Family Update

 

Our family just keeps getting bigger. My wife has three siblings, all of whom live locally, who have a total of eight kids. Now some of their kids are bringing dates. We had thirty people on Easter. 

That’s a lot of ham! 

The kittens and dog are becoming good friends. Desmond the puppy plays really rough with them, even picking them up by the scruff of their necks. 

But I guess they don’t mind. See the picture.

 

Jimmy and Roberta Miller, recently retired, were having coffee on their lanai. The house next door had a “For Sale” sign in the front yard; their neighbors were moving up to North Carolina to be closer to the kids.   “They are asking $500,000 for that place!” Roberta said in amazement. “These houses were selling for $300,000 last year. What is happening?”   Jimmy responded, “If you suddenly realized that you could work from home, anywhere in the country, why would you stay in Buffalo or North Dakota or Omaha?”   “Good point,” Roberta said.   “We own this house free and clear. It’s more updated than the neighbors and we have a better lot. I bet we could get $500,000 easily,” Roberta said. “There are so many things we could do with that money. We are 65 years old. I imagine that over the next ten years we will spend a lot of money on fun things that we’ve worked for. How do we get access to that money?”   “We could downsize to a smaller place. It would be a shame though, we have this house just the way we want it. Not to mention that townhome and condo prices are going through the roof as well,” Jimmy said.   “I agree,” Jimmy said, nodding.   “Your buddy Nick used to be a banker, right?” Roberta asked. ‘Why don’t you ask him what we should do.”   Jimmy called up Nick and explained his situation.   Nick told him, “Jimmy, you really have three options. You can get a home equity line of credit, a cash-out refinance, or a reverse mortgage.”   “Can you explain the pros and cons?” Jimmy asked.   “Sure thing,” Nick replied.   Nick went over their options.   1. They could get a home equity line of credit.   Most banks are willing to open a line of credit up to 80% of your loan to value (LTV). Since their house is worth $500,000, they could open a line of credit for around $400,000 (80% of $500,000).   The money can be used for anything. Maybe they want to do home renovations or pay off credit card debt. Once the credit line is open, the Millers don’t need to take out any money if they don’t want to.   Once they do, they will need to start making payments. Most HELOCs give an “interest-only” option. The Millers don’t need to pay down the principal of the loan. They only have to pay the interest.   The interest is based on the prime rate. Usually, the terms of the loans say something like: Your interest rate is prime + 1%. The prime rate is an interest rate determined by individual banks. It is often used as a reference rate (also called the base rate) for many types of loans.   The prime rate is currently 3.5%, so if the Millers got a HELOC with a prime + 1.25% loan, the interest rate would be 4.75%.   “You need to be careful with HELOCs, though,” said Nick. “Most utilize variable rates. This means that if the prime rate increases, your interest rate increases. Just for a point of reference, in 2007, the prime rate was 7.5%.   “And remember that if you don’t make your HELOC payments, the bank has the option of foreclosing on your home.”   2. They could do a cash-out refinance.   This simply means that they get a new mortgage on the home. Generally, a homeowner can get 80% of the equity from the property. So if Jimmy and Roberta refinanced their home, they would need to get a mortgage on the $400,000 (80% of their equity).   Now they are paying on a $400,000 mortgage which in today’s rate environment would cost about $2,000 a month.   So, in this example, Jimmy and Roberta took $400,000 of tax-free cash in their bank account and started paying $2,000 a month on their new mortgage.   Nick explained, “This can be a powerful way to get money out of your home. Usually, whenever one of my clients dies, the kids get the house, sell it, and split the proceeds. Do you care if your kids get a fully paid-off house, or would you rather enjoy that money/equity while you’re alive?”   Of course, the Millers would now have a mortgage again. Many people don’t like that idea at all. But it can make sense for some.   Another complicating factor is that interest rates are rising. So they would be getting a loan with an interest rate of 5% or more.   3. They could get a reverse mortgage.   Nick went on, “When I say “reverse mortgages” to people, I get very emotional reactions. People sitting across the desk from me cross their arms and proclaim, ‘There is no way I would ever do that. It is a scam and I could lose my house!’   “The truth is, reverse mortgages are backed by the federal government. They’ve gotten a bad name, but they are definitely something you may want to consider.”   In Jimmy and Roberta’s situation, the reverse mortgage bank might offer a $300,000 payout. They would then have a $300,000 debt that they never need to pay back.    The debt keeps growing because the reverse mortgage bank is charging an interest rate. When the Millers die or sell the home, they (or their kids) pay what is owed, and pocket the rest. If the home is worth less than the loan, it’s not their problem. The bank will have to eat the loss.   “Is the money I get from the reverse mortgage taxed?” Jimmy asked.   “No,” said Nick.   “Can the bank cancel the loan and ask for all the money back?”   Again, the answer was no.   “Can I get a reverse mortgage if I still have a mortgage on my home?”   “Yes.”   “How much will the bank give us? How do they determine the payout?” Jimmy asked.   “It mostly depends on your age,” explained Nick. “One spouse must be at least 62 years old.”   Jimmy and Roberta hung up the phone. “I guess we have a lot of options,” Roberta said. “Has there ever been a time in the history of real estate where properties doubled or tripled in value in less than a year? I’m glad we’re not moving down here to buy a house right now!”   Be Blessed,   Dave

 

Spending Money in a Volatile Economy

Apr 18, 2022 David Kennon

Family Update

We named our big kitten “Hemi,” because he purrs so loud it sounds like a Hemi engine. He likes to plop next to your head in the middle of the night, and wake you with what sounds like a running motor.

My two middle boys adore this cat. My normally quiet and aloof teenage son turns into a little kid rolling around with his big fluff ball.

It’s funny how some people are dog people and some are cat people. My youngest and oldest love the dog and ignore the cats, and my middle two love the cats and get annoyed with the dog.

Below is the most recent trip to the vet. Senay is such a good helper!

 

John and Eileen, recently retired, sat at the kitchen table reading a newspaper. They had met with me a couple of months earlier. Per the plan we had put together, they started taking out the gains their retirement investment made.   John looked up from his newspaper and said, “Dave told us that he is sending us 5 percent of the portfolio value every year. Since we have $800,000 in savings, that’s $3,300 a month from the account. I’m so glad we met with him. Now we have a financial plan. The only money that we are spending is the money that the investments are making. Since we are only spending the earnings, it’s a sustainable long-term plan.”   “I agree!” said Eileen happily. “It is so nice to have permission to spend some of our savings.”   A few months passed by and the markets showed consistent growth. Not only were John and Eileen getting $3,300 a month, but the account was actually growing above and beyond the original value.   “This is great!” exclaimed Eileen. “I never considered this money would grow during our retired years. Dave was completely right. It is ok to start enjoying our hard-earned money.”   For a couple of years, the plan worked perfectly. The markets were performing well. Getting that check each month with the value continuing to rise almost seemed magical.   Then, the markets started faltering. John and Eileen began to see their portfolio value erode away.   “This is crazy,” Eileen said, “We can’t be spending money with the economy so uncertain. It’s irresponsible to take money out of an investment account when the value is down. Isn’t that ‘buying high and selling low?’”   “You’re right,” John said. “Shouldn’t we just stop the monthly distribution check? I would rather die than run out of money in retirement!”   “Hold on there, John. Getting upset and agitated isn’t going to help anything. Let’s call Dave and see what he says” Eileen said.   And this is what I tell them, and every retiree who calls me with this worry when the market has a little (or big) wobble.   This story is common to retirees. Usually, the fear and uncertainty you feel are based on a lack of historical perspective.   The first common misunderstanding is the total focus on securities/stocks. You don’t have all of your money in stocks. Diversified portfolios contain both stocks and bonds. Remember, generally speaking, whenever stocks go down bonds go up.   In 2008, during the housing crisis, the stock market went down by -36.55%. A portfolio of U.S. Treasury Bonds increased by +20.1%.   Whenever the stock market is faltering, you simply take your monthly distributions from the bond portion of the portfolio. Having a balanced and diversified portfolio gives you the flexibility to take money from what is performing well at the time.   This is a powerful tool against stock market cycles. For those of you who are clients of mine, while you probably don’t realize it, I’m sending you money from assets that are performing well. If the stock market is way down, you are getting your distribution check from the bond side of the portfolio.   The 5% you get each year is an average.   Let’s say you retired in 2005 and put $100,000 into the stock market. Three years into your retirement, you witnessed your account value plummet due to the housing bubble. But you still faithfully spent your 5% income check each month.   Ten years later in 2015, your account, after taking your 5% per year, would have still grown to $121,539. Just imagine if you spent those ten years completely ignoring your investments. It would have saved you a ton of heartburn.   If you had actually obsessively followed the markets, in 2009 your account would have temporarily dropped to $80,000. It is essential to understand that markets go up and down but overall they go up. Taking out 5% has worked every time for 90 years.   Let’s get really crazy. What happened if you invested $100,000 in 1935? Over the next ten years, World War II would come and go. Taking 5% of your portfolio each year would have been crazy, right? We were at war for goodness sake.   If you started with $100,000 in 1935 and withdrew $5,000 per year for ten years your remaining balance would have been in 1945 <drum roll please> $164,523.   Maybe this is a more simple way to explain this strategy. If between now and the end of your life, a balanced and diversified portfolio of stocks and bonds does not average 5% it would be the first time in economic history.   That’s true for our fictional friends John and Eileen, and it’s true for you too.   Don’t feel strange when you are spending money from an account that is going down in value. It is all part of the plan. There will be good times and there will be bad times. A well-designed portfolio and plan will allow you to spend the appropriate amount without fear.   Be Blessed,   Dave

 

A Thousand Stomachs Turned

Apr 11, 2022 David Kennon

Family Update

Having a puppy can be a lot like having an infant. My amazing wife gets up on the nights when the puppy cries. One time this week, in the middle of the night, she heard the dog whining so she went, picked him up and headed toward the back door. As she reached the door, she looked down, and realized she was carrying our cat.

The puppy and two kittens continue to feel each other out. The puppy can play pretty rough with the kitties, but they just sit there looking annoyed. Below you will notice that Desmond is not thrilled with sharing his food bowl.

 

Dave Kennon, a financial advisor, found himself in his office, sitting in front of Joe and Suzy. Like most of his clients, they were going through the process of retiring from their careers.   I have such a great job, Dave thought. Anyone that takes the time to plan for their retired years reduces their anxiety and increases their fun!. I’m going to do whatever I can to give them peace of mind.   “How much money do you want leftover when you die?” Dave asked.   “Nothing,” Joe replied. I want the last check to the undertaker to bounce!”   Dave continued, “So when do you plan on spending the money?”   Joe and Suzy looked confused. “I have no idea. We were hoping to live off of our Social Security but there is no way that is enough,” Suzy remarked.   “How much do you guys spend each month?” Dave asked.   Joe and Suzy looked at each other ashamedly. “We really don’t have a very good idea.”   It never ceases to amaze me, Dave thought to himself.  Most people enter into retirement with no real idea about how much money they can safely spend. They also don’t have a great idea of how much they are spending. It isn’t really their fault. This country is terrible at teaching basic financial skills in school.   Joe piped up. “This is what I figure. Since we have $500,000 in savings, and our life expectancy is about twenty years, all I need to do is divide $500,000 by twenty-five by $500,000. That means we can spend $20,000 a year.”   Suzy shot Joe a look, “My mom lived to ninety-eight. What do we do then?”   They are missing the biggest variable, Dave thought. Once you retire your money keeps growing. It’s not like all of your money is buried in the basement. I don’t really understand why people view their retirement finances this way. They witnessed their 401k investments grow over time. Why are they changing their thinking now?   After explaining some basic information about stocks and bonds, Suzy chimed in. “How safe are these investments? We are too old to take any risks. We won’t have any time to make it back up.”   Dave thought to himself, Joe and Suzy have zero historical understanding of stocks and bonds.     “What was the average return for stocks over the past 100 years,” Dave asked.   “I don’t know,” Joe said. “Five percent?”   Dave explained, “Stocks have an incredibly consistent track record. In fact, over any meaningful time period, stocks have shown around the same return. Often to the decimal point. Over the past ten, twenty, fifty, and one-hundred years, the markets have returned around 10%.”   Joe said, “Really? Why is that?”   “I have no idea,” Dave replied. “It’s just how markets work. I’ve chosen to rely on financial instruments that have worked for a very long time. Of course, I can’t guarantee what is going to happen in the future, but you have to put your money somewhere.”   “My friend lost all of her money in 2008. I lost a ton of money too. What if something like that were to happen? We would be ruined,” Suzy sighed.   I’ve heard this a hundred times, Dave thought. Why do so many people have this misconception? Investors who had their money in a diversified portfolio of stocks and bonds recovered any losses from the housing bubble in a couple of years.   Joe looked really nervous too. “Dave, this is all we have. We don’t have an income to rely on anymore. We can’t take any chances. I saw the market went down 1% yesterday. And that was just one day! I would have lost $5000!”   I feel terrible for these two, Dave thought. They have to pin their financial security on investment vehicles, that by their very nature, are volatile and unpredictable. How could they not worry? They are in an almost impossible situation. They can stick the money in a savings account and run out of money, or they can put the money into stocks and bonds and get sick with stress.     Dave continued his thought: A generation ago everyone received a pension once retired. Why did we change that system? It worked so well. No stress. You knew exactly how much you had to live on. You knew it would never change.     I guess these companies learned pretty quickly that traditional pension plans are incredibly expensive. So they simply said, “Let the employees save their own money into a 401k. We may match some of their contributions a little bit, but this takes the responsibility (and expense) away from us.”   a“Ok,” Dave said, “We are now going to put together a plan that determines your budget needs. We are then going to invest the money into a diversified and balanced portfolio of stocks and bonds. We are then going to send you 5% of the portfolio each year. This amount is not too much and not too little.”   Joe and Suzy scheduled an appointment for the following week, and drove home more hopeful than before.   Dave noticed that the stock market had lost another point for the day. As he looked over the downtown from his office he thought to himself, there are literally thousands of people in this city sick with worry right now. I bet a lot of them make emotional changes to their investment strategy. What a crummy way to live. If the markets go up you feel ambivalent, and if they go down you worry.   This is so frustrating, he thought, it doesn’t matter what the markets do in the short term. It just doesn’t matter. How do I convince people to ignore their investments? What I’m asking them to do is the complete opposite of every other source. It is a tall task to be a small voice in a noisy wilderness.   As Dave was leaving the office he felt a warm feeling welling up in his chest. Joe and Suzy’s life will be forever changed, he thought. Instead of living in fear, they are going to approach this new chapter of their life with a renewed sense of adventure and opportunity.   Be Blessed,   Dave

 

Getting Duped By a Celebrity Spokesperson

Apr 4, 2022 David Kennon

Family Update

 The Kennon Animal Kingdom is a busy place. With two new kittens and a puppy, the cuteness is overwhelming. The puppy and cats seem to get along fine now. The cats sit there looking annoyed while the puppy tries to play.

My son has taken up piano and it seems like he has a natural talent. Unfortunately, anytime he practices we need to lock the kittens in another room. 

Bob was sitting on his couch when he saw an advertisement that piqued his interest. It was a commercial from Rosland Gold.   William Devane is seen standing in front of a bank vault.   “Americans disagree on just about everything: Politics, religion, where to eat dinner,” he says. “But we can agree on one thing: an IRA backed by gold feels more secure than an IRA backed by paper.  Do you really want to build your retirement on paper?  Gold Bullion, Lady Liberty Gold and Silver proofs can help you preserve your wealth.”   Bob felt a sense of dis-ease.  Is that true?  I guess it is.  Gold will always be worth something, he thought to himself.   “An IRA backed from Rosland Capital can give you that extra layer of protection, so your retirement can withstand the troubles of tomorrow.  So ask yourself.  Are you safe?  Call now to get your free report.”   Bob thought to himself, the stock market is so volatile.  Maybe I’m not safe! Maybe this is a good way for me to sleep better at night.  And you can’t go wrong with gold.  It will never go down in value.  If the economy collapses I’ll be happy I’d bought some gold.   So Bob called Rosland Capital and put $100,000 worth of gold and silver coins into his IRA.  He didn’t actually possess the physical gold in his house.  It was being held by Rosland Gold who charged him a $100 “depository fee” each month. Of course, Bob could never actually go and see the depository.  He wasn’t exactly sure where his gold was being held.   A month later he got his first statement.   This can’t be right, Bob thought as he looked at his $65,000 account balance.   After a bit of digging, Bob became furious.  The coins he purchased had no intrinsic value in and of themselves.  Nobody is walking around paying for things with Lady Liberty gold coins.  If he sold the coins the value was closer to $65,000.  Real gold buyers are going to melt the coins down anyways.   Buying gold from a commercial on TV is always a bad idea.   I have lots of clients ask me about gold and I think Warren Buffett put it best when he said:   “Gold gets dug out of the ground in Africa, or someplace. Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. It has no utility. Anyone watching from Mars would be scratching their head.”   Moral of the story:  If a financial product is being constantly advertised, buyer beware.  Also, I have no idea how this gold scheme is even legal.  They make so much money taking advantage of people and then they pour their profits into new commercials to scam more people.   Next story….   Stan and Nancy, in their mid-70s, owned a life insurance policy that had a $500,000 death benefit (which would pay if Stan passed away).   Stan kept hearing about how you can sell your life insurance policy while still alive.   He saw the same advertisement dozens of times on TV.  The ad went something like this:   “Do you have a life insurance policy you no longer need?  Sell your policy for an immediate cash payment.”   (a couple in their late fifties appear on the screen)   “We thought we had planned for retirement, but we quickly realized we needed something to supplement our income. Our friend sold their policy to help pay for their medical bills and that got me thinking.  Maybe selling our policy would help with our retirement. So I called Coventry Direct.”   Maybe I could sell my policy, Stan thought.  We can always use extra cash.   So Stan called the company where a very nice salesperson took his information.  They seemed especially interested in his health.  Stan had experienced a heart attack a few years earlier.   After some calculations, the company offered to pay him $100,000.  Going forward, they would pay the premiums and receive the proceeds on Stan’s demise.   It’s not as much as I thought I’d get, thought Stan.  But I guess I don’t need that policy anymore.   Five years later Stan passed away.  The company received $500,000 in life insurance proceeds.   That was a $400,000 mistake, his wife thought angrily.   Dave’s Commentary:  This product is called a “life settlement.”  Stay away.  The company pays you pennies on the dollar for your life insurance.  They only take on people who are in poor health.  If you are in terrible health and want to sell your life insurance policy don’t do it!   Any medical debts you build up can be paid off with the life insurance proceeds once you’re gone.  Remember, if you see a commercial touting a financial product over and over again, it’s generally a bad idea.   Be Blessed,   Dave