Rick & Carmen: A WealthHolder Parable
The Fed raised rates again last week, the first time in three years. The ripple effects of a rate move often take a while to be felt. In that spirit, I wrote a parable, like the kind of case-study I wrote about in the inaugural edition of The WealthHolder. Back then I would draft narratives around complex balance sheets for happy hour mixers with financial planners, accountants, and attorneys, and we'd solve them together in the room. Rick and Carmen are composite characters, not any one client, but the pattern is one I’ve seen often enough that it deserves telling.
A couple of years before the pandemic, Rick and Carmen sold the business they had spent two decades building. Seemingly overnight, they went from actively managing a building full of people who cared for their customers to passively watching the numbers on their investment account statements change.
On good days, Rick and Carmen felt they had more money than they could ever need; on other days, it felt like one wrong decision could force them back into the workforce. Although they built a very successful business and sold it, most of the wealth from the sale came from the building where the business operated. On those bad days, they wondered whether it was all just a streak of luck they couldn’t repeat.
They’d had a scare with their investments in the first years after they sold the business: an equity account took a nosedive, and they liquidated those positions before taking further losses. After that scare, they decided to keep their investment conservative and return to what they understood: cash in the bank, a money market account, and eventually, real estate deals with their network of business friends.
Rick and Carmen leaned into the deals their friends were involved in. Debt was cheap, and everyone put in a little cash and let leverage do the rest. For several years, everything worked out great. Money market yields soared, and the real estate depreciation helped balance out their tax bill. (Much better than the loss from the stocks, which didn’t seem to help at all.) Recently, they had noticed everything seemed more expensive and that their money market interest deposits seemed smaller. They were spending more than they planned for, but overall, things seemed to be working okay.
Until the call from Jim - the friend who put the first real estate deals together for them. Jim told Rick and Carmen he’d been working with the bank and there was nothing else he could do. The bank wouldn't refinance at the same level, and the gap was half a million dollars across the group, due within 60 days. The group would either need to contribute the capital or sell the property quickly. Possibly for less than the original purchase price.
Carmen did the math on a napkin while Rick confirmed the details with Jim on speaker. Their capital call portion alone was close to six figures, money that would have to come from the same account they’d been watching slowly erode. Rick’s next call was to their accountant, who explained that years of depreciation had decreased their tax basis.
In that moment, they realized that even if the property sold for less than they originally paid, they would still end up with a real tax bill.
Or, they could contribute more money to a deal that, suddenly, they weren’t so sure was a good one.
Where Rick and Carmen go from here is anyone’s guess. Whether they write a check now to satisfy Jim, pay the IRS later, or see another strategy unfolding across the puzzle pieces, one thing is for sure: the balance sheet they thought was simple just got very complicated.