Liability-driven goal funding: defeasing a known future expense

Most goal funding is return-seeking: invest, hope the average shows up, glide down near the end. But some goals aren't really goals — they're liabilities. Four tuition payments starting in ten years, a balloon payment on a known date, a planned buyout of a sibling's share of the family house: known amounts, known dates, low tolerance for shortfall. Pension funds and insurers stopped gambling on this category long ago; they practice liability-driven investing (LDI) — buying assets whose payoffs arrive exactly when the liabilities do. The household version is called defeasance: pre-funding a future expense with bonds that mature into it. It's the closest thing personal finance has to simply deleting a future bill.

The core idea: match duration, not returns

A future liability behaves like a bond you've shorted: $30,000 due in 10 years is worth some discounted amount today, and its present value rises and falls with interest rates. If you hold an actual bond maturing in 10 years for $30,000, the two positions cancel — rates up, rates down, stocks up, stocks crashed, none of it matters, because the bond pays $30,000 on the date the bill arrives. That cancellation is defeasance. The crucial discipline is matching maturity to the payment date: a 10-year liability funded with a 2-year bond ladder takes reinvestment risk (rates may fall before you re-lend), while funding it with a 30-year bond takes price risk (you must sell early at an unknown price). Matched duration takes neither.

The instrument: zero-coupon Treasuries

The cleanest defeasance tool is the zero-coupon Treasury (STRIPS): no coupons to reinvest, just a deep-discount purchase today and full face value on a date you choose, backed by the federal government. Buy a strip maturing August 2036 and you know, to the dollar, what you'll have in August 2036. Ordinary Treasury notes or a CD ladder work nearly as well with slightly more bookkeeping. The one structural caveat: zeros in taxable accounts generate tax on 'phantom' accrued interest each year, so hold them in an IRA — or, for college specifically, inside a 529's interest-guaranteed or individual-Treasury options where available, keeping the tax shelter and the match.

When defeasance is the right call — and when it isn't

• Right: the amount and date are genuinely known, the horizon is under ~15 years, you already hold (or will soon hold) the lump sum, and a shortfall would be severe — tuition, a contractual payment, a firm retirement-date income floor.
• Wrong: the 'liability' is soft (a wedding whose budget can flex), the horizon is 25+ years (equities' shortfall odds get very low and the certainty premium very high), or you'd be defeasing with money you haven't saved yet.
• Partial is often optimal: defease the non-negotiable core (say, in-state tuition) and return-seek the aspirational layer (private school, grad school) — certainty for the floor, growth for the upside.
• Savers without a lump sum can defease incrementally: each year's contributions buy strips for the still-unfunded payment dates, locking in whatever yields prevail — dollar-cost averaging into certainty.

Building a household defeasance, step by step

1. Write the liability schedule: each payment's amount (in projected future dollars) and due date.
2. Get current Treasury strip or CD yields for each maturity — your brokerage's bond desk screen lists them.
3. Compute each rung's cost: face value ÷ (1 + yield)^years. Sum the rungs for the total defeasance price.
4. Compare that price to your available lump sum. Fully funded: buy the ladder. Partially: defease the earliest (least time to recover) payments first, or the non-negotiable core of each payment.
5. Choose the wrapper: IRA or 529 to avoid phantom-interest tax; match each rung's maturity a month or two before its bill's due date.
6. Once built, leave it alone — the entire point is that there are no further decisions. Review only the inflation assumption every couple of years.

The bottom line

For a known bill on a known date, the sophisticated move isn't a cleverer portfolio — it's removing the portfolio from the equation. Price the liability, buy government-backed zeros maturing into each payment, shelter them from phantom-interest tax, and index for the liability's own inflation. Pay for certainty only where certainty is required: defease the floor, invest the upside. A pension fund would never let the market decide whether it can pay a bill it already knows about, and for your two or three truly non-negotiable goals, neither should you.