Is it time to add some bonds?

[lost and found]

Country: Non-US...so keep in mind that there are a lot of things that US residents may take granted that we don't have access to, such as..joint filing, pre-tax deductions, access to incredibly low fee index funds.  Also the amounts quoted are in local currency not USD.

Life Situation: Husband (39) and Wife (36), plus two preschoolers and another one on the way.

Gross Salary/Wages: $890,000

Taxes: $305,000 (on the income above).

Net income: $585,000

Current expenses: We've been tracking this for 4 years, and we spend on average $100,000 per annum.  Our tax law is quite different to the US, so to keep things simple I'll just says that if we were to retire now - we'd need to be able to draw down $100,000 for expenses and a further $26,000 for taxes, so $126,000 all up.

Assets:

Cash $10,000
Cars $90,000
Home $1.1 million
Index funds (100% equities): $2.7 million

Liabilities:

Mortgage Nil
Car loan $48,000 (Interest free - EV)

As you'll have worked out we are rapidly approaching 25x, and our plan is to give up a corporate jobs in the next 12-24 months.  I don't think we will RE, but rather downshift to part-time positions or ad hoc consulting that will allow us to spend more time together as a family.  This income will probably just cover some overseas travel that we haven't factored into our annual expenses, although we really haven't put much thought into it.   There is also the possibility that we move cities where real estate is more expensive, to be closer to family and friends.    This would require about another $500k to maintain the same standard of home we have now. 

I'd love any feedback, but in particular whether it is time to start adding bonds to our portfolio and if so what percentage should we work towards? 

Thanks very much.

[Villanelle]

Do you have any pensions or old-age payments (like the US's social security, or something along those lines).  Does you country offer reasonable, accessible healthcare?

Does your $100k spending account for an additional child?  Does it factor in any assistance you may (or may not) want to provide for college?

Is that $100k fat FIRE, so you'll have room to make cuts in down markets?  (In the US, that would certainly be fat FIRE but IDK with currency or country we are talking about. 

It's hard to give much advice without knowing more details, but if your index fund are your only real assets, I'd probably want some bonds, yes, though it's hard to say without knowing a lot more details. 

[lost and found]

Do you have any pensions or old-age payments (like the US's social security, or something along those lines).  Does you country offer reasonable, accessible healthcare?

Does your $100k spending account for an additional child?  Does it factor in any assistance you may (or may not) want to provide for college?

Is that $100k fat FIRE, so you'll have room to make cuts in down markets?  (In the US, that would certainly be fat FIRE but IDK with currency or country we are talking about. 

It's hard to give much advice without knowing more details, but if your index fund are your only real assets, I'd probably want some bonds, yes, though it's hard to say without knowing a lot more details. 

Hello, thanks for your questions and comments. 

We do have a state pension that kicks in at 65. It is around $36,000 per annum for a married couple, after tax.  It isn't means tested, but it could be by the time we get to 65.  I haven't factored this in because I'm not convinced it will exist in the same way 25 years from now.

We also have a universal healthcare system, state funded.

The $100k does include enough to cover the 3rd child.  Of the $100k, about 50% is what we categorize at "survival" so there is room to cut discretionary spending if need be.  However, we are more likely to go back to work / take part time jobs if need be.

In terms of College, it is about $7,000 per annum per child, and can be funded with an interest free loan from the government. So for the time being our assumption is they will fund it by borrowing - as we did.

[Gremlin]

I'm in Australia.  I may not have this right, but I'm guessing you're across the ditch in NZ, based on the various descriptors (universal health care, non-means tested state pension at 65)?  Apologies if I've got it wrong, because it then invalidates a fair bit of what I'm about to say.

First, congrats on getting yourself in this position at your age.  Big salary/ies helps but it usually comes with a fair time commitment so you sometimes pay in other ways.  We are about 10 years ahead on the journey - have both been part time hours on our own terms for the past six years now and would never go back.  Could pull the pin tomorrow if we had to, but still find the balance good.

We currently DON'T have bonds in our mix and I'll explain why.  You may want to replicate something like what we have, but obviously feel free to go your own direction.

Second, you talk about potentially moving to a HCOL (Auckland?) and buying a more expensive home.  If so, I presume you'd either think about a new mortgage or sell down some equities to cover the 'gap'?  I'm pretty sure NZ has offset loans, like we do.  If you do what we have done, you'll probably take a new mortgage.

We didn't need a mortgage, but we took as large a mortgage as we could get prior to moving to part time.  We then completely offset it.  From our perspective, the offset account is effectively a quasi-bond.  When interest rates are low and/or markets are down, we can draw our living expenses from the offset.  Otherwise, we can sell down equities (or live off distributions from the ETFs if sufficient) and replenish any drawn down offset.

Although, we've found that we still are earning more than enough part time that we're not drawing anything at this stage.

[lost and found]

You've hit the nail on the head with most of your hunches!

Regarding the offset account, what a great idea, I hadn't thought of using it as you've described.  We actually already have a large offset facility in place, it has just been unused for years.

In terms of the house upgrade. The idea is that this will be funded out of the savings we accumulate over the next year or two before we pull the pin. 

Similar to you, the idea of working part time / reduced hours is something I'm really looking forward to.  And whilst we are striving toward 25x (and the extra $500k for the house) I could easily see us earning enough from casual work to cover most of our annual expenses.     

It is a very fortunate position to be in.

[evme]

We didn't need a mortgage, but we took as large a mortgage as we could get prior to moving to part time.  We then completely offset it.  From our perspective, the offset account is effectively a quasi-bond.  When interest rates are low and/or markets are down, we can draw our living expenses from the offset.  Otherwise, we can sell down equities (or live off distributions from the ETFs if sufficient) and replenish any drawn down offset.

Can you please explain this for me? I don't understand what you did here and what you mean by "then completely offset it".

[Gremlin]

The OP is in New Zealand.  I'm in Australia.  Our countries are more similar than either of us would like to admit. 

Here we don't have fixed interest loans for the duration of the loan.  You can fix at the start of the loan, but usually only up to three or five years (strictly speaking, you can go longer, but you often pay a premium that makes it unaffordable).  So most people have variable home loans.

However, we do have a magical beast called an 'offset account'.  An offset account is a transaction account.  It pays no interest, but the balance of the offset account offsets your variable home loan balance when calculating the interest payable on your home loan.  Easiest way to understand it is by example.

Let's say I have $500,000 outstanding on my home loan.  I also have $300,000 in my offset account.  The interest I pay is calculated on a net balance of $200,000, not the $500,000 outstanding.

Offsets are great if you're disciplined with your money, since money into the offset gives an effective return of whatever your home loan interest rate is after tax.  You put all your income into your offset and withdraw your expenses as you accrue them and that helps save interest day to day.

But they can be particularly effective for FIREes.  Particularly someone like the OP who is obviously a high income earner.  As a high income earner, he will have the ability to borrow lots.  But he also has a lot of cash and doesn't really need to borrow.  Given he intends to FIRE in the short to medium term, his ability to borrow in the future will be less than his ability to borrow now.  But he can get a loan now, using his high income borrowing capacity and 'reserve' it for when he's FIREd.

Let's say our OP borrows $1.5m to buy a house in Auckland.  He doesn't really need to borrow, he could pay cash.  But he borrows that money and uses $1.5m of his cash to fully offset his home loan.  He then pays no interest on the loan (he will have to make a minimum payment, but it will all be principal, and it can be set up to draw directly from the offset).

The offset account becomes his emergency fund.  It also becomes a quasi-bond allowance.  When it's cost effective to do so, you sell down equities (or use distributions from equities).  When it's not, you take some cash from the offset.  You may then have to pay some interest since your net home loan balance is now positive, but when it becomes cost effective to do so again, you draw from equities to fully replenish the offset.

I'm not sure about the OP's situation as a NZer, but in Australia, if your home loan with offset is secured against an investment property, rather than you PPOR (Principal Place of Residence), any interest you pay in that scenario may also be tax deductible.

[mspym]

I like @Gremlin's suggestion of the offset account as a quasi-bond. We probably should have arranged for a mortgage + offset when we were high-earners but our overseas residency at the time made it just a lot simpler to pay cash when we bought.

I am assuming the bonds are for income smoothing and offsetting the risk of needing to take funds out of shares during a downturn? Are bonds paying more than term deposits and on-call or notice accounts, using a PIE-holding to cap your tax liability on the earnings? Any time I looked at bond offerings, I could generally get similar rates from banks for savings.

Congratulations on being in such a good financial position. You're doing great. Being able to pick a well-fitting part-time or short-term role is a game-changer.

[lost and found]

[May 2024 Update]

For those that are interested, here is an update 6 months on from the original post.

Financially it has been a good period. Our NW has continued to grow and our savings rate remains high. We've added some Bonds/Cash while the market is at all time highs as we move closer to Early retirement / Semi retirement.

Our latest liquid NW is broken down as follows:

Cash:              $65k
Bonds:           $235k
Equities:      $3,005k
EV loan:           ($44k)
Total LNW:     $3,261k


The financial side of the equation is more of less on autopilot and has continued to more forward at pace. 

The biggest dilemma we face is non-financial, which is working out when we give up our high paying corporate jobs and take a break to work out what the next phase of our life looks like.   Neither of us are particularly enjoying what we are currently doing - but taking the next step is proving to be harder than we expected.  it is also difficult to contemplate what that next stage looks like when you are so consumed with the demands of our existing jobs and young family.

Anyway that is all for now - just checking in.

[lost and found]

[November update]

Since my update in May, the markets have been very kind and our income has been higher than expected.

As a result we've hit our FI number of $4m (based on a 3.5% WR), and currently invested as follows:

Cash:              $10k
Bonds:           $300k
Equities:      $3,808k
EV loan:           ($38k)
Total LNW:     $4,080k

Undrawn line of credit ($500k).

From here we are planning to accumulate another $500k for a future house update. And whilst doing that determine where to next.

[Malum Prohibitum]

[November update]

Since my update in May, the markets have been very kind and our income has been higher than expected.

As a result we've hit our FI number of $4m (based on a 3.5% WR), and currently invested as follows:

Cash:              $10k
Bonds:           $300k
Equities:      $3,808k
EV loan:           ($38k)
Total LNW:     $4,080k

Undrawn line of credit ($500k).

From here we are planning to accumulate another $500k for a future house update. And whilst doing that determine where to next.

Wow, congratulations.   It is hard for me to comprehend these kind of numbers, but obviously you are doing a good job and need not worry too much about the future.

[lost and found]

Thank you :-)

Just remember these are New Zealand dollars, not US. But yes, a high income / high savings rate makes a massive difference.

[Malum Prohibitum]

Thank you :-)

Just remember these are New Zealand dollars, not US. But yes, a high income / high savings rate makes a massive difference.

Ah!  I did not realize the conversion rate was so drastic.  Still a very good income, but closer to something I can comprehend, and obviously you have been doing a good job of saving.