Case Study - Parents Sold the Farm!

[change_seeker]

My parents just sold their portion of the family farm and the property will close in the next few weeks.  My dad works in the ag industry in a rather dangerous position.  My dream is that now the farm is sold he can stop working this job and enjoy his kids and grandkids.

Net sale proceeds:  $450,000

Property value has decreased since they inherited, so should be no capital gains taxes.

W-2 Salary/Wages: $74,000/yr

Individual amounts of each Pre-tax deductions 401k, HSA, FSA, IRA, insurance, etc.:  Not currently contributing.

Other Ordinary Income: Annuity that pays $6859 for the next 9 years.  They converted a former 401(k), not sure why they started drawing it down.  Perhaps a good gap to SS though?

Qualified Dividends & Long Term Capital Gains: n/a

Rental Income, Actual Expenses, and Depreciation: None

Taxes: Federal, state/local, and FICA.  Not sure what their current tax rate is.

Current/planned monthly expenses:

Tithe:          $300
Home Repairs:   $250                                                                                                            ?
Electricity:    $200
Phone:          $180 (incl landline & cell phones)
Home/car ins.   $400
Medical ins.    $600
Trash           $10.75
Property Taxes  $100
Life Insurance  $25
Medical         ??
Fed taxes       ??                                                                                                       ?
Groceries       $500
Gas             $300
Miscellaneous   $500

Expected retirement income starting in 2022: Social Security $27936/yr

Assets: Mobile home on 3 acres that a prior owner contructed a stick-built home around and put a basement under.  Hence the high mortgage payment.  Several horses.

Liabilities: Mortgage. Mortgage interest is 7.9%. Balance is $16478.  Several horses.

How should my parents invest the farm sale income?
Is it wise to pay off the mortgage given the high interest rate?
How can they determine how much they will pay for Medicare once eligible at 65?
What is the best tool I can use to show them that the more of the money they spend now, the less they will have each month to live on?  They are talking about a pickup, and skidsteer, and a new garage (oh my!)

Can they safely retire now?

[jeroly]

1. yes, pay off the mortgage - or refinance to a sub 3% rate if they can.
2. I'm seeing something like $40k annual expenses plus some unaccounted expenses which could be substantial (e.g. extra medical). Let's say the total is $45k/yr.  Eventually they will have $28k/yr in SS income, so they'll need $17k/yr.  To fund that with a 4% withdrawal rate they need $425k.  Plus they need $200k to fund the 5 years until SS, less the ~$7k/yr they'll get from that annuity for 9 years or $63k.  So I'm seeing a total need of about $562k and they will clear $450k, so they still need to accumulate more money unless they can cut back.  However they're actually talking about spending more.  If they invest the sales proceeds in a balanced fund or something like a target retirement fund they might expect to earn 5% on average, and maybe they'll be ready in two or three years provided they don't spend big bucks like they're talking about doing.
3.  I really doubt that you have their expenses correct.  They have $74k/yr of income and maybe $45k of accounted-for spending, yet they have $0 savings.  So I'm guessing that they are really spending more like $60k+/yr.
Good luck sorting it all out!

[yachi]

Any plans for a pivot to a second career: horse boarding, earthmoving business...?

There is a lot of incoming money that's not accounted for in the current spending.  There is 74K of income, and $6859 of Annuity money coming in, but none of it being saved.  Unless it's paying off a debt, it's being spent somewhere.

I don't see any horse-related expenses: Vet bills, food, farrier bills, grooming.  Boarding -are they on your parents' property?  If so, Barn repairs, bedding costs.  If not, boarding costs.

Without detailed cost information, or a knowledge of what expenses are going away, I'd assume your parents are spending all $80,859 that's coming in.

If they want to continue spending $80k in retirement, it looks like they are $52k short.  At a 4% withdrawal, that would require $1.3M.

But,
There is no need for their expenses to stay fixed at such a high rate - Can the horse situation be changed, where they board horses for other people instead of owning their own? 

[change_seeker]

1. yes, pay off the mortgage - or refinance to a sub 3% rate if they can.
2. I'm seeing something like $40k annual expenses plus some unaccounted expenses which could be substantial (e.g. extra medical). Let's say the total is $45k/yr.  Eventually they will have $28k/yr in SS income, so they'll need $17k/yr.  To fund that with a 4% withdrawal rate they need $425k.  Plus they need $200k to fund the 5 years until SS, less the ~$7k/yr they'll get from that annuity for 9 years or $63k.  So I'm seeing a total need of about $562k and they will clear $450k, so they still need to accumulate more money unless they can cut back.  However they're actually talking about spending more.  If they invest the sales proceeds in a balanced fund or something like a target retirement fund they might expect to earn 5% on average, and maybe they'll be ready in two or three years provided they don't spend big bucks like they're talking about doing.
3.  I really doubt that you have their expenses correct.  They have $74k/yr of income and maybe $45k of accounted-for spending, yet they have $0 savings.  So I'm guessing that they are really spending more like $60k+/yr.
Good luck sorting it all out!

Thanks, I will (gently) probe into the missing $30k/year!

[change_seeker]

Any plans for a pivot to a second career: horse boarding, earthmoving business...?

There is a lot of incoming money that's not accounted for in the current spending.  There is 74K of income, and $6859 of Annuity money coming in, but none of it being saved.  Unless it's paying off a debt, it's being spent somewhere.

I don't see any horse-related expenses: Vet bills, food, farrier bills, grooming.  Boarding -are they on your parents' property?  If so, Barn repairs, bedding costs.  If not, boarding costs.

Without detailed cost information, or a knowledge of what expenses are going away, I'd assume your parents are spending all $80,859 that's coming in.

If they want to continue spending $80k in retirement, it looks like they are $52k short.  At a 4% withdrawal, that would require $1.3M.

But,
There is no need for their expenses to stay fixed at such a high rate - Can the horse situation be changed, where they board horses for other people instead of owning their own?

Horses...

Today my dad's job requires them.  He is an inveterate horse trader, so the chances of horses going away is very slim.  Rather than riding them at a feedlot, I foresee him training horses for others.  Some of the miscellaneous category above and the missing $30k is definitely horse feed and vet bills.  He is a farrier as well, so no costs there.

[change_seeker]

Also (this is rather embarrassing) my dad is eligible for full SS in one year.

[jeroly]

Also (this is rather embarrassing) my dad is eligible for full SS in one year.

Well that reduces the gap funding necessary from $200k to $40k, so just about right there.. if their spending is actually $45k.

[ericrugiero]

Op: They have $74k/yr of income and a mortgage plus no savings.  They are spending > $74k/year.  Math is simple. 

(You don't know their taxes/tax rate, so they're spending whatever they bring home plus more, and even more the more they have car payments and the like.)  The key: They are using their income to constrain their spending. 

So now, you can expect that they will use $450k to constrain their spending--until it's gone.  Best case is that they buy a few assets to help them alter on.  That's best case.  They're not retirement ready at all.

+1 

Also, they are the parents in the relationship which means they are very unlikely to listen to financial advice from their kid. 

OP, you are in a tough spot.  You care about your parents and want what's best for them.  But, you didn't say anything about them asking for advice.  In your shoes, I would very carefully make some suggestions and ask if they are familiar with the 4% rule.  The $450K (invested for a few years) combined with SS (if they delay taking so it can grow) could quickly allow them to reach a point where they have enough savings for retirement.  They aren't there yet unless they majorly reduce spending. 

Definitely pay off the mortgage.  The high interest is guaranteed savings.  With a balance of $16.5K it's easy to pay off right now and if they refinance they will probably take out more money to spend which creates even more problems. 

I sympathize because my in-laws are in a similar situation.  They are spenders who haven't saved nearly enough.  I wish I could help them but am limited in how much advice I can give without offending. 

[former player]

Any plans for a pivot to a second career: horse boarding, earthmoving business...?

There is a lot of incoming money that's not accounted for in the current spending.  There is 74K of income, and $6859 of Annuity money coming in, but none of it being saved.  Unless it's paying off a debt, it's being spent somewhere.

I don't see any horse-related expenses: Vet bills, food, farrier bills, grooming.  Boarding -are they on your parents' property?  If so, Barn repairs, bedding costs.  If not, boarding costs.

Without detailed cost information, or a knowledge of what expenses are going away, I'd assume your parents are spending all $80,859 that's coming in.

If they want to continue spending $80k in retirement, it looks like they are $52k short.  At a 4% withdrawal, that would require $1.3M.

But,
There is no need for their expenses to stay fixed at such a high rate - Can the horse situation be changed, where they board horses for other people instead of owning their own?

Horses...

Today my dad's job requires them.  He is an inveterate horse trader, so the chances of horses going away is very slim.  Rather than riding them at a feedlot, I foresee him training horses for others.  Some of the miscellaneous category above and the missing $30k is definitely horse feed and vet bills.  He is a farrier as well, so no costs there.

If your dad is "an inveterate horse trader" then that adds a considerable additional amount of uncertainty into the income and expenses figures you have been given - he might be making a lot of money and spending it all to make his expenses even higher than you think or he might be losing most of that missing $30k - there's no way for you (and quite possibly no way for the taxman) to know.

(Source: a long time ago I used to work for a horse trader as a holiday job.)

[change_seeker]

Thanks all for the feedback.  My parents met with an Edward Jones representative and provided him all their details.  I asked for a copy of his recommendations in writing, she responded with "they are going with this guy because they are comfortable with him."

His response:
If they invest $400k with him they will still have $300k of capital at age 95.
My dad can retire at the end of this year when he turns 64.

Good news:
He mentioned investing in mutual funds and the 4% SWR!!!
No mention of annuities!

I discussed the option of investing in Vanguard and have me help them out, they see this as higher risk and want the assurance of having a professional advisor.  I stopped pushing that route.

My advice to them was try to live on $45k/yr until December and DO NOT MAKE ANY BIG PURCHASES.  I *thought* that message was received, but then my last conversation with my Dad was about his broken tractor.  Not sure I can convince them to pare down animal operations on their 3 acres to a level where they are not reliant on a tractor.

[jeroly]

Thanks all for the feedback.  My parents met with an Edward Jones representative and provided him all their details.  I asked for a copy of his recommendations in writing, she responded with "they are going with this guy because they are comfortable with him."

His response:
If they invest $400k with him they will still have $300k of capital at age 95.
My dad can retire at the end of this year when he turns 64.

Good news:
He mentioned investing in mutual funds and the 4% SWR!!!
No mention of annuities!

I discussed the option of investing in Vanguard and have me help them out, they see this as higher risk and want the assurance of having a professional advisor.  I stopped pushing that route.

My advice to them was try to live on $45k/yr until December and DO NOT MAKE ANY BIG PURCHASES.  I *thought* that message was received, but then my last conversation with my Dad was about his broken tractor.  Not sure I can convince them to pare down animal operations on their 3 acres to a level where they are not reliant on a tractor.

Edward Jones is only more professional than Vanguard in the sense that they will take money away from your parents more professionally.
This is perhaps the stupidest thing they can do - buying bitcoin at least has a chance of making money whereas they will certainly lose $$$ this way.
Anyone making that kind of promise of performance is clearly a liar and a con artist.
As far as investing in mutual funds... well of course. He will put them in their own funds with huge expense ratios, perhaps 0.75%-2%/yr.  They will probably underperform the market even without those expenses taken into account.  What stock-based investments they make need to be in total market index funds, which generally have 0-0.05% expense ratios and are way more diversified than your typical actively managed mutual fund.

[DaMa]

I'm a finance professional (retired at 48) and my parents still would rather pay Fidelity to manage their IRAs.  Rarely are parents ok with taking advice from children.

[Goldielocks]

I'm a finance professional (retired at 48) and my parents still would rather pay Fidelity to manage their IRAs.  Rarely are parents ok with taking advice from children.

This.

And paying someone that will help prevent them from withdrawing money and spending it would help far more than the, what 5% fees EJ may take annually through churn and commissions?

Anyway you can get them to go into investments that they can't get out of for at least 7 years, with the bulk of the money?  Something even EJ can't unlock?