Third step to financial independence

The first step is having a financial fuel gauge. A gauge to track the rate of income vs expenses and developing the discipline to monitor the ratio and avoid running out of fuel. The second step is having 1 year worth of free cash or high liquidity assets. At this point, we have an accurate gauge of our cash flow, and a year's worth of cash on hand. You should congratulate yourself, you have done most of the hard part, the behavioral and psychology part developing your intuition on money, spending, and cash flow. The rest is the fun part. It’s time to put all your hard earned money to work and achieve the long term financial objectives. Everyone needs a holistic and practical plan to achieve their goals. 

Long term financial planning is difficult for 3 reasons: it’s an emotionally charged topic and difficult to think rationally about it, too many objectives competing for the same limited resources, and too much noise from the media and friends. Too often, people make big financial decisions in isolation or at spur of the moment or focused tactical detail of a specific stock and financial instrument. The best way to deal with these challenges is .. you guessed it .. have a financial decision making framework. 

I use the following process in a few steps to help me. 

1. Make a list of financial objectives organized into time horizon buckets. 
2. Decide on financial goals (growth or income) and preferred tax treatments (prepaid, deferred) for each item.
3. Prioritize and allocate available cash flow. Generally, pick one time per time bucket and the use 60%, 20%, and 20% allocation respectively
4. Select account type (529, IRA, etc) and instrument (VOO : Vanguard S&5 500 ETF, Bitcoin, etc)

The most important thing is to take action on the imperfect decision. There is no perfect or best decision, only good enough decisions. The more time the money is invested and put to work is almost always better than waiting for a better decision or time. Often financial decisions are reversible and reallocation is easy. To get better at managing finances is to make high velocity and high quality decisions. 

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What is your financial decision framework? 

Ricky

End of my auto lease

The lease for my car is coming to an end. I had some decisions to make: return or keep the car. If I return the car, do I lease or buy another car? If I keep the car, how do I pay for the close out balance?

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Long story short, given the repair cost to get it back to lease-end shape and the peace of mind knowing that we have a gas car for long distance trips that complements the electric car. I decided to buy out the lease. When I shopped around, I got quotes from leaseend.com, refijet.com, and my credit union. 

The final service provider was Refijet. Refijet provided a great rate, good service, and minimal hassle. I just got a SMS text that everything is funded. Overall, it was a great experience. I would recommend my account manager Tyler Huston and his team.

Ricky

Second step to financial independence

Continue the series on Financial Independence

The first step is having a financial fuel gauge. A gauge to track the rate of income vs expenses and developing the discipline to monitor the ratio and avoid running out of fuel. The second step is having 1 year worth of free cash or high liquidity assets. The heart of the matter for financial independence, the only metric that matters, is net worth / annual expenses. To achieve the milestone, I need to decrease the denominator by managing my expenses. I believe reducing the denominator is the critical second step because (1) we have more control on our spending patterns, (2) small changes have outsized impact on the ratio, and (3) freeing up more cash flow will accelerate the increase in the top line. 

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One can decrease the denominator by being more frugal or reducing bad debt. I review my expenses annually, especially regular subscriptions: netflix, internet, car insurance, home insurance, cell phone plans, etc. I review usage and coverage to make sure the family is on the right plan at a good price. But there is a limit on how small the annual expenses can be and at some point there will be lifestyle sacrifices that I’m not willing to put my family through.  

I also review my debts annually. I think bad debt is any debt where the annual interest rate is higher than the annual appreciation worth of the asset or the reallocation of that fund is less productive. For example, I got an auto loan when I purchased my Tesla. Was it a bad debt? The car loan would be considered a bad debt by the first definition since the car depreciates (have negative annual worth) compared to the interest rate. However, using the second definition, by borrowing that money, I didn't have to sell my stocks and money market funds that were appreciating faster than the loan rate, it’s actually not a bad debt. When the stock market trend or the money market interest rate changes. The auto loan will switch from a good debt to a bad debt, then I will pull the trigger to pay off that loan. I regularly play arbitrage between the cost of the loan vs my earning opportunity. 

The objective of managing the annual expense is to free up cash flow. Yes, living within your means is good, but the point is to think of family finance like a business. Valuable business generates cash flow and invests it properly. That is why the second step to financial independence is having 1 year worth of free cash or high liquidity assets. One year is fairly arbitrary, it could be 6 months or 2 years. It depends on the stability of your primary income sources, and your comfort level with risk. Once there is sufficient cash flow then you can proceed to step 3 and grow the top line and increase your net worth! 

What's your recommendation for improving family expenses? 

Ricky

Searching for sparks of joy (part 1)

I wanted to try the KonMari method of tidying up for a while. A few years back, when it was all the rage, I wanted to try it then but also thought it was all a bit silly. I was already a reasonably tidy person. I now realize that I’m an organized person, not a tidy person. 

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For example, I’m the type of person that still has my tax records and bank statements from 15 years ago. I have multiple storage places for those records. On a good day, I remember where they are stashed and I can find it. Reading the book, I’m moved by this statement. 

Tidying up means confronting yourself; cleaning means confronting nature. (Maria Kondo)

In reality, I did both minimally so I have done neither. However, I have made a valiant attempt to classify and make storage space for all my stuff. It helps that I’m a minimalist and only buy things that I absolutely need. All these patterns gave me a false sense of tidiness. 

There is a larger context in my desire to tidy up. First, physically and mentally, there are many things that I want to let go. I have reached a point in my life where I’m tired of all the things that I have been carrying. I have gotten accustomed to carrying all those things that I have lost sight of really matters. There are days when I just feel like a beast of burden, like an ass. :) The promise of “tidying up” as a way of “honing my sensitivity to joy”, confronting myself, and rediscovering my joy seems magical. I want to find and believe in magic again! 

It is my hope that the magic of tidying will help you create a bright and joyful future! (Maria Kondo)

What gives you the sparks of joy in life? 

Ricky

First step to financial independence

There are so many good books and advice out there on how to get started on the path to financial independence. I recently read and would recommend these two books: Algebra of Wealth by Scott Galloway and The Psychology of Money by Morgan Housel. The challenge is that there is so much good advice in those books, it’s hard to know where to start. 

My advice on where to start on the path to financial independence is having a good amount of emergency fund and sustaining that amount for more than 6 months. If you can do this one “simple” thing then you have achieved the first step. 

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All modern gas cars have a fuel gauge with the following properties: fuel level, low fuel indicator, and an empty indicator. Very importantly, there is an emergency reserve. Even when the tank shows empty there is just a bit of fuel left so you can get to the next gas station. The development of the gas gauge and fuel reserve is of course, no accident. It’s a combination of safety, psychology, and practicality that guided this design over many years of automotive usage. 

By analogy, money is the fuel on the road of life. It doesn’t matter if you are a young successful highly paid wall street trader, a family person towing an RV full of kids, going fast and furious on the German autobahn, or nice and slow in the countryside enjoying the scenery. The only thing that really matters is the rate of gas being added vs the rate of gas being used. By the same token, it’s less important where you are in life, how much debt you have, or how much money you make or spend. In my opinion, the first thing to do on the path of financial independence is having a very basic fuel gauge, know when one is running on empty, and enough fuel to get to the next gas station. 

In financial terms, a fuel gauge is the one primary spending account. All the bills should be paid from this account. There should only be just enough money for 1 month of expected spending. The paychecks and other income sources should go into a different account. There should be a biweekly or monthly exercise to estimate and transfer the necessary funds from income account to spending account. This separation helps one develop a rough estimation of the rate of earning vs spending. No detailed budget is necessary. The next most important account is the reserve account. When a spend account shortage occurs, one moves money from the reserve to the spending account. 

The reason to manage money this way is to develop the intuition, sense of spending, and a feel for the rate of change between income vs expense. One would expect this equation of income and expense is constantly changing depending on one's particular situation. And it's all natural part of the difficult. Continuing on this journey will hone one's intuition, understanding, and discipline regarding finances. When you have that basic money sense and the good sense to keep the financial reserve tank full, then you are well on your way to financial independence. 

What is your “fuel gauge” of money? 

Ricky

3 phases of my long term financial goals

I have always been in the accumulation mode: do we have enough? It’s a tough question to answer but it’s a well worn path in books and articles. However, as I get closer to financial independence, I realize there are huge gaping holes in my knowledge and financial planning. It’s not enough to think about how much you have. We need to plan for how to keep it and how to give it away. 

As I’m learning, it's never as simple as it should be. There are many regulations and decisions that significantly impact the ideal outcome. Even our ideal outcome should be considered carefully. 

Here are just a few examples that I started asking myself: 

• What are our values and spending that would bring more sparks of joy in our financial independent days? 

• Do I have a guiding principle for family giving to ensure their long term happiness and reduce potential squabbling and conflict?  

• How do I maximize social security benefits for my spouse and I? 

• If I’m lucky enough to retire before 59.5, how do we use deferred tax retirement money without an early withdrawal penalty? 

• What is my income tax strategy and how do we reduce our taxable income? 

• How do we reduce risk of retirement market timing like 2008? 

• What is the impact of inflation during retirement, and how do we plan for it? 

• How much money do we really need for health care? 

• What are many of the expected and unexpected expenses in retirement? And how can we better plan for the unexpected? 

• How does required minimum distribution (RMD) work and how do those rules affect our withdrawal rate and taxable income? 

• What are different types of trusts? And how should we use them to our advantage? 

• What are estate tax and inheritance tax? How are they different?

• How do we plan to ensure more of my money goes to my loved ones? 

There are no easier answers, and a lot of financial knowledge and planning is need to properly think about each question. However, we should also start with good definitions of our ideal successful outcome. For the extremely long time horizon, I use a framework to think about the purpose of the money across 3 phases and my ideal outcome in each phase: accumulate, preserve, and endow. 

• Accumulate: Make more money, buy more assets, and allocate assets to faster growing valuation with acceptable downside risk that I have time to recover from. 

• Preserve: The goals are (1) improve and sustain our quality of life, (2) keep more of our money from taxes, and reduce down market timing risk, and (3) not worry about running out of money

• Endow: Provide a safety net for future generations where each generation will be the caretaker for the next generation. Pay it forward across generations. 

These phase are not independent, decision I make in one phase can dramatically influence the outcome of later phase. A simple example of Traditional 401K vs Roth 401K . These are examples of tax deferred vs tax free (or tax pre-paid, as I like to think about it) retirement accounts. One type is not better than another. The two types of tax treatment plays different role in each phases, and has different tradeoffs. This is the "personal" part of financial. With clear framework and successful outcome defined, I can steer my plans to achieve our financial goals beyond "have more money" to "using money to improve our lives and lives of our loved ones"

What about you? What are your long term financial goals? 

Ricky

Do you have a system for financial planning?

When I think about financial planning, it’s easy to get lost in all the information, well meaning advice, books to read, Instagram personalities to follow, etc. Everything feels important and urgent. We all have so many financial goals and obligations, and each of them demands our attention and contributions.

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I use a framework to help think through my financial planning. The first dimension is understanding the time horizon of the financial decisions. The second dimension is attention that I’m going to allocate to one or two time horizon focus areas. 

The time horizon is not when the decision needs to be made (as soon as possible is always the best answer) but when the outcome of the decision matters. For example, having enough money to pay all the bills this month, or saving enough money for college. The key here is to consider the successful outcome and how much time is available to land that outcome. For time horizon increments I use the following: months, years, decades, and generations. And I like to plan in bundles of 3. So 3 months, 3 years, 3 decades, and 3 generations. I make a list of all the various financial goals and obligations into each category. The purpose here is to make a list so I can declutter my mind. The list doesn’t have to be good or complete. Just write everything that causes my mind to ruminate. It might look something like this.

Time horizon	Key Results
3 months	Optimize my monthly and annual subscriptions expenses Optimize my emergency fund usage, and savings interest rate Read a new book on financial planning
3 years	End of auto lease, decide to return, buy, or lease another car.  Review kids' college savings amount target and fund allocation Review my insurance policies and make sure it’s appropriate for my family situation.
3 decades	Decide on retirement financial targets, and select financial instruments and accounts Learn about long term health care insurance and decide if it’s right for me.
3 generations	Set up a living trust and fund it

This is meant to be a living list. Whenever something pops up in my mind, I just write it down and put it aside. Next, I decide on 2 focus areas with 70% and 30% effort allocation. I spend the time needed to get these focus areas in a good enough shape and I pick another set of focus areas. If something outside of the focus area that’s urgent, of course, take care of it. But otherwise, just add it to the list. 

This is a slightly more complicated version of making a list, and working the list. This method works for me because the outcome time horizon is a good forcing function to make sure that I plan for the long term and use a similar level of decision granularity. 

What about you? What is your system to help you achieve your financial goals? 

Ricky

Are we doing enough to protect our financial data?

There are too many data breaches across the industry. After the fact violation data monitoring services offered as compensation are scattered and too late. “There were 3,205 compromises of personal information and consumer data last year that impacted a total of 353 million total victims, 2,365 more than the previous record.” source

The incentives for bad actors are very high. When a small amount of data is very valuable, there is no security tight enough or encryption hard enough to protect it. Even worse, the secret data is widely available. It doesn’t take much of “secret” data to apply for online credit and spend it without my knowledge. My name, and address are public information. The only semi-secret information needed are my birthdays, SSN, and maybe another form of payment. 

Fortunately, what I really need to protect are not these bits of data. I don’t care if someone knows my birthday and social security number. What I care about is what people can do with that data, so I need to protect my credit score and my money. I protect them by doing 3 things. First, I do a security freeze of my credit score at the top four credit bureaus (Equifax, Experian, TransUnion, and (newer) Innovis). It’s easy, and it’s free. By freezing my credit score, it adds a layer of protection from anyone attempting to apply for rental, credit card, mortgages and other financial instruments in my name. It’s a bit of a hassle to unlock the file when you need to apply for credit but the extra inconvenience is well worth the protection. Just recently, I got a request to unlock my credit score from an unexpected source. Second, use separate passwords for each critical website. I defined criticality based on level of financial risk, and requirement for identity verification: financial institutions (banks, credit cards, etc.), primary methods of identity verification (gmail, phone pin, etc.), and any e-commerce sites (Amazon) where I have credit card saved. Again, it’s a hassle but I don’t want to make it easy for bad actors to easily gain access to the rest of my money in case of a security breach. By isolating each access point, I create additional friction and hopefully they would move to easier targets. Finally, I set up two factor authentication for those sites. And, I'm don't use a password manager for the critical sites. So much hassle, but this is the new reality where everything has a digital presence and much of the original internet is build around openness and information sharing. We need to take advantage of all the tools available to safeguard our money and financial information.

What about you? What are your recommendations for protecting your financial data online? 

Are we crazy to buy annuity?

A few years ago, I had a strong dose of skepticism about purchasing an annuity. There seems to be a consensus that annuity and annuity sales people are less than upfront. So why did I purchase an income annuity recently?

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Retirement planning is hard and complicated. Even if you are fairly confident that you will have enough money. I have read many financial planning books and blogs, but I rarely see retirement income streams and withdrawal strategies covered in detail. 

There are many regulations and legal requirements about how and when the money is to be withdrawn. If you withdraw from the wrong account, too early, too late, too little, too much, etc and then the IRS will hunt you down and severely penalize you even if you correct the mistake. (I exaggerate a bit, the people at IRS would make allowance for minor and first time mistakes.) After getting the regulations correct, you still want to legally minimize the amount of tax paid by optimizing the type of withdrawal from various sources to hit the right tax bracket. 

For my retirement planning, I modeled the various sources that I can draw from and categorized each source. I plan to have 3 types of retirement income streams: (1) semi-passive income (rental, consulting, part-time job, etc), (2) market dependent income (bond, stocks, dividends, money market, etc), and (3) “guaranteed” income (social security). 

The key insight for me is the need for more income from #3 to have higher confidence in my retirement plan. In the long run, it’s difficult to predict and have certainty around the amount, timing, and duration of money from sources #1 and #2. First, much of my expenses are fixed, and must be paid on a schedule. But income sources from #1 and #2 are variable, depending on things that are completely out of my control. One unlucky event with bad timing can dramatically impact my retirement quality of life. Second, I don’t want to assume the level of mental and physical fitness needed to manage money effectively to ensure steady income from #1 and #2. Third, the possibility of out-living my savings is an emotional tax that I want to minimize so I can better enjoy my golden years. Finally, social security is a huge can of worms that the government keeps kicking down the road. I don't have much confidence in our divided government to get their act together to sustain my retirement. 

Annuity is one possible solution. A private insurance that provides guaranteed income for the rest of my wife and my life when I pay a one-time upfront fee. A good annuity would solve many of the risks: minimal market dependence (if I want), minimal requirement for physical or mental effort (I can out-source to a financial advisor), payment for as long as we live, and not dependent on the government. Annuity, of course, is not a panacea. There are still many other risks involved (see here). But as part of a portfolio of income streams, annuity seems like a sound option. 

There are 3 key steps to selecting an annuity that works for you. First, find a trust advisor. Second, determine your retirement expenses and sources of income, then decide how much guaranteed income would help you enjoy your retirement years. Finally, shop around with your advisor to find which type best fits your personal situation.  

Blogging again

It has been a 5 year hiatus since I blogged. I reread some of my old postings and there is a rush of memory and a sense of resolution and accomplishment. While writing is difficult for me, it helps me to work through my thoughts. Now, I want to make time and space to develop issues that have built up over the last few years. I have tried mediation, and therapy sessions. Mediation is hard, and I don't get a sense of progress and accomplishment to sustain the effort. Therapy is helpful but not frequent enough to work through all the issues that come up at irregular intervals. Restarting journeying will be my method to guide myself through my current challenges. 

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The measurable indicator is to blog every week day until the end of year. The real objective is to build a habit of self-awareness and self-care. Ultimately, my goal is to rediscover my voice and confidence. My lifelong humbleness has gotten in the way of my personal and professional development. 

There are 3 key steps from now to the end of year. First, I will write every weekday and just as importantly, not write on weekends. Whether it's a longer piece or a very short piece to jot down my feelings. Second, to be honest and vulnerable. This will be a place where I can ask myself questions, work through my conflicting and circling thoughts, and acknowledge that my thoughts and feelings matter. I will try to avoid the temptation of AI. Lastly, I invite any readers to respectfully comment, ask questions, or suggest topics. While the journey of self-awareness and self care is only done in one's mind, some companionship from others taking this path and guidance from others that have traveled here already is always appreciated. 

Ricky