This time in the subsequent century we might be billionaires

YOur 100-year-old spinster great-aunt Maggie has died. The family lawyer calls you. They expect a small bungalow, several boxes of yellowed paperwork and maybe a lecture on probate matters.

Maggie all the time appeared to be aggressively thrifty. She was wearing old clothes. She went to the library. She grew vegetables. She didn’t own a automotive. As a baby, you vaguely wondered if she was poor.

Apparently not.

Because Maggie’s estate is value a few billion US dollars.

How?

They all the time had a vague concept that Aunt Maggie had once been American. It turned out that Maggie’s father was a well known American financier. In 1926, when Maggie was still in her crib, he put $53,300 into the JPMorgan S&P 500 Zero-Fee Magically Accumulated No-Tax Miracle Fund.

Then Maggie did the hard part.

Nothing.

Maggie didn’t sell. She hasn’t modified platforms. She didn’t move to Japan in 1989. She didn’t determine that Cisco looked low-cost in 2000. She didn’t panic in 2008. She didn’t panic throughout the COVID-19 crisis didn’t come on TV and cry. She just went to get vaccinated.

She didn’t pay an advisor 1% a 12 months to ask her if she had a mindset about risk.

Maggie just turned 100 and let America do its thing.

Clean.

Magical pondering

To be clear: no such fund existed. Or could have existed.

The S&P 500 didn’t take its modern 500-stock form until 1957. There were no index funds for personal customers. There were no accumulating share classes. There were no zero fees – and there have been taxes.

But let’s leave these implementation details aside for a moment.

Maggie has worked her option to becoming a billionaire.

Unfortunately, you didn’t do this.

Heirs and Graces

We assume that Maggie was ultimately a UK resident and her estate can be subject to UK inheritance tax.

Ignore allowances because that is billionaire math – the estate pays 40% Inheritance Tax (IHT).

So you inherit $600 million.

Still a superb result. But no more billionaire status.

The very first thing that happens after a century of perfect compounding is that HMRC shows up and removes 40% of the mountain.

1 billion dollars to at least one on the stock market

Here is the Maggie checklist for reaching a billion:

• Start early
• Start with a big sum
• Own considered one of the best-performing major stock markets of the subsequent century
• Don’t pay any fees
• Don’t pay taxes
• Don’t spend any of it
• Do not sell, give away, exchange, merge, settle or otherwise effect a taxable event
• Finally: Don’t die

Simply.

Time

Compound interest is sometimes called the eighth wonder of the world:

Many people understand the compound interest formula. Hardly anyone acts as in the event that they imagine it.

With a nominal CAGR of 10.34% for US stocks, Maggie only needed $53,300 to get to $1 billion over 100 years. But give her 50 years and she or he needs $7.3 million. At 30 years old, she only needs… $52 million.

This is why compounding is amazingly boring. It takes many years for something to occur:

The 10.34% column is Aunt Maggie’s thought experiment scenario: nominal US stocks, no taxes, no costs, no product failure, no bad behavior and a century of hindsight.

For the adult model, I’ll use 5.2% real as a long-term global stock return assumption. This is the long-term real return on equity (previously!) per Dimson and Marsh.

At an actual value of 5.2%, the starting amount required to achieve $1 billion in today’s money after 100 years is:

Let’s call it $6.3 million.

That is the clear answer. Your ancestor didn’t just must be sensible. They needed to be wealthy already.

But let’s be honest, numerous readers are.

Maggie owned the winner

The S&P 500 is just about the very best performing stock market within the last century.

For example, if Maggie had been born German, it might have been a unique story. But we expect all of us to speculate 100% in global stocks nowadays because we do not believe in picking markets greater than we imagine in picking stocks.

The leaks

Let’s take the pure initial stack of $6.3 million, which becomes $1 billion after 100 years at 5.2% real.

Then we leave it to the British state, the fund managers and biology.

The model I’ll use is deliberately easy:

• 5.2% real gross stock return
• 0.20% annual implementation cost
• 2.0% dividend yield
• 39.35% additional dividend tax
• 0.5% FX spread on foreign currency distributions, which equates to an annual charge of 1 basis point with a return of two%
• 40% IHT events at ages 30, 60 and 90 (assuming each generation simply passes assets to the subsequent)
• Allowances, bands, relief and clever planning are ignored

Here too we assume that a penny is rarely spent from the pot.

A 0.20% annual fee turns the pure $1 billion into $827 million.

Taxing a 2% dividend yield at 39.35% ends in an annual burden of 0.787%. Including the fee, the family’s total is $390 million.

Add a 0.5% FX spread to the identical distributions and also you save one other $4 million.

The family now has $386 million.

Then three IHT events bring the $386 million to $83 million:

The following line chart shows the identical argument in picture form.

The top dark blue line is the table. The choppy blood red line is reality.

Yes, the UK has a wealth tax

Whether Charlie Munger ever actually said it or not, the aphorism is correct: The first rule of compounding is rarely to interrupt it unnecessarily.

Dying is sort of an interruption. Particularly within the UK where Maggie’s estate pays 40% of IHT.

Of course, you may gift your assets not less than seven years before your death, provided you understand when that might be. However, when you give away taxable assets, the gift will normally be a disposal for capital gains tax (CGT) purposes.

It is typically suggested that Britain should introduce a wealth tax. Is this pretty much as good as this? Or as an alternative?

Will your fund make it to 2126?

The table says: Buy global stocks and wait.

Fine. Which fund?

We require a product to last 100 years. It must keep its mandate, stay low-cost, avoid forced mergers, avoid strange seat changes, Avoid lawsand can remain available on future platforms.

To my knowledge, there isn’t any global equity index fund that has done this.

But some mutual funds did! The AIC has a listing of investment firms that predated the birth of King Charles III. were founded. Some are over 100 years old.

AIC’s 30-year return table includes:

I could not discover a clean, comparable 100-year total return table that I might trust to print out.

This absence is itself the purpose. However, the table shows that collective investment vehicles can have a lifespan of greater than a century.

Does tax packaging help here?

If you have managed to place $6 million – about £4.5 million, our starting capital required to get to a billion – into an ISA, then well done.

But I bet you are over 60.

And therein lies the issue: the ISA tax relief can actually only be passed on to at least one spouse, so the shell dies with the younger spouse unless you remarry younger people for all eternity.

Still, ISAs can provide significant dividend tax relief, and naturally you may rebalance without having to fret about capital gains tax.

It also emphasizes the principle of tax minimization: fill in your ISA, your spouse’s ISA and, when you can afford it, your kids’s and grandchildren’s ISAs too. If crucial, consider taking up debt to make sure you reap the benefits of the annual allowance.

For a time, pensions were a possible everlasting tax shelter, allowing you to build up your wealth over generations without dividend tax, capital gains tax or IHT. Unfortunately, that wheezing took a toll on Reeves. (Yes, beneficiaries pay income tax on withdrawals, but the unique pension received a discount in income tax along the best way, in order that’s taken care of.)

Reeves’ approach also highlights the tax risk. The rules are consistently changing, rarely to your advantage.

If you may have just a few hundred million in your ISA, will you get a lifetime ISA allowance?

The only strange trick that completely avoids IHT

Don’t die.

The government has not yet found a option to close this loophole: your estate only pays IHT once you die.

So… don’t.

Unfortunately, a protracted life depends totally on luck. But there are just a few things you may do to enhance your probabilities.

Just as we do not give financial advice here, we also don’t give health advice. But here’s a short list of things you may do to cut back your potential IHT liability:

• Don’t be chubby. This can now be remedied rather more easily with money via medication.
• Exercise: Cardio, strength, balance, and enough flexibility to stand up off the ground.
• Get vaccinated.
• Don’t do obviously dangerous things.
• Manage your health proactively. The NHS won’t do this for you.

So what would actually help?

Maggie already had all of the answers:

• Start early
• Start with rather a lot
• Avoid putting all of your eggs in a single basket
• Minimize fees
• Reduce taxes as best you may
• Don’t spend any of the pot
• Try to not die

This time in the subsequent century you might be a billionaire. (Perhaps.)

What’s the purpose?

There are obvious objections to all this.

What’s the purpose of becoming a billionaire in 100 years when you do not like spending the cash? You don’t desire to splurge because coffee will cost $1 million in a century.

This backlash is totally fair.

But for a few of us, money itself has long ceased to be a difficulty. It’s for the love of the sport!