Author Topic: Our strategy for financial independence....  (Read 10875 times)

Rodstar

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Our strategy for financial independence....
« on: September 23, 2013, 06:42:30 AM »
This is my first night and first post on mrmoneymustache.com.  It's very satisfying to know there are so many like minded people here!

Our journey to FI so far....

We live in Canberra, Australia.  I am 41 and my wife is 37.  We have a 2 year old daughter and a new bub on the way (due December 4!). 

I earn $170,000 a year and my wife earns $110,000.  Our home is worth $700,000 with no mortgage.  We also have 6 investment properties valued at $3,400,000 with a combined debt of $2,800,000.  Two of these properties are duplexes (i.e. 4 sources of income), so there are 8 sources of rent.  The portfolio is made up of both cash flow positive and negatively geared assets, but is cash flow positive overall.  I have $300,000 in superannuation and my wife has $100,000.

Our strategy for the next 5 years is to pay off as much debt as possible (at least $100,000 a year).  We also intend to both work 4 days a week from the beginning of 2015.   After the 5 years we intend to sell 2 or 3 houses and pay off the debt on the cash flow positive properties (the duplexes) (I have assumed a rate of 4% capital growth per year).  This should provide a net before tax income stream of around $80,000 a year.  From then on we intend to work 3 days a week until retirement at 60 (possibly a little earlier).  At this stage we don't want to retire "too early".

To give us some diversification, we'd also like to invest in managed funds.  The question I am wrestling with is whether we should start now or wait a few years until we have paid off some debt.  Obviously given our level of lending we are very sensitive to interest rate risk.  Also, is our strategy sound or does anyone have any suggestions on how we could better set ourselves up?  We did not use a trust to buy the houses, however the property we intend to keep is owned 50/50 between us.

SnackDog

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Re: Our strategy for financial independence....
« Reply #1 on: September 23, 2013, 07:09:29 AM »
With the slowing of the Australian economy, you may wish to consider diversifying your assets beyond real estate. I suggest some international index funds which are not too heavily weighted toward China since they would correlate too closely with the Australian economy.

Dulcimina

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Re: Our strategy for financial independence....
« Reply #2 on: September 23, 2013, 08:30:51 AM »
Just curious why you would pay off the debt if you're planning to sell within 5 years.

aclarridge

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Re: Our strategy for financial independence....
« Reply #3 on: September 23, 2013, 01:00:04 PM »
You certainly have a good amount of assets, so kudos there, but also a fair bit of leverage and a huge amount of risk in the Australian real estate market. I'd read up on asset allocation and maybe sell off the cash-flow negative properties and invest the proceeds in a diversified portfolio. If you bring your living expenses down, you might have a lot fewer years left working than you think...

Rodstar

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Re: Our strategy for financial independence....
« Reply #4 on: September 23, 2013, 09:35:12 PM »
Thanks for the feedback guys.  Much appreciated. :)

Dulcimina - our strategy is to pay off as much debt as possible and hope for capital growth over the next 5 years so that we will have enough equity to own at least 2 high yield properties outright (maybe even the best part of a 3rd property).  The houses we intend to sell are the ones with the best chance for capital growth and the ones we intend to keep will provide a good income stream once the debt is paid off.  We don't want carry any debt for more than 5 - 7 years.

FI40 and SnackDog - agreed.  I have been struggling with the "putting all your eggs in the one basket" lately.  $500,000 of our funds are tied up in 1 property.  We could bring its sale forward a few years, which would give free up cash to invest in other asset classes.  However, the challenge with that is the equity in the property helps support the mortgages on the other properties.  The bank may not be willing to release all the funds.  With this in mind, we would still be able to get our hands on a good amount of cash for investment in managed funds.  Further, we could invest an amount each month to take advantage of dollar cost averaging.

I just hope that if we invest in managed funds that when we want to realise the gains (!) that there are gains and we can still pay down the property debt to supplement our part time day jobs with the rental income, without having to service debt.  In the late 90's I was burned by the share market through margin lending and poor advice from financial advisers (and my inexperience and greedypants!).

Bringing our living expenses down is another story.... :)

Le Dérisoire

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Re: Our strategy for financial independence....
« Reply #5 on: September 24, 2013, 06:42:01 AM »
I don't know about Australia, but here in Canada the historical average capital growth for real estate is only a little bit more than inflation.

Instead of aggressively puting more money in real estate by paying of your debt, shouldn't you invest in other assets such as stocks?

aclarridge

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Re: Our strategy for financial independence....
« Reply #6 on: September 24, 2013, 06:43:01 AM »
Sounds good. What do you mean by managed funds? People here typically advocate diversified equity/bond index ETFs - low cost passive management. The reason being it's very hard to beat the index, and most managed funds do not consistently beat the index.

Dulcimina

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Re: Our strategy for financial independence....
« Reply #7 on: September 24, 2013, 10:39:51 AM »
Rodstar, in looking at your responses to FI40 and Snackdog, I can see that there might be other considerations to the order you chose for debt paydown, but I still don't quite get the benefits of the strategy.   Five years is a relatively short period, so why not accelerate the debt repayment on the properties you plan to keep (a one-step process, in a way) rather than making it a two step process by first paying down the mortgage on properties you are going to sell anyway?  The assumption is that the ones with higher capital growth will have equity regardless of whether you pay their debt down first or not.

 

Rodstar

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Re: Our strategy for financial independence....
« Reply #8 on: September 24, 2013, 06:43:56 PM »
Le Dérisoire - my thinking exactly :)  However, we still want to pay down the real estate debt as the property we intend to keep generate a great income stream.

FI40 - I mean investing in a portfolio of stocks that are managed by someone else.  I'm a complete novice when it comes to this type of investing.  I've hard many people advocate sticking with index funds for the same reason you stated.

Dulcimina - the reason we have chosen to pay down the debt on the properties we intend to sell is as follows.  The interest expense on the loans is tax deductible.  If at the end of the 5 years there is any remaining debt, I'd rather we owed the money on the properties we intend to keep as the tax deduction will still be available.  However, we're hoping to owe no money down the track. 

I understand what you are saying about a two step process, but I want to be sure we don't lose out on the tax deduction if things don't go exactly to plan.


happy

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Re: Our strategy for financial independence....
« Reply #9 on: September 25, 2013, 12:00:44 AM »
I mean no offence but this looks like a high income Australian (lovers of property) earners way of eventually generating a rental income stream. Yeah that was a face punch.  It exposes you to risk, and reliance on capital gain within your property portfolio. Are you confident of 4%? I don't want to start an Aussie property market argument, but the negative gearing strategy does rely on high capital gain to offset the loss. Sure you are getting a tax deduction (37c) but you are losing 63c to save 37c tax. I can sense from your post you have tried to offset with positive cash-flow properties so I guess you've worked all this out quite carefully. What will happen with property Down Under is anyone's guess. I don't think we will have a US style meltdown, but I am rather thinking the market will at best rise with COL... but then I'm just a random stranger on the internet with an opinion and my risk tolerance is low.

If you are seriously not going to retire til 60, consider maxing  out your super. Provided the rules don't change (and they could so who knows) your money comes out tax free as a pension if you don't take until 60 years old. This automatically gives you some share market exposure depending how it is invested. FWIW I think the govt will try to retain super as a tax shelter to encourage people to save, until it judges that super will mostly cover a basic retirement for most people (ie I think the 12% has to be going for a couple of decades).

I think you should start learning about shares now. Read JLCollins posts on shares, MMMs ones and Bogleheads for a start. As well as understanding how it all works, asset allocation is another area you need to look at. Don't go buying anything until you've educated yourself. Work out what asset allocation you should have now in the accumulation phase and what you would want in retirement.

To be honest,  your plan does not look Mustachian at all. You have 600k equity in RE and 400k old man money i.e. 1mill NW plus house (congratulations thats great!). Given you have a paid off house, you could retire NOW on 40k a year (at 4% SWR ) or 30k (at 3%), provided you have your money structured to give you cashflow. You talk about 80k rental income in the future...could you get rid/reduce  your debt now and net 40k a year? Your most expensive years are yet to come with those 2 children but even if you budget a bit higher, probably only 1 of you needs to work part-time. A Mustachian would probably consider downsizing a 700k house in Canberra....probably 500k should do it, but buying and selling costs will eat up some of the 200k surplus. Congratulations, as a Mustachian you're about done....if you want to remain a rampart consumer, well thats another matter. There's nothing wrong with utilising some of the principles espoused here using higher income and spending, but if you don't bother to learn to live happily on much less, then you miss out on a lot of the potential benefits of Mustachianism IMO.
 



Rodstar

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Re: Our strategy for financial independence....
« Reply #10 on: September 26, 2013, 06:44:47 PM »
Thanks for your response Happy.  Over the last few years I've realised the days of high capital growth in the property market are gone for now.  So no, I'm not confident of 4% but our strategy is not heavily reliant on capital growth.  However, we have bought some good quality houses in areas where population and infrastructure are expanding.  Naturally we are investing for growth, but providing the market doesn't go backwards (after 4 years of stagnation already) we can still reach our goal of owning 2 high income properties outright.  My calculator tells me we need to bank another $600,000 in the next 5 years.  That's achieveable, but if we fall a little short then that is ok.

As you mentioned, yes there is a lot of detailed planning around managing the cash flows and yes there is risk , but we went into this with our eyes open.  At the moment interest rates are low, so we are paying down as much debt as we can.  These levels won't last forever, but once the debt is paid it's paid forever.

Friends often tell me I'm crazy (haha maybe they are right) with this strategy as there are higher returns to be made with other investments.  I say to them that yes the % returns may be better elsewhere, but where else can you get so much leverage.  It's not like we are going to receive a margin call if the market dips.  Yes, yes I know the leverage means bigger losses...

All that said, you might now be wondering why I am still worried about our lack of diversification.  I guess it comes down to making sure we make the most out of our money during this phase.  No one wants to miss out :)  That said, I'll be taking it very slow with the sharemarket before jumping in.  As you suggested, maxing out superannuation is a good option, however there are constraints around how much we can salary sacrifice before the tax man bites.

No our plan as at today isn't very Mustachian.  We're just staring down the rabbit hole at the moment.  Working 5 days a week and then 2 days off just isn't the right balance, particularly when you realise you don't need to work full time once you have enough money to work less.  It also comes down to the value we're now putting on time versus money. Since becoming a father I've realised there is so much more fulfilling things in life that don't require money.  This is just the start of our journey and there are many many questions for us to answer as we plan out the next 5, 10 and 15 years.

happy

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Re: Our strategy for financial independence....
« Reply #11 on: September 27, 2013, 12:31:45 AM »
You have good insight Rodstar! I wasn't sure how my post would go down since its your first post.

When I said "max super", I just meant to the pre-tax contributions cap and/or the lifetime contribution cap. At your age I don't think there would be much advantage to go beyond that.

We've just had a great year in shares, with rises around 20%, so personally I am not sure its the best time to jump in right now, unless you are committed to dollar cost averaging over the long haul. But start learning and researching. You could create  a dummy  plan  or more than one and follow it for a while. The super you have likely is already at least partly in the share market. You can learn a bit without doing anything much by following the  ups and downs of your balance, and , if your fund offers it, try to come to grips with which investment option you are in and why.

I know you should be worried about asset allocation at some point because you have too many eggs in the RE basket. There are a few prominent RE investors here, but the RE market in US is entirely different. By the time you finish accumulation phase, and look to start drawing, it might be safer to have investments other than just RE and rental income.

I guess what I am wondering now is why you are posting here? What attracted you to MMM? On the face of it you asked for investment advice. But your mention of time and fatherhood suggests its deeper than that. Mustachianism can offer you a lot, if you can lower your consumption and expectations. If you haven't already done it read the recommended posts over several times with your spouse.  You can both keep running the rat wheel for another 5 years, largely missing that part of your children's early development (altho I note you plans to reduce days of work in a few years). Sounds like as long as the RE value holds, your strategy would work.

You haven't posted your disposable after tax income - due to your RE strategy, I can't really work out what that would be. And you haven't posted your living expenses (even just total monthly expenses without a breakdown would help). So I can't really judge how much more fat there is for you to cut. As a wannabe mustachian, my instinct is saying if you cut your expenses, and could simplify and rationalise your elaborate RE structure sooner, you could afford to have time NOW with your kids, particularly if one or both of you earn enough to cover your expenses whilst your stache grows with time and compound interest.

Please note I'm not any sort of accountant or financial wizard.  I'm just suggesting you could  creatively re-evaluate everything and see if you want to change your plan to allow you more time now. For starters do you need 2 rentals giving you 80k a year? What about 1 netting 40k? One or both of you could work part-time, to cover any additional expenses if you need more than 40k, plus stashing away a bit of old man money if you are going to work to 60, but if you want to retire before that, stash some outside of super. I see lots of possibilities, but only you can decide what your priority is.

Rodstar

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Re: Our strategy for financial independence....
« Reply #12 on: October 05, 2013, 03:02:53 AM »
Hi there.  Sorry for the gap between posts - it's been a busy week or so.  Right now we are down the coast for a few days taking it easy.

Yes will consider the super option and put some more thought into shares/managed funds etc.

The reason I'm here?  Over the last year or so I've become less motivated at work and indeed somewhat resentful that I devote so much of my finite time and energy to work.  To sum up my feelings on the matter, I'll quote Charles Bukowski:

"How in the hell could a man enjoy being awaked at 6:30 a.m. by an clock, leap out of bed, dress, force-feed, shit, piss, brush teeth and hair, and fight traffic to get to a place where essentially you made lots of money for somebody else and were asked to be grateful for the opportunity to do so?"

It's not a good thing having your grumpypants on....

In regards to your questions about our after tax income.  It's about $215,000 a year - if we are both working full time.  However, my wife will be off work for a year on maternity leave from December.  After that we'll probably be working 4 days a week each.  Our living expenses are about $55,000 a year.  Some people may consider that a lot, but Canberra isn't a cheap place to live either.  I am sure we could live on less if necessary.

In addition, our other major expense is $22,000 a year for a property we don't derive any rent from.  My wife's parents live there at the moment - in return for childcare (we couldn't stand the thought of bubby going to a childcare centre).  This may seem expensive, but the economies become better with 2 children.  At the start of 2015, the parents will be moving into a bigger place (i.e. 2 kids means more space required - backyard etc).  The rent foregone will then be $26,000 a year.  We bought this property rather cheap as it needs a little TLC.  Most of the jobs I can do myself and should add value.  This childcare arrangement may seem expensive (it is) but it also means we have family close by and our children have a close relationship with their grandparents.

This childcare arrangement will continue until both children start school - so about 5 more years (the same time as our 5 year plan...........).

There is also the possibility the kids may attend a private school with hefty fees.  I'm hoping they attend a good public school.  I'm not big on private education (another story), so it's something the wife and I need to sort out.  A private education is something we'll have to plan for now even if we don't have the answer. 

I can see you doing the maths now!  You are spot on about us being in a position to work part time (say 3 days a week).  You are also right about the $40,000 rental income being available if we sell off some property.  A lessee rang me last week with the offer of another long term lease (up to 9 years) on a property we've had for almost 12 years.  This is forcing us to give the 'hold or sell' question a lot of thought.  There is also the option of a 5 year lease.  It may not be a good time to sell now that Mr. Abbott is telling everyone he is going to cut the public service (which will have an adverse effect on the local economy and property market).  Hopefully it won't result in the same blood bath as the last time the Liberals came to power.  Also, the 5 year lease option would fall in line with our time frame for realising the full potential of the rental stream and we'd be done with financing childcare.

My wife wants to remain in the workforce and I don't fancy myself as a full time Mr. Mum, so I see myself remaining full time until the end of 2014 while the wife is off work.  She will probably return to work 3-4 days a week and I'll cut back to 4 days.  That's more than enough money to live on, so I guess we'll continue to pay off debt and look for some diversification.  You've got me worried about having additional income streams!

happy

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Re: Our strategy for financial independence....
« Reply #13 on: October 06, 2013, 05:46:01 AM »
You need to do what you're comfortable with: there's folks here accumulating via US real-estate eg Arebelspy, and other extreme is Big Chris B a 30 something Aussie who last I heard had a NW 1mill ALL in shares. Doesn't even own his own home,  too worried the bottom is going to fall out of  RE. Way to risky for my liking, but there you go just goes to show.

What you do whilst accumulating, may need to be different once you've built your stash and wish to maintain it safely. But it may take some time to move from one strategy to the other, especially with RE, so begin with the end in mind.

I think your strategy is unnecessarily complex and inefficient in Mustachian terms, but if you want to be filthy rich as you get older so be it.

Heres how I see it - rough back of the envelope stuff :

It costs you 55k to live, plus your rather extraordinary childcare arrangement of22-26k.


If you had rental netting you 40k, you would only need to earn 15k plus childcare. If you wish to keep the current arrangement which would seem to have additional benefits to just being a childcare cost,  then you only need to earn 40k.  Once you are down in this income level you won't pay much tax, so you don't need to worry too much about  "tax effective strategies".   

If you both work another 19 years until you are 60, and salary sacrifice  25k each into super, at a measly 5% return, you would have 2.5mill, which would give you over 100k a year at a 4%SWR. Plus the real estate rental income. Beware though, whilst that 100k would be tax free now, I suspect in 20 years, the govt will want to tax you for such a magnificent result. Keep watching the super legislation every year.

So if you each earn 50 -60k gross  between now and 60 you're set. If you want to retire before 60, then you need a stash to generate pre 60 year income. If you retire at 50, you'd need 400k, with no super sacrifice.  So between now and age 50 save 40k a year..so you'd each need to earn another 20k plus tax...maybe 90k each.

Just running 2.8 mill debt at 5% interest through a NAB repayment calculator: interest on 2.8 mill over 5years is 610k approx.  I chose 5 years because thats how long you plan on using it. I know some of it is a tax deduction, but you're earning and spending a lot to get it. That 5 years of "interest" is your stash : it could pay you 25k a year indefinitely (600k @ 4% SWR) if you had it invested.

So, inefficient, because you're wrecking yourself working, trying to hold up almost 3 million of debt, to create surplus money that you don't actually need if you are a Mustachian.

EDITED: I realised my math was slightly wrong...I should have said sal sacrifice up to the 25k concessional cap...you won't have to put the whole 25k in, since your employer will put part of it in for you under the super guarantee. So you won't need to earn as much to acheive this..

« Last Edit: October 06, 2013, 07:05:03 PM by happy »

happy

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Re: Our strategy for financial independence....
« Reply #14 on: October 06, 2013, 06:00:28 AM »
PS BigChris B has recently posted his strategy on this thread, just to give you a completely different perspective:

http://www.mrmoneymustache.com/forum/investor-alley/structures-for-australian-investing/

bigchrisb

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Re: Our strategy for financial independence....
« Reply #15 on: October 06, 2013, 04:40:44 PM »
Yep, its all horses for courses.  Sounds like you have some of your properties through DHA or similar - the long lease terms and outsourced maintenance certainly help with the sleep at night factor.

For the record, I'm also in Canberra, and quite hopeful for a liberal fueled property bloodbath!  As happy mentioned, I have no exposure to residential real estate.  Neg gearing of resi property is a pretty commonly used strategy for Aussies for tax deferral, and has paid off pretty handsomly with the capital gains over the last couple of decades.  I've taken a different view, being invested in shares (including gearing), and using trust and company structures to try to manage some of the asset protection and taxation deferral issues. 

At the end of the day, anyone investing in Australia (in either shares or real estate) has done pretty well.  Hard data on total housing returns (price plus rent) is pretty hard to find, but if you tracked the ASX 200 accumulation index (largest 200 companies in Australia), bought, held, paid tax at 30% on your dividends, and reinvested the rest, you increased your investment by 43 times from 1980 to 2013, GFC and all.

happy

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Re: Our strategy for financial independence....
« Reply #16 on: October 06, 2013, 07:13:32 PM »
Howdy Big Chris,  I was hoping you'd weigh in on this thread. I thought DHA too with those lease terms. Maybe OP can share his experience with this, if we are right? (its been something I've had an eye on, but the math doesn't add up that well to me).







Rodstar

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Re: Our strategy for financial independence....
« Reply #17 on: October 12, 2013, 07:25:23 AM »
Happy - I hear what you are saying! However, we both want to work - just less days per week.  Neither of us would be able to convince our employers that 2 days a week is ok.  Three days would be the minimum, which at this stage would suit us.  At the moment it's just a matter of when I pull the pin on full time work.  It's unlikely my wife will ever work more than 3 days a week after bub no. 2 arrives.  And yes that would mean we earn more money than a Mustachian needs - but that's not a bad thing.. :)

Not sure I understood your points on our $2.8m in lending.  I think you are suggesting we invest the $600k equity elsewhere and use the 4% SWR.  That's not really an option at the moment.  It would be expensive to unwind the portfolio (e.g. some hefty fixed rate loans, childcare arrangement).  Also, property here in Canberra with long term leases sell for about 5-10% less than market.  I think we are talking the same thing - we're just not ready to pull the pin yet.  However, we do have an exit strategy.  We don't want to be paying down debt for the rest of our days.

My thoughts on DHA property....we have two of them.  Personally I would not recommend buying them outside of a major capital city.  Most military assets are in remote locations that present little capital growth opportunities.  If you buy direct from DHA they are overpriced and DHA do not negotiate on price.  Also, the yield is generally pretty low and there is the 16.5% management fee to consider.  That said, there are never any vacancies, no difficult tenants, the rent is always paid on time and DHA take care of almost all maintenance. 

Now to my experience with DHA.  The first one we bought in 2002 (before house prices went silly).  DHA have not only paid for all maintenance, but have also installed evaporative cooling, provided us with an interest free loan for ducted heating, built a new pergola and have paid for other items that are outside their obligations.  The second house we bought from Westpac when they off loaded their entire DHA portfolio.  We managed to get this one at a very good price.  DHA also installed evaporative cooling.  The gross yield on these is over 5%.  Overall, I am very happy with the situation.  It certainly provides peace of mind.

Bigchrisb - I've been reading your posts on this site.  If I was a bit more sophisticated or dedicated and had the right makeup I'd have invested in shares.  I do take comfort from knowing we have some exposure to the share market via our superannuation.  That said, I know it is "old man" money so I am giving some thought to investing outside of super.

happy

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Re: Our strategy for financial independence....
« Reply #18 on: October 13, 2013, 04:12:32 AM »
Quote
My thoughts on DHA property....we have two of them.  Personally I would not recommend buying them outside of a major capital city.  Most military assets are in remote locations that present little capital growth opportunities.  If you buy direct from DHA they are overpriced and DHA do not negotiate on price.  Also, the yield is generally pretty low and there is the 16.5% management fee to consider.  That said, there are never any vacancies, no difficult tenants, the rent is always paid on time and DHA take care of almost all maintenance. 

Now to my experience with DHA.  The first one we bought in 2002 (before house prices went silly).  DHA have not only paid for all maintenance, but have also installed evaporative cooling, provided us with an interest free loan for ducted heating, built a new pergola and have paid for other items that are outside their obligations.  The second house we bought from Westpac when they off loaded their entire DHA portfolio.  We managed to get this one at a very good price.  DHA also installed evaporative cooling.  The gross yield on these is over 5%.  Overall, I am very happy with the situation.  It certainly provides peace of mind.


Thanks for this...you've confirmed what I already thought. If you earn more than a Mustachian needs and you're happy doing it, agree thats an excellent thing :)

Rodstar

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Re: Our strategy for financial independence....
« Reply #19 on: July 19, 2014, 06:11:33 AM »
Debt is down to $2,700,000 *deep breath* :)

omni

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Re: Our strategy for financial independence....
« Reply #20 on: July 19, 2014, 07:10:13 PM »
2 months early too, nice one!

Rodstar

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Re: Our strategy for financial independence....
« Reply #21 on: July 21, 2014, 05:00:39 PM »
haha it better be worth it in a few years!

Rodstar

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Re: Our strategy for financial independence....
« Reply #22 on: August 29, 2015, 05:59:56 AM »
Another year on and we've slowed down a bit.....paid off $80,000....so debt is down to $2,620,000.

In my defence the wife was on maternity leave for first 6 months of 2014-2015 :)

Financial.Velociraptor

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Re: Our strategy for financial independence....
« Reply #23 on: August 29, 2015, 01:32:46 PM »
Rodstar,

Seeing this thread for first time today so I'm late to the party.  I'm American so I don't grok all the super and RE stuff but I gather from your interaction with happy that you are essentially done from a MMM perspective.  All that is really left is deciding how much "today" to trade for more "tomorrow".  Totes up to you!