Maximum Indebtedness

Hi, could you please explain how the maximum indebtedness value works or point me to an already answered question. Is this just a way to point out the shortfall in earnings that has to be made up or is it the loan you must take out and this begs the question of how the loan will be paid


dan royer's picture

Yes, you could also look at "borrowing constraint" or "liquidity constraint." In some situations a model will show the living standard or discretionary spending jumping to a higher level in the future. If this is borrowing constraint it means that there is money in the future that can't be used now--one would have to borrow against it in order to bring a living standard up to that future level. Indicating a max indebtedness or willingness to borrow is one way (perhaps not the best way) to address this short term lack of regular assets.

Imagine you get 5 million dollars when you are 75. At that point your living standard will go up but until then it's going to be lower than that age forward unless you borrow money against this future windfall. Such conditions are caused by an inheritance, postponing SS, lower taxes in the future when a ROTH kicks in etc. but only when there is not enough in Regular Assets to balance this future windfall.

Thank you for the answer. If I am not asking an already posted reply, could you say what is the relationship between the 3 items below as they appear in the first line of the annual suggestions. Does Savings (nn) mean that I am withdrawing more than I should and if not for this, the discretionary spending could have been higher?


Discretionary Spending 35,336
Insurance 315,840

dan royer's picture

In the Annual Suggestions report, you see Discretionary Spending and also Saving columns and Life Insurance columns for H and W. The Discretionary Spending is what is available in each year. The Saving (or dissaving) is what you should add to or withdraw from Regular Assets. Insurance is the amount needed to protect the survivor's per-adult living standard.

Just ignore the 2017 Suggestions report for now. It's confusing and simply comparing the program's suggestions to what you indicated you are saving in the current year.

It might be helpful to watch the first four videos in Learn More (see main menu links at top this page)

Thank you. Finally got it! In my case, with the negative savings, I need to work at least part-time and earn enough to offset the negative savings + any extra discretionary income I want.

dan royer's picture

Well, everyone is going to have negative saving (dissaving) somewhere in the model since that withdrawal is needed to ultimately liquidate the Regular Assets. We want to spend down those assets to $0 by the final year.

If you have far more assets in the future than you can get to now, you'll be borrowing constrained and you'll see that you hit $0 in Regular Assets before your final year. Thus your discretionary spending pattern will be a stair step up.

Is there a point in time prior to the terminal year where regular assets drop to 0? If that's in retirement, consider special withdrawals of amounts larger than the calculated smooth withdrawal. It has to be enough where regular assets are >0.

If successful, that may result in higher withdrawals in earlier years. There begins a series of trial and error to determine how to manipulate special withdrawals to keep regular assets >0.

If those 0 balance years occur prior to retirement, Dan's comments apply. Special withdrawals won't help unless you plan to liquidate your retirement funds in advance of retirement.

Indebtedness is a way to smooth over those gaps but you're borrowing against future income that might happen, or might not. In my view that's not a prudent approach unless you have a high certainty of inheriting Trump Tower in a few years.

I've indicated a maximum indebtedness of 200K to enable the program to calculate a smooth living standard. I'm retired, and drawing down savings. I'm trying to delay taking SS until I'm 70, and am also expecting an inheritance probably within 5 years.

I think of this as a bridge loan to tide me over till SS and inheritance come in. I see the rising debt on my Net Worth report, showing as negative regular assets. However I do not see where debt service is accounted for in the reports. Also wondering where loan terms (rate, term, possible reverse mortgage, etc.) are considered in ESPlanner inputs.

Bottom line is, I don't have confidence that I can actually sustain the maximum indebtedness since I don't understand the accounting in ESPlanner.

Thanks for any advice!

Sorry, should have dug around more before posting. In the "Borrowing Constraint" thread there's some good info that addresses part of my question. I see the interest rate on a bridge loan is assumed to be the rate my assets are earning--but what's the assumed loan term? Not sure if ESP is including debt service in my spending or not.

Looks like I need to do the trial/error routine with special retirement withdrawals, and compare that option with actual bank borrowing. Hard to imagine actually doing the latter.

Thanks for the detailed tips in the Borrowing Constraint thread re: calculating and timing special withdrawals from retirement accounts.

OK, haven't gotten a response to my question but I think I may have figured it out. Maybe this will help someone else (with any needed corrections from the experts)

1. Whenever Regular Assets fall below zero, ESPlanner will add to RA as needed to smooth consumption.
2. RA amount will then report as (negative). It's a loan.
3. Negative RA grows at the nominal interest rate that's user-specified for earnings on investment.
4. As new Regular Assets become available in future years (from retirement account withdrawals in excess of what's needed for smooth consumption, for ex.), the negative RA balance shrinks and RA may become positive again.

Hope that's right. So actual debt service payments on a real-world loan from a bank to finance indebtedness in a given year would need to be input as Special Expenditures, like other debts. Otherwise the reports are seriously incomplete.

I do have a suggestion. Triggered (I think) by a shortfall in Regular Assets, the program gives a warning message: "The Computation engine reports Negative Consumption, which means the profile is unaffordable. Allow debt by modifying Assumptions/Other Variables/Max Debt."

I think the program should NOT tell users to "Allow debt." The message almost comes across as a technicality that's getting in the way of the normal output. So some, (uh, like myself, even after 10 years of use), might just plug in a max debt figure and not consider the implications. My bad.

What I really was doing was allowing borrowing in order to create my customary Reserve Fund starting in Year One. Which makes no financial sense! But since the Reserve Fund asset cancelled out the borrowing liability, my net worth looked ok and I missed the whole problem.

IMO, the program's message should include a reminder: if you choose to allow borrowing, you must also input debt service amounts and duration into the Special Expenditures field.

Of course this could be tricky in practice, since negative RA (debt) can fluctuate widely, far into the future.

All in all, I'm sticking with Zero max debt from here on out.

dan royer's picture

Yes stick to $0 on max debt. It's really more for troubleshooting. If you need to borrow, borrow from yourself (your future) via special withdraws from retirement accounts to bring in liquidity. That assumes you are past age 59. Otherwise look for more income, reduce spending (saving too much for retirement?) or live with it. Nobody should go to the bank and borrow money for this purpose. I agree that the documentation needs improvement.


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