Factoring in Inheritance
The typical advice around inheritance is to pretend it doesn’t exist and treat is as a bonus if and when received. This advice, from my understanding, is due to the very real possibility that most will never actually get one and if they do, the timing is unknown and the amount can be significantly degraded due to things like end of life care.
However, in the case of beneficiaries of a Generation Skipping trust that once inherited would more than cover their FI number, how should this factor in to a FI plan? Due to the size and near guarantee of eventually receiving it due to how it is set up, it seems dishonest to completely disregard its existence in the planning process.
Is there a point where it starts making sense to factor it into a plan or should it always be treated as a surprise windfall and removed from individual planning?
If it were to be modeled, would it be best to model this with extremely conservative life expectancies (obviously hoping that the parents involved live as long as possible), and then use that to setup cash flows covering all requirements starting at that point in a tool like ERN’s toolbox and then calculate an updated SWR for the people involved?
Would it make sense for the beneficiaries to be more conservative with their own finances due to less need to accumulate?
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Fundamentally, what you are talking about is living based on money you don't have yet. In a way it is what we already do. For instance, I have a FI number of X, which does not represent all the money I need for the rest of my life. It represents a value that, given continued historic market returns, will grow sufficiently that it will exceed that total amount I can expect to need for my life. So, the exercise comes down to "what is your plan if the expectation fails to become a reality?" For the case of expected market returns, the likelihood is extremely high that they will continue along a mostly historical track (I know that this is debatable, but it is still a reasonable assumption and one that most people make). If the market all of a sudden imploded, then I would have problem, but then so would pretty much everyone else in the world. And the plans that people have in place for dealing with things like market meltdowns include going back to work, cutting back on spending, downsizing the house, etc.
In the case of your inheritance, you need to think of two separate dimensions. One is the likelihood that you will or will not receive the inheritance at some given point in time (i.e., before you run out of other money). The other is the magnitude of the impact should the inheritance not come through as expected (i.e., not at all, or smaller than expected).
In any event, this sounds like a sufficiently complex planning problem that you should consider speaking with a professional.
Professional here, long-time FI enthusiast before becoming a financial planner. I do factor in inheritance and the way I do it is I put in a variety of amounts, a variety of dates, and apply historical analysis which includes historical stock returns, bond returns, and inflation. You can think of it as a sensitivity analysis. When people see the effect, whether it is big or small in a few permutations, they often speak a conclusion about what it means for their plans, I offer my own perspective, and we capture both in the financial plan we are working on.
I most often use ProjectionLab for this, and it might make a good topic for a short video demo.
If you would like that, let me know.
Aubrey
Open Path Financial, LLC
Dear Aubrey,
I would love a short video demo! I have been wondering about the same topic for some time and was planning to use ProjectionLab (but haven't yet).
Thanks so much, Anton