How to retire early – like, really early! What, if anything, the news about the Department of Labor fiduciary rule means to you, and why Joe HATES target date funds! This is Your Money, Your Wealth.
Today on Your Money, Your Wealth, Joe and big Al talk to Andrew Fiebert of the financial podcast, Listen Money Matters, about real estate and retiring well before age 65. You know Big Al’s got a list for you, and today it’s the Seven Essential Retirement Rules for Anyone Over 50. And, the fellas answer emails about target date funds, making the most of your pension income, buying Mom’s house rather than inheriting it and determining capital gains on the sale of a rental – oh, and you’ll find out why Joe’s socks may be creating a conflict of interest! Here are Certified Financial Planner™, Joe Anderson and CPA Big Al Clopine.
:50 – JA: Hey welcome to the show. Lots of things to discuss. Breaking News. I’m going right into this, Alan.
AC: OK. I can’t wait.
JA: You know it’s funny how a year, I mean, it’s shocking, how quickly things can change. Our industry is the financial services industry. On Friday, I’m not sure if you’ve heard this but President Trump wrote another executive order. And as you know now the Dow Jones is up 20,000. Everyone’s all excited. The market is extremely excited because we’re going to roll back a lot of regulation apparently. And we’ve been talking about the DOL fiduciary rule for quite some time since… what, past couple of years. It was supposed to come out, or come into effect, in April. April 1st. So what the DOL and the fiduciary rules is, just a little backdrop for you, is… A fiduciary means this, is that if you’re working with a professional they’re doing what’s in your best interest. And most of the industry works on a suitability standard which is that they’re selling your product which is decent for you but it may or may not be in your absolute best interest.
A lot of times advisers and brokers might have a fiduciary rule to their company, not necessarily to their clientele. So that creates conflicts of interest when you are positioning a product or a solution that might compensate that firm or that particular broker or advisor or salesperson or whatever you want to call the individual… You know, a little bit more compensation versus another solution.
AC: Right. And you can probably say, I mean, it’s it’s not definite conflicts of interest but there’s more likelihood I’m sure.
JA: Yeah that’s a good point. I mean there’s a lot of really great advisors all across the spectrum, and there’s some bad apples there kind of ruin the bunch.
And so what they want to do deal is that the DOL stepped in and said you know what in retirement plans we would like everyone that is giving advice or helping individuals in their retirement plan – so an IRA for instance, individual retirement account. or 401(k), they have to act as a fiduciary. Which means they have to act in your best interest. And so a lot of these different companies were going haywire. The financial services industry was up in arms. They were suing the DOL saying what are you doing. You’re overstepping your bounds and everything else. But when you look at it, well, I mean if they’re acting as a fiduciary, I think that’s a good thing, right? But then there’s argument saying well maybe the consumer that doesn’t necessarily have a lot of assets that would still like to get advice, they might not be able to get that advice because these firms won’t be able to afford to take them on without any sort of reasonable compensation. So I understand that argument. But at the end of the day, you should be working with someone that has your best interest in it should be in writing.
AC: Yeah. To me, Joe, it’s surprising I think to a lot of folks when we talk about this, they just assume that advisers have to look out for their best interest. And that’s actually not how the industry is primarily set up. Now of course there’s a movement, there’s a fee only movement which we’re part of, where we’re fiduciaries, but a lot of the industry is still the old fashioned way under suitability standard as you mentioned, and boy the uproar from the industry over this Department of Labor regulation and of course a lot of the industry wanted Donald Trump to get into the office so they could roll it back. And that appears to be exactly what’s going on.
JA: Right. And so stay tuned. Right. He drafted the executive order on Friday.
AC: Yeah I’m not completely clear on it Joe, but what I read was that it’s an executive order, and it’s it’s not like cast in stone, it’s more of this is his thoughts, and we’ve got to relook at this…
JA: Sure, it’s like a revamp of it. And you know and I’ve also heard some other arguments saying, yes there needs to be a fiduciary rule but maybe it should come from the SEC versus the DOL. The SEC is the Securities Exchange Commission that regulates the industry
AC: That’s probably valid. Probably true.
JA: Probably a better way to look at things.
AC: That’s the agency that I think would be watching over for this sort of thing. A little bit more than the Department of Labor.
JA: So I guess just FYI if you are anticipating things, because a lot of these companies came up publicly, the big brokerage firms and say, “All right well from now on in retirement accounts we will just charge a fee for the advice versus any type of commissionable products,” other people were kind of sitting on the sidelines just to kind of see, you know, wait and see type of thing. But just FYI, buyer beware of course if it sounds too good to be true in most cases it probably is. You know some of the things that were on top of the list of course were some package products such as an annuity of some sort that was guaranteeing XYZ.
I think if you dive in deep some on, let’s say, a fixed index annuity with a guaranteed income rider on it, how they’re sold and how they work might be two different things. But if you get into the weeds with the product and you truly understand how it works, and then purchase it, then yeah, then you’ve done your due diligence. But I think a lot of times you might hear there are certain guarantees that are- there’s guarantees there but it’s not the guarantee that you anticipated, such as 7% guarantee on the money. Well no, that’s a roll up for your guaranteed income and sometimes it’s not fully disclosed. And then you have the non-traded REITs where there’s very little liquidity and you don’t know, and very little transparency so you’re not sure exactly what your income really is, is it a return of principal? Is it actual income from the properties that you’re purchasing? So the fiduciary rule will probably be kicked down the road a little bit as they say.
AC: I would say so and I guess if you really can’t tell from our discussion we were for it because we think that the industry should be under the fiduciary standard and I think you will find that most fee-only financial planners are all for it. I mean this to me is how the industry should move. There was a lot of lobbying by the insurance companies, by the big brokerage houses, because they didn’t want this to go into effect.. Because all of a sudden their way of doing business would fundamentally change.
JA: Well because bow they’re liable, right? Then you can sue. There’ll be class action lawsuits if one person said hey they sold me this product and they should have been acting as a fiduciary versus the suitability standard. And if I have a big brokerage firm with thousands of different advisors, I mean the oversight on that is fairly challenging.
AC: That’s true. And so I can understand it from their standpoint to administer this whole thing and so maybe this should be revamped, but the spirit of it I think is correct.
JA: No I agree with you 100%. So we’ll talk more about this I guess as time goes on, as we see how this rolls out, see if we get a little clarity on exactly what’s going on.
But like rollovers for instance, let’s say if you have a 401(k) plan, and a lot of times advisers, our firm is one of them, that would say all right you want to keep it in the 401(k) or would you roll it into your own individual retirement account? Depending on the circumstance of the individual client, but I would say the majority of the time the advice is to roll it over. And I think there’s a lot of good reasons to roll it over, so you can get professional management of it. You get tax efficiencies from it. You have someone that’s not necessarily emotionally tied to your money, so there’s a lot of pros. There’s also some cons there too.
AC: There are of course there’s generally more investment choices in your own IRA versus your 401(k), but yeah you’re right there are some cons and some of the cons come down to the adviser that you pick because some advisors are going to sell you expensive product and you may not even know it, where you would have been better off staying in your 401(k).
JA: Right. And then I think everything is so glued on fees. And I guess this is kind of biased, because our firm of course charges fees, but it’s the behavior that takes away more of the overall account balance then a fee, If it’s a reasonable fee.
AC: Yeah. So what we’re saying is if the market, and we see this every year with Dalbar studies, they look at the what the market has performed versus what the average investor has earned on the basis of their behavior when they get into the market, when they get out of the market, and Joe, every year it’s somewhere between maybe on the low side, 3% rate of return that you lost just by being an investor.
JA: It could be 50 to 75% or less than what the market returns.
AC: That’s right. And we’ve seen 6 or 7% rate of return, in other words, the markets earning 10 and you’re earning 3 because you’re buying and selling at the wrong times, you’re buying when the market is going up, when you’re excited, so you’re buying high and you’re selling when it corrects so you’re freaking out. So you’re selling low and it’s interesting, these Dalbar studies – in a lot of cases if you have an adviser that can can sort of keep you in your seat, for lack of a better term, and stay invested, you do a lot better over the long term, and actually, that particular rate of return just from that is generally more than the fee is usually quite a bit more than the fees they’re charging.
JA: Right. We had Carl Richards on the show a few times and he wrote the book The Behavior Gap. And so, he did extensive research including the research from Dalbar, taking a look at the inflows and outflows of equity mutual funds of the average individual investor. And of course, when markets are at their peak, as we see today, we’re seeing more and more inflows of equity type mutual funds, and when markets go down, then we see a lot of outflows of equity type mutual funds, so we’re doing the exact opposite of what we should be doing because of the emotion that’s involved with our money. And the closer we get to retirement the more that we look at our overall money and the more emotion is that much more real because now I have to spend it versus save it. And there’s all sorts of, now, new Ph.D. degrees in behavior when it comes to overall finance.
So stay tuned we’ll talk a lot more about the DOL and what’s going to happen there in the weeks and months to come.
10:48 – Alan, what lists do you have this week?
AC: Well I’ve got a good one to start with. And this is Seven Essential Retirement Rules For Anyone Over Fifty.
JA: Seven essential rules. I guarantee you it’s all fluff.
AC: Could be, but there’s some good stuff. But before I jump right into it, the Pew Research Center estimates that about 10,000 baby boomers are expected to retire each day until 2030. We’ve been sort of we’ve been saying that statistic for years, now we know when it stops. We never completed this, Joe. So it’s 2030. 13 years from now.
JA: All right. Then it goes to, what, nine thousand nine hundred?
AC: Well then there’s no more baby boomers. They’re already all retired.
JA: I got a question, I’m sorry. So because of this Age Wave, you’ve got these 10,000 baby boomers turning 65 every day for the next 13 years. All right. And so with that they’re talking about the solvency of Social Security because there’s so many people now at age 65 or close to full retirement age…
AC: As a percentage, higher versus any other time in our history.
JA: So then they’re looking at the trust fund, the OASDI fund, because more money is going on to that fund than is actually getting funded at this point because the baby boomers are retiring. And then so by what 2037 or so, then it’s about 80% of the obligations would be able to get paid, because the trust fund is now zero.
AC: Yeah. In other words if the trust fund runs out, which it’s projected to, I’ve seen anywhere between 2034 and 2037, 2038. I guess that went up lately, because the market’s done better. But at any rate the thing is even if the trust fund is out of money there’s still money coming in. So the last I saw 77% of your benefits you’ll still get anyway. And a lot of people don’t realize that, they think it’s going to be zero. And of course that’s if there’s no changes in Social Security, which there will be.
JA: Right. But then here’s the other question that I have. What is the largest demographic? You’ve got the greatest generation, you’ve got the baby boomers, generation X, you got generation Y and the Millennials, and now you have generation… the next one. Z or whatever. Out of those generations which is the largest which is the largest?
AC: I think the millennials maybe.
JA: The millennials are, right?
AC: Which, you know what we’ve always said it’s baby boomers always, now the millennials have taken over.
JA: Exactly. So the Millennials are the largest generation. And so, all right, well let’s just fast forward to 2034. Well the Millennials are the largest generation they will be in the workforce paying FICA tax. How does that thing run out?
AC: Right. Well, and plus Joe, this is something that they’ve tweaked and changed over time. They’ve raised the limits, they raise the percentages, they increase the retirement age. There’s lots of ways to fix that and everyone knows it’s a fixable issue. No one wants to tackle it because it’s a political nightmare. But at any rate, Social Security, I will tell you, is here to stay. It’s not going anywhere.
JA: Boy that’s a pretty big statement there. All right. What do you got for your list there?
AC: You want the Seven Essential Retirement Rules. The first one is the dreaded B word: budget. Yes, buckle down on a budget. This is written by Judith Ward and Forbes Magazine so general spending guidelin is fine when you’re years away from retirement. But now the rubber meets the road if you’re 50 and older. It’s time to get serious about what your budget will be when you retire. Track your spending carefully, figure out what expenses you you won’t have when you stop working, and which expenses that may actually increase.
JA: That sounds like way too much work and most people won’t do it. Here’s an easier way to do this. Here’s a dry run through. Because what we talk about quite a bit as you’re saving money, as you’re accumulating wealth to retirement, is pay yourself first. Right. Find out how much money that you need to save. Do that, and then spend everything else, who cares, you don’t need a budget. Just save first then spend everything else. All right? Most people do the opposite. They pay their bills, they go out to dinner, they do this, and all of a sudden there’s nothing left at the end of the month.
AC: Yeah, a hundred bucks, maybe 50 bucks.
JA: But if you pay yourself first, so now you’re retired, it’s like, “oh now we’ve got to buckle down and budget all this stuff.” No here’s the simple steps that you need to take. Figure out what your fixed income sources are. What is your Social Security, what is your pensions, do yo have real estate income, and so on, and all those dollar figures up. So if you’re married of course, add your spouse’s Social Security, your Social Security, if you have pensions. And let’s assume I’m married and let’s assume that my Social Security is $20,000. My wife’s is $20,000 so that’s 40 grand. And then maybe we have a small pension of another 10,000 bucks. So $50,000 is our fixed income source. All right. Then I have to take a look at my assets. How much money do I have in retirement accounts versus mutual funds versus Roth accounts and so on so forth. Then just take 4% of that number. So if I have $50,000 in fixed income and I have $100,000 saved? So 4% of that hundred thousand is $4,000. So my income is $54000. 50 plus the 4 for $54,000. That’s your budget. Right? If you spend more than that you will run out of money. So, I mean, if you look at it like that, that will take you five minutes to do, versus tracking your expenses for, you know, 90 days, and then you’ll just get frustrated. “Oh honey why are you spending or what did you do or what’s that. You took cash out of the cash machine you got to tell me about that because I’m on this strict Excel spreadsheet!” Figure that out, then come up with an overall retirement income strategy to make sure that you’re managing the assets, tax managing it OK, to take that 4% out and how are you going to deal with that.
AC: I think that’s a good exercise, and Joe, I like what you do when you teach classes, you ask people, “well are you going to spend less in retirement?” “I’m going to spend 75% of what I’m spending right now.” And so then you ask the question the other way. “Well what if we took 25% away from your salary today, could you for your lifestyle?” There’s no way. Absolutely not spend every penny.
JA: Right. Yeah. “Well of course I’m going to spend less in retirement.” “How much are you going to spend less in retirement?” Well I don’t know we’ll probably spend, you know, 75%. OK so you’re saving so you can save 25%. And there’s no chance in hell.
AC: So anyway that’s a good exercise right. It’s to do kind of a retirement… what do you call it…
JA: Back of the envelope type analysis.
AC: Yeah. I had a more clever word. But that’s right. I’ll think about it later. Here’s number two: get cozy with your 401(k). For years you’ve thought of the 401(k) as money you couldn’t touch. Now this will be likely a valuable source of funding into retirement. If possible talk to your company’s benefits team to see how you can access your money after you leave. You may be able to leave your money in the plan and make periodic withdrawals. You may have to do a roll over to an IRA, and so you’ve got to figure this stuff out. We were just talking about that.
JA: Get cozy.
AC: OK. Location location location. Where are you going to live. Are you staying put in retirement? Are you mulling a move? You like these words that are in this article. Do you and your partner feel the same way about it? You want to live in Florida, partner wants to live in Canada?
JA: Right. I mean if you look at the statistics most people want to stay in their homes. That’s where your memories are that’s where you raised your kids, that’s where everything else. A very small percentage of people actually want to move.
AC: Now do they want to stay in their home, they do stay in their home. I mean it’s the overwhelming majority.
18:39 – And the next one I got: determine your Social Security claiming strategy. Joe, did you know that the average Social Security payment in 2016 was $1341 for an individual or $2212 for a couple? So $24,000. Call it $26-28,000 for a couple is the average. And here in Southern California that would be a little bit difficult to make that work. However, averages are deceiving, right, because I’ll put it this way, if you’re making a good salary a lot of our listeners are. And if you’re near the top, or maybe even past the top of the Social Security cap, you can probably, what would you say, Joe? Probably if you retire for retirement age which is 66, in two years you probably get somewhere around $2,000 per month. And if you go to age 70, it’s probably about $3,000 per month. In rough numbers, just to give you a sense. So those numbers are greater, if your spouse works, then you could potentially even double that. So it does depend on your salary but the claiming strategies are crucial. So many people claim their benefits at 62.
JA: All right. I think there’s confusion too and how it’s actually calculated. So if you take a look at the last 35 years of earnings, the highest 35 years is how they calculate your PIA, your primary insurance amount. So if you continue to work, I get this question quite a bit, it’s like, “all right well if I continue to work is that going to hurt my Social Security benefit or how does that happen or what goes on there?” Your benefit, if you continue to work will never go down. It would only go up or stay the same because they take the highest 35 years. So if you had let’s say only 30 years of work history and you had those other five years, Social Security just plugs them in as zero.
AC: So if you’re part time it’s going to help you.
JA: Right. As long as you know you put into the system. So you could work until 70, 75, they’ll still recalculate those dollars. So if you’re going to continue to work past full retirement age, even if you decide to collect your benefit at 66, let’s say, I collect my benefit at 66, but I’m young, spry, and I still want to work for another 10 years. Well as you continue to work, and if you’re at a high wage earner right they’re just going to replace those higher wages with maybe a lower wage that you made 35 years ago. So your benefit is recalculated every single year so it continues to re-calc on ya. But if you do take it at 62 just know that you would receive about a 25% permanent haircut on those dollars. And if you’re working full time, as you collected your benefit prior to full retirement age, you can’t make more than about $16,000. Once you make more than 16 grand, they take a dollar back every $2 that you earn. And then once you reach the year of your full retirement age, then it’s about 40 some odd thousand dollars. 43,000 bucks and then they take back a dollar after every three dollars earned after that threshold. So I’m only talking about once you’re full retirement age you could collect your benefit. You can make X amount of dollars, they’re not going to take any dollars back, and they don’t take it and steal it right. They just recalculate your benefit like you didn’t take it for that month or that year or whatever. However the calculation works out.
AC: That’s a good point because we do get asked that all the time. “Well how much can I make and still receive Social Security benefits?” It depends on what age. So basically if you’re between 62 and 66 roughly, there’s issues if you have earned income, and if it’s before your year that you reach full retirement age you can only make about 16,000 bucks. So don’t take your benefits then probably if you’re still working. Now if you reach 66 years old and two months as it is right now and you want to take your benefits and you’re still working full time while you can. You get full benefits after full retirement age – 66 years and two months. You still though may want to wait till age 70. Because if you wait till 70 you’re going to get roughly 30 to 32% higher benefit than if you took it at that 66 year age. And so here’s the thing is if you’re working and don’t need Social Security, why take it? Because it just keeps growing each and every month for the rest of your life by you delaying it.
JA: Right. And then there’s all sorts of different opinions. Like, “well I’m going to take it early but then I’m going to invest it.” So then you have to look at all sorts of different crazy assumptions and you’re looking at crossover points, and break even… we don’t look at it that way, we look at Social Security as longevity insurance. It’s like, all right, well, you’re going to receive an 8% delayed retirement credit on my benefit. That benefit is guaranteed by the federal government. Yes, you can take it early and if you invest it, you get a certain rate of return are you going to be better off? Sure it’s depending on what type of assumptions that you make in regard to the amount that you think that you can grow that money.
AC: Yeah that’s a good point. If you think you can earn 15%, do it. Take it early.
JA: Take it early and invest it, most of us don’t. Markets go up markets go down and you want to make sure that you have some form of you know guaranteed fixed income. We feel that Social Security is a great source for that versus maybe purchasing an annuity or anything else for that matter.
AC: Yeah. And part of that too is Social Security is not fully taxable. Worst case, 15% of Social Security is tax free. And in some cases none of it’s taxable.
JA: It depends on how you toggle your income. Because you have full control of how that income potentially is going to be taxed in retirement, depending on how you set yourself up. If it’s all in a retirement account, then you have very little control because it’s taxed just like your paycheck when it comes to ordinary income tax. And you know state of California or whatever state that you live in. But, if you have money in a brokerage account, let’s say maybe money in a Roth account, and you have money in a retirement account. Then you have three different areas where you can draw your income from. Now you can start controlling the taxation which is key. And then if you understand the provisional income, when it comes to how Social Security is taxed, then you could really play with the numbers to make sure that you’re doing everything appropriately upfront. So when it comes time to collect your Social Security, to start drawing down your investment assets, or taking distributions from it, you’re doing it with the right tax mode.
25:02 – AC: Well Joe we’re talking about Seven Essential Retirement Rules for Anyone Over 50, and we sort of touched on this next one, which is probably the single most important one here, which is map out a strategy for withdrawals. Because once you stop working and the paychecks stop coming in, how are you going to pay for things? Because in addition to your regular income and Social Security and pension income, you’ll have to spend from your savings. And isn’t that the whole reason you saved in the first place? And now it’s a matter of which savings accounts do you take the money from? Do you take it from the IRA, from the 401(k), from the Roth IRA, from your non-qualified, non-retirement account or combination?
The advice everyone gets, for the most part, is spend down your non-qualified money, your non-retirement money first, because it doesn’t cause any taxes. And I would say in many cases, if not all cases, that’s probably the exact wrong thing to do.
JA: Yeah. It’s very emotional as well, because now you’re spending the money that you saved and that’s a very difficult thing for a lot of you to do. And I get it, it’s like “well no, I’m a saver I’m not a spender.” Because I think most of the time you look at your account balance and you like to see it go up. But once you start taking money from the account. Right? But then, “oh I’m averaging 10% so I’m going to take 10% out.” We’ve seen that disaster happen.
AC: We have. the smarter thing is is if you’re taking out 4% maybe you should be earning six or seven.
JA: But I think a lot of times people are a little naive going into this, because once you start selling the assets, it’s like well what asset are you going to sell? What strategy are you going to use? When are you going to sell it? Do you put a year or two years in cash, or do you just try to live off of the interest or dividends that it’s kicking out and not spend anything else? Getting more complex, are you taking it from your IRA, your Roth IRA, or your brokerage account? How is that going to affect your Social Security benefits? I mean there’s a lot more to this. It gets very complex.
AC: It does, and sometimes just simple things like, I’ve got these investments that I’ve had forever, outside of retirement, if I sell them there’s big gains so… and some people don’t pay any attention to that. They sell them. They got these big gains, where if they’re charitable, they could’ve given those highly appreciated securities right to their charity and get the deduction for what the stocks were and not pay taxes on the gain. And it’s it’s funny because we talked to a lot of people that don’t even know you can do that. The charities will accept stocks instead of cash. So much smarter way to go because then you avoid the capital gains tax on that.
JA: And then once you reach 70 and a half you can give your required minimum distribution directly to charity. I want to ask you a question here. All right so here’s the law. Up to $100,000 of your required just go directly to a charity. When would that make sense versus just saying, “you know what, I’m going to give X and then just write that off as a deduction.”
AC: Let’s let’s say you’re required distribution is $100,000 just to make it simple. So which means you’ve got a lot in your IRA, your 401(k). Let’s say you’re also very charitable you want to give $100,000 away so you can either withdraw the funds from your IRA, 401(k) and it’s income on your return, right? And then you have a $100,000 donation, which is a write off so it would seem that whether you do it directly from your IRA, then it doesn’t show up on your return, versus It’s on the return as income and as a deduction, it would seem to be the same. But there’s lots of cases where you’d rather have it go directly to charity because when you have the income the required minimum distribution, on the front page of your 1040 form, it’s part of your adjusted gross income. That impacts how much of your Social Security will be taxable. It impacts how much Medicare surtax that you might pay. It will impact whether your exemptions are being phased out. All kinds of stuff right there and then the other thing too is when you give away big charitable donations, they’re limited to your adjusted gross income and you can get a situation where if you take the RMD and then record the charitable deduction you don’t get to deduct it all because adjusted gross income isn’t high enough.
JA: So I guess to dumb that thing down. If I’m giving $10,000 to a charity and I have lower income….
AC: That would be the best time to do it Joe, because if you’re in lower income…
JA: then it’s going to affect your Social Security taxation.
JA: So there’s got to be there’s a sweet spot where it’s not going to make any difference. And then there’s another sweet spot where it’s going to make a ton of difference.
AC: I’ll try to dumb it down. So lower income, you definitely want to do that.
JA: Directly take it from the IRA to the charity.
AC: Yeah a direct contribution to charity because less of your Social Security will be taxable. Or higher income, you want to do it because you’ll stay out of that Medicare surtax and the phase-outs. So to quantify that, I would say if your income is probably, even with Social Security, less than about $50,000 or so then you might want to do the direct contribution because you’re going to have less of your Social Security taxable. Or if your income is above 250, then that’s going to be appropriate for you. And there could be reasons, Joe, where even if you’re in the middle there you might want to do it. But that’s probably the sweet spot.
30:32: Joe and Big Al are always willing to answer your financial questions! Email firstname.lastname@example.org
This is from Darren G. “I listened to you and have enjoyed it.” Wow. That’s a first. I like it. “Some of the things you talk about are a little different. I especially like the discussion about having the cash bond stock split that looks to balance the portfolio based on your ability to not have to sell a depreciated asset for a few year period, basically suggesting a larger percentage of stocks. Risk is OK as long as there’s enough cash or bonds to weather the downturn. Hope I got that right.”
So yeah, I mean, I think a lot of times when we say how much money should you have in stocks versus bonds is based on cash flow needs. It’s not based on a stupid risk tolerance questionnaire. Right? “All right, well, here, I need to develop $30,000 from the portfolio. And then that number’s going to increase each year just due to the fact that I got to pay a little bit of tax on that. And then there’s also inflation. And if my only fixed income source is Social Security, then 100% of the demand of that extra income has to come from my portfolio.” So you want to make sure that you have a buffer there to say, “You know what? I’m going to have at least five years of fixed income sources or maybe seven years or 10 years,” really depending on the person, and what their overall asset base looks like and so on and so forth it’s very specific to that individual. But yeah you get the gist is that who cares if the market crashes, because you have enough to weather the storm for the next five years. Markets go down, markets go up, markets go down, the markets go up. So you don’t want to be selling an asset when it goes down. He goes on to say: “So given that, my question relates to how to treat pension income.” OK. All right. “So when I look for pension money advice there doesn’t seem to be any logical explanation of the pension/cash/stock/bond balance. My wife and I have a six figure annual pension payment for life, whoever lives the longest. If I treat that income as, let’s say, a 5% bond payment, the present value is equal to our savings.” All right. So, I mean, if you look at $100,000 fixed income, that’s a couple of million bucks depending on – he’s using 5%, so… right? “So it seems to me I should take on a lot more risk than let’s say a 60/40 stock portfolio. Look to hear you discuss it on Saturday.”
AC: That’s a great question, and I would say Darren, yes you can, if you want to. So here’s the modified formula. Let’s call it $100,000, you said six figure. And let’s say you’re spending $120,000, for example, so you need $20,000 from your portfolio and Joe to paraphrase what you just said is, in your case, since you got a lot of assets, let’s make sure that you’re good for 10 years. So let’s say 10, you need $20,000 a year. Let’s multiply that by 10 years so you ought to have at least two hundred thousand dollars.
JA: And it sounds like he’s got let’s say a couple of million dollars in liquid assets.
AC: Right. At least a couple of hundred thousand dollars in fixed income, so that if the stock market were to go down for a decade, which by the way it never has except for The Great Recession
JA: That’s only one market though right? That’s only the S&P. If you look at emerging markets, small cap and so forth, those all went up.
AC: That’s true. So 10 years would be actually plenty conservative. And just so you understand, when we’re saying 10 years, it’s not like that the $200,000 is going to produce the income that you need. You’re going to be selling some of those bonds to create the cash flow that you need. Right? That’s how this works. But then you can let the rest of your portfolio do its thing. It will come recovering. As long as you believe in capitalism, if you don’t believe in capitalism then maybe you don’t want to have that much risk. But that’s the concept. Now on the other hand, let’s take that flip side, Joe, which is if, in this case, you have $2 million so that would be $1.8 million in the market, $200,000 of fixed income, that may be more risk than you want to take if you’re the kind of guy or gal that will wake up in the middle of night when your portfolio goes down 30%, 20%, then let’s taper that back a bit. So there’s a lot of things you want to look at all at once.
JA: Here’s the hierarchy. I agree with you 100%. The first part of this is to really take a look at the income need rand say well if you need an additional $20,000 from the portfolio or maybe it’s zero from the portfolio. But keep with the consistency of your example. Well here, I need $20,000. Let’s do that by ten. You know, take a present value calculation. You probably need about $250, $260,000 in safe investments given inflation over that 10 year period. We’ll call it $300,000. And then you take whatever else that you have, that would be the stock mix, and then you had $300,000 in TIPS, government’s treasuries, right? You know maybe really high quality international bonds and so on. So then you know that those are going to be a very short duration. By the way. All right. Shorter duration high quality. So you’re not going to see that variability or volatility in those bonds. If you went longer term. So that’s the first step, because now I covered my income need for the next 10 years, so if the market blows up I’m alright with that over the short period of time because I know the recovery, going to be safe for 10 years. So that’s the first step then the second step is what’s the ultimate goal of the money. Is it for the kids? Is it for the grandkids? Is it for charity? Do you want to maximize that, right? If you say no I don’t really you know it’s just us, whatever.
Third, then you say all right now what’s the sleep factor. Now where are you at. Because if that $2 million drops down to 1.5 you lost $500,000 let’s say in a six month time period, what are you going to do? Are you going to freak out, are you going abandon the strategy?
If the answer is yes, then you want to start toggling it really based on your specific kind of risk tolerance but you don’t start there I guess is the point. “Hey! How do you feel if the market dropped 20%!” Everyone says I’d be pissed! It sucks! I lost a lot of money! And it’s how you feel at that moment of time when they ask you that question too. So that’s why we’re not big fans of that. We start with the full financial planning. What’s the casual need, what’s the tax implications, what’s the overall goals of the money? And then we layer you know some of the other stuff that the industry kind of leads with.
36:50 – JA: Alan, I’m pretty excited right now.
AC: Yeah, we’ve got another great guest.
JA: Yeah, his name’s Andrew, he hosts one of the best financial podcasts. It’s called Listen Money Matters.
AC: And he agreed to come on our show?
JA: I can’t believe it. I gotta pay this guy like 10 grand I think. But I want to get into this interview right away so Andrew. Hey thank you so much for taking a little bit of time out of your busy schedule to join us.
LMM: Hey no problem you’re you’re making me blush over here.
JA: Hey, I got to ask you I guess, what are you drinking?
LMM: Oh my god I’m not drinking anything! I’m terribly prepared to talk about personal finance RIGHT NOW!
AC: Well that’s no fun.
JA: Well you’ve got to crack a beer or something, right?
LMM: All right. I’m getting the bomb on right now! What are you guys drinking?
AC: I got a coffee.
JA: Yeah Big Al’s old, man, he’s got a cup of coffee and I’m just jacked up on an energy drink. Well let me ask you this. All right, so a little bit of background on yourself what you worked for. You’re not even in the personal financial field, and you were like you know what, there’s not enough information for individuals to really understand finance on a basic level, to get into the weeds, or why did you start the podcast and tell our listeners a little bit about the genesis of it and more about your background.
LMM: Yeah sure. So, by day I’m a data engineer and I work with a lot of people who are manyfold smarter than me, but they really suck with money, and a lot of them are in debt, they’re buying just dumb things. And I thought it was about time to, you know, make something that spoke to these people, my friends, to help them to retire early and just not work until they’re eighty.
JA: So you know like all right well I’ve got a couple of buddies that make some money and they’re buying TVs and nice cars, renting. You’re like, enough’s enough. Let me start a podcast. And just because it’s such an easy flowing podcast it’s you and another gentleman just kind of talking about every day life of what people go through. So what you started the podcast in what, 2012?
LMM: Yes. So I actually had a friend, a specific friend who was terrible with money, and we would get on Skype and I would basically just yell at him for all the things he was doing wrong and my wife was like, “you should record this.” And yeah. So we kind of just covered the gamut, and we don’t get preachy. We share a beer or wine or cocktail and just take it easy.
JA: What do you think are some of the biggest mistakes that people are making? You know, I guess in any age group. A lot of our listeners are probably a little bit more into retirement where they’ve made some mistakes, they probably should have been listening to a podcast like ours or yours, you know 30 years ago. But what I find is really cool. I would imagine your listenership is maybe a little bit younger where you can tell them you know is square in the face of like, “here this is what you’ve got to do.” What do you see some of the biggest mistakes that everyone across the board is making?
LMM: You know, for people who are like 30-35, it’s easy to be like you need to invest, time horizon is so huge, you’ll just do well. And I think it covers everyone but the one thing that people overlook and I live in New York so my cost of living is not you know that of Canada, but your whole retirement is based on your savings rate. It’s really simple. And if you were never saving before and you have no debt, you could save about 50% of your income, you can retire in about 10 years and there are people who reach out to us and maybe they’re 40 or 50 and they say it’s too late for me. And like, no not really. You just had a ton of fun when you’re younger and now you have to buckle up and save like 80% or something and you can make up for lost time.
JA: That’s it, huh, just 80%…? (laughs)
AC: No problem, where do I sign up? (laughs)
JA: But you know I love this movement too. I was talking to Big Al earlier about the millennial movement of saying, “hey I don’t want to work for the man, I want to either start my own business, work really hard, save as much as I can and be done by 40.” And you know I’m seeing a lot more individuals actually accomplishing that goal.
LMM: But that’s the thing with the saving of 80% I guess it’s laughable. Right? But you can either spend less or make more. And I have a full time job. I’ve had a full time job. I have a full time wife, I have a full time family. I go out and drink and somehow I started a business that earns more than my actual engineering salary. And I’m not that smart. I think that I just focused time. I think it’s something like on social media people spend 600 something hours a year on it. Just take half of that and do something meaningful and don’t give up.
JA: Six hundred hours is crazy!
LMM: I think it’s even more on Netflix. I mean it’s like close like 1300.
JA: I gotta get my Netflix though. (laughs)
AC: You’re not even on Facebook Joe. So you’ve got all kinds of time.
JA: I do. I don’t even have cable. I should be saving 80% of my income! What the hell am I doing?!
AC: You should be the smartest guy in the room.
JA: God I feel stupid, too!
AC: So Andrew, so the millennials. So you’re saying obviously with the time horizon, if they can start now they can have whatever retirement they want and of course it doesn’t have to be 50% or 80% but even if they put away like say 15% for a number years, they should have a great retirement. And a lot of folks aren’t really doing that.
LMM: Yeah and you know that’s the thing I don’t save 50%. I like my beer. I like all my things. I take Uber sometimes but like you said if you can be responsible and save 15-20% you know if your employer is matching a 401(k), take advantage of that free cash. You can definitely get out before 65.
JA: What do you think? When it comes to retirement accounts do you more or less push your listeners more towards Roth IRAs or traditional 401(k)s?
LMM: So, I say that when you have matching, you should definitely get as much matching from your company as possible because even if it is 25% the return is ridiculous when you get that. I don’t qualify for an IRA. A lot of the people in my audience don’t as well, but there are things like if you open a business, you can set up a SEP-IRA, you have a low deductible or I’m sorry a high deductible health care plan you could do an HSA and kind of like backdoor the whole thing. So it really depends on the situation. All I will say personally. For me I don’t believe that a 401(k) makes sense because I hope that when I retire I’ll be making more than I did now.
JA: Right right right. So looking at the taxation you’ll probably be potentially in a higher tax bracket. So you want to do the opposite to get maybe lower taxes on the way out than in.
LMM: Right. If I do it right. Hopefully.
JA: Let’s talk a little bit about real estate and I’ll let you go. I know that you look to help individuals with real estate. Big Al’s been a real estate investor for about, what, 30 years? And he’s lost more than he’s gained, so he needs your help.
AC: Yeah, give me some tips! (laughs)
LMM: Yes sure. Dude, I know you’re a smart guy I’m sure you hit your math and maybe the tides went against you, but I don’t believe in appreciation. You know I live in Hoboken and I definitely benefited from that. But I think that if you go in with cash flowing well from the beginning and you’re using correct math in calculating that, I think will generally do fine. And it really just comes down to researching a specific market. There are a lot of people who jump around. I don’t see anything wrong with that. I like to focus and practice like economies of scale where maybe my property manager cares a bit more about me than someone who only has two properties.
JA: With the numbers, with the math, how how are you looking at the math? Because we’re here in Southern California, and the prices of homes are I would say comparable to New York probably not as high, but, you know, we get individuals who say yeah you know I want rental properties here in San Diego. Well the average cost of a home is you know $600,000, then the rents are a few thousand bucks so how do you help people pencil out the math?
LMM: Yes. So I think it’s actually really easy because I was sitting there with the spreadsheet and I wanted to kill myself, but I’m a developer, and so I actually built a tool that you could search an address and it’ll pull the data down from Zillow, it’ll run all the numbers and it show you what your top line cash on cash is. And then I have an estimated 15% calculating for – any this is tweakable, for vacancy rate, and major/minor cap ex’s like a wall falling down or something. And so you get like this medium term cash flow number that should hopefully weather you through most scenarios, so the people who listen to me and visit my site, I just direct them there, it’s free. You just go, type in an address and it’ll tell you everything you want to know.
JA: Where should people go?
LMM: Go to pro.listenmoneymatters.com and create a free account. We don’t sell anything to you or sell your address, whatever. It’s really just a tool to help people make good real estate decisions.
JA: Hey man you’re doing a great thing. I love the podcast. It’s light, it’s fun. It just feels like I’m sitting there having a beer with you guys so, I appreciate you taking some time to talk to us and bring some perspective into your life.
LMM: Yeah absolutely, it was a ton of fun. Thanks for having me on. We should grab a beer!
AC: I’m switching now.
JA: Yeah. Yeah it’s it’s the weekend brother. You know so I usually drink Coors Light. I mean I don’t know half the stuff that fancy craft beer stuff that you guys drink but I might have to try some of it. Well if you give me an address maybe I’ll send you some from New Jersey.
JA: folks that’s Andrew, check out Listen Money Matters. You can download that where all find podcasts are available.
47:31 – Andrew, what do you think there, Big Al?
AC: I like it, got some real estate tips. You know just to clarify Mr. Joe Anderson, I’ve actually had a lot of successful real estate investments, and I’ve had a couple poor ones also. But it is it is interesting how you seem to remember your poor one’s better then you reflect on your good ones. Anyway. But I agree with him. I think cash flow is king. Now, it’s difficult in Southern California to get a decent cash flow. And so if you’re going to invest in real estate in California, it probably is going to be a long term appreciation factor. But boy you’ve got to make sure you have the cash flow going in. I mean case in point people were down in the downtown area before the Great Recession. Were buying condos for whatever, million bucks, and you looked at the cash flow they were losing a thousand bucks a month 1500 bucks a month. But they said, “that’s OK because I’m making two thousand a month in appreciation.”
JA: I lived downtown for many years. And I lived in one of the high rises by the ballpark right? And I moved into that building in ’07, ’08. Yeah I was right on that cusp. But everyone bought into that building years before. Like ’05, ’06 and they’re like, “all right, well this is going to be by the ballpark. You know a 700 square foot studio condo was going for 750. Yeah. And then by 2008 you’d be lucky if they could get it for 400. Right. So yes it is. And the HOA fees are $800. You’ve got to charge six grand in rent coverage to cover it! You got to run the numbers.
AC: You do have to run the numbers. And plus something else about that Joe is you’ve got to have a lot of cushions in there. So you run the numbers, but you can’t assume everything is going to go perfect every month. In other words, you’re not going to have a tenant some months. You’re going to have repair bills some months. Things come up so you’ve got to have factors for that. And some people I would say, San Diego, the average vacancy rate’s 5%, but that doesn’t mean all landlords get 5%. Some are professional. Some, it’s like 10-20% because they’re they’re a little bit slow at re-renting. So assess your own abilities and then have plenty of cushion make sure your cash flow is there in good markets and bad markets and probably, San Diego real estate will continue to appreciate. And that’s a good thing. But make sure you can afford it along the way.
JA: So you’re good at math right?
AC: Yeah pretty good at math.
JA: So here’s an average for you. So you’ve got a freezer. OK what’s the average temperature of your freezer?
AC: Freezer, let’s say 20 degrees
JA: 20 degrees. OK. Let’s say zero. It’s a really Arctic freezer.
AC: It’s your freezer, you like your beer really cold.
JA: Right. And then let’s say you have an oven.
AC: Let’s call that 400 degrees to bake a pizza.
JA: OK. So then. No that doesn’t work with my example. Let’s say it is 200 degrees. It’s a little slow cooker. A slow cooker. So what’s the average of that?
AC: Average is 100.
JA: 100. OK. Can you live in a 100 degree temperature?
AC: You can. It might be a little uncomfortable. You could.
JA: You know hey sometimes a tropical island might be 100 degrees. Yeah.
AC: Just hop in the water, get refreshed.
JA: So you know where I’m going with this idea. So if you put your head in the freezer right your feet your oven your body temperature not going to be 100. What’s the average temperature of your body?
AC: Yeah, it’s close to a hundred, 98.6. Well look at you!
JA: It all came together!
AC: You spent days on that analogy. Yeah.
51:18 – JA: All right. I’ve got another question. We’re a little bit behind from our e-mail listeners. So this is not from Investopedia that we kind of make fun of, these are from our fans.
AC: These are good questions from our listeners.
JA: Yes of course you can always email info@PureFinancial.com. Or just email Alan or I directly.
AC: Joe.Anderson@PureFinancial.com, Alan.Clopine@PureFinancial.com
JA: There you go. OK “Joe and Big Al.” I like how he called me Joe instead of Joel. “Big Al and the other guy.”
AC: Yeah. It used to always be Big Al and Joel.
JA: “So thanks for an always informative and entertaining show.”
AC: Well two compliments in a week, that’s unheard!
JA: Cherry pick. (laughs) I had a hundred that I had to shred. “I just retired at 60. Unmarried no children I have no debt outside my mortgage and I have more income from sources than needed to meet my needs. In fact in retirement…” In 2017 he’s anticipating to be in the 33% tax bracket. “My home mortgage interest is the only significant tax deduction I have.” So he has been “supporting my widowed mother who’s 80 with a monthly deposit, as her primary source of income is Social Security. Between these two revenue sources she is comfortable living on her own in her paid for home. Her investments are small and safely invested. So there isn’t really income from those.” She has a long term care policy, and he is the sole beneficiary of her estate when she passes. “What I was thinking, would it make sense to buy her home from her at a market price of say $200,000 with her financing my loan. The payment would substitute for my current monthly stipend, thereby allowing her to live in the home, receive enough income as she does now, and I would have an additional tax deduction for the interest, property taxes etc. When she passes my payment would cease and I would own the home free and clear. This just seems like a good way to continue to do what I’m doing to support her but at a benefit for me regarding taxes. Am I missing something, or do you have any advice regarding moving forward with this plan. Many thanks.
AC: Maybe there’s a way to get a tax deduction to boot. Let me sort of maybe try to recap what I think you went through, which is mom has a home that she’s living in. Is that right? That’s paid off. So Mom sells you the home at market value. Call it $200,000. And she basically seller-finances. So there’s a loan. OK. There’s a couple of ways to treat this, one is it’s a rental property. Another is it’s a second home. So let’s start with if it’s a rental property. It counts as a rental property, only if she’s paying you fair market rent which I don’t think she’s going to be doing because you’re paying her. So this would be a second home instead. And so therefore as a second home you can still write off all the mortgage interest and all the taxes the mortgage interest as long as both loans… Oh well we don’t know what your loan is on your residence. But as long as both loans are less than $1.1 million, you can take a deduction, so that does work. One of the downsides though is, if you were if she were to live another 10 years let’s just say the appreciation of it. And you inherit it you would get a full step up in basis. Let’s say it’s worth $300,000 at that point. Maybe it’s not going to be that much but any way you would get a new step up in basis so if you were to sell the property there would be no capital gain. The way you’re doing it, if you sell a property when she finally passes, because you don’t necessarily need it anymore, your basis is $200,000 not the higher amount.
JA: So the tax benefit that he might receive by doing this, he might have to pay it all back on capital gains tax if there’s appreciation in the home.
AC: Yeah, you kinda would have to pencil it out. I can’t do all that in my head but those would be some of the pros and cons of doing this, but yeah I like the idea. Because you’re paying mom anyway. And so why not get at some interest and property tax deduction. And that does work. That actually does work. I think it’s more of a tax basis type issue. What if she lives to 100. She’s 80 now. So maybe 20 years of appreciation that now you would have got at a higher basis by inheriting it but you don’t get because you buy it when it was cheaper.
JA: A lot of things to consider. You can tell these are Your Money Your Wealth listeners.
AC: These are these are good questions.
56:08 – JA: Now we’re going to switch gears a little bit and we’re going to see if we can find some good e-mail questions from advisor insights. Investopedia. If you guys haven’t been to Investopedia, that’s a good place to go. I am not compensated by Investopedia. I did however receive a pair of socks that I am wearing today.
AC: Oh those, huh? And you got one pair of socks for more than one?
JA: No, just one. That’s it. That’s it.
AC: That’s all you got for doing all this?
AC: That’s like less than minimum wage.
JA: That’s my compensation for reading their emails.
AC: So in other words in other words there is a conflict of interest because you might get some more socks.
JA: I might get a t-shirt! That’s what I’m thinking. OK. All right. “How can I determine capital gains tax from the sale of a rental property?” So here you go Alan. “My ex-husband and I own a single home rental property in Hawaii. We both live in other states. It was our primary residence beginning in 2010. It changed into a rental in 2012. It has since been a rental in which we’ve claimed depreciation through 2016. We purchased the home for $255,000 and it has a current mortgage beyond some $238,000. The total depreciation claims since 2012 through 2016 is about 4200 bucks. If we sell it at a regular sale not as a business rental for $400,000 how can we calculate the capital gains tax?”
AC: I think that’s a good question. Let me make sure I got all these numbers right. So they bought it for $255. $255 and they’re depreciating $4200. I assume that means per year.
JA: It says the total depreciation claim since 2012 through 2016 is about $4200. So they didn’t calculate their depreciation correctly.
AC: That’s wrong. But let’s just assume that’s what they did. Let’s round it to $5000. So you take the $255K that they bought it for, $5000 in depreciation, so now their tax basis is 250. So you take 250 off of the $400,000 is what they’re going to sell it for. And we’re not considering closing costs, we’re just making this simple. So you got $150,000 long term capital gain. So that’s how that works and that capital gain, depending upon your tax bracket, is either taxed at 15% or 20%. In this case it’s, you know, it depends on the rest of their income. As a married couple you’d have to have taxable income above about $470,000 to get to that 20% capital gains rate, so it’s probably 15%, I’m guessing, 15% federal rate. That $5000, which I’m making up on depreciation, you have to pay 25% rate on, 25% tax rate, that’s called depreciation recapture, but yeah roughly 15% of $150,000. You know, for federal purposes, so that’s what $22,500, that’s your federal tax, plus a little bit more for that recapture.
JA: They should have been taking close to what 5000 bucks a year.
AC: $4200 is about right. Per year. Yeah I would say I don’t know if that’s what they mean or not but…
JA: So how do people look at that? How do you calculate what they should have taken?
AC: So you take the purchase price at 255 and then you’ve got to figure out how much of that is land versus building. And a lot of accountants will just arbitrarily say 70, 75% is building, and 25 or 30% is land. You want a higher building allocation, because you get to depreciate the building which means you get to write off the building over time, or the house.
JA: Over 27 years?
AC: 27 and a half years, so you take that $250,000 times, call it 70%, whatever that is. You divide that by 27 and a half years and that’s the amount of depreciation that you can take per year. Probably I’m guessing it would have been closer to 6 grand per year. And they had it as a rental for four years so they should have had about 24 grand or 30 grand of depreciation, not five, in our example. But that’s how you calculate this. Now a couple of things to realize though is, depending upon the amount of adjusted gross income you have if you’re a married couple and it’s over $250,000, now you’ve got to pay that Medicare surtax of 3.8%.
JA: So if they have let’s say, income of a hundred and some odd thousand because that capital gain…
AC: Yeah let’s say they had $200,000 of other income, and this 150. What’s that. It puts them up to 350,000. So now a hundred thousand of this gain has an extra 3.8% attached. Because it’s over 250 and 50,000 does not. So really your capital gain for most of it and that example is like 18.8%, not 15%. Then you’ve got to pay state of Hawaii taxes, because Hawaii has taxes, it’s actually not quite as high as California but pretty darned close. Then you have to look at the state that you’re living in. Then you decide, does my state have higher or lower taxes than Hawaii? If it’s lower taxes, well you don’t have to pay taxes in your own state but too bad you’re out of the pocket for the state of Hawaii taxes. If you live in California, California gives you a tax credit for taxes you pay in Hawaii. So you take your California taxes minus the Hawaii taxes and you pay the difference in California. Nauseating isn’t it? But now our listeners know.
JA: Oh my God how many car accidents just happened because they fell asleep.
AC: I don’t know how to make this more interesting. It is what it is. So you do it. (laughs)
JA: So I gotta pay tax in two different states? But then I get a credit? California credits me. Whichever’s higher. But then I gotta file a California return and I gotta file a Hawaii state return?
AC: You bet. That’s exactly right. So you better be really good at Turbo Tax or hire somebody to help you.
JA: Well a little shameless plug for Clopine Financial. (laughs)
AC: Oh I have I don’t do taxes anymore. That’s long gone. I used to. That’s how I know this lousy stuff.
1:02:15 – JA: What do you think about target date funds? To wrap up the show.
AC: OK. I’ll give you my answer and then you can clean it up. So target date funds are like retirement account funds where, depends upon your age, or depends upon when you’re going to retire – 10 years 20 years 30 years from now, and the funds in that particular investment are invested based upon you getting close to retirement date. The closer you get to retirement date, then there will be more fixed income, safety. Joe, I would say I like them in general, but there’s a couple of problems. Some of them are expensive. You got to look at the internal costs. Some of them are cheaper. So be aware of that. And the other thing too is it’s going to put you in an average with everyone else which may or may not be the best thing for you to do but it certainly is probably better than doing absolutely nothing.
JA: I think target date funds are great for investors that have maybe a $100,000 or less. I think it’s a good plan to get a diversified portfolio and really easy. Right. It’s just chug and there you go. Plug and chug? Is that what the terminology is called? All right. So yeah. So then it’s diversified and then as you get closer to your retirement date, then it gets a little bit more conservative. But, however, you’ve got to be very careful with some of these because in most cases they’re for unsophisticated investors because they don’t want to deal with anything, they just want something simple right. So how do most people select their investments Al? What do they look for?
AC: Well they look for the rate of return from last year.
JA: Yes! They look at past performance. Past performance means nothing for future results, right. We’ve all heard that before. Disclaimer. But different target date funds have different allocations. And so let’s say you go to Vanguard, you go to Fidelity go to T. Rowe Price, you go to whatever. There’s hundreds of them and then you look at, “All right, well, which one is the best target date fund?” Most people are going to pick the one with the highest return and then they’re going to equate that to the best one. However that’s a lot more risk. They might have 80% in stocks, while maybe another target date fund with the same target date has 55% in stocks. That doesn’t mean the one with 80% is better because it has a higher return. It’s just taking on a heck of a lot more risk. And then if you’re taking on more risk, what is that going to do to the overall portfolio when markets go down. As you’re taking distributions from the portfolio as well. I hate target date funds, because it’s like, all right, well, if I’m going to sell a share of that mutual fund, I’m selling stocks and bonds. There’s no way to say there’s no way to separate it. There’s no way to really calculate the risk that you want to take in the portfolio. There’s no way of segregating the risk in the sense of creating the income, there’s no tax efficiency whatsoever in the overall accounts. So you know that’s kind of my two cents about them. I think it’s a good start but buyer beware, I guess, that’s kind of the whole theme of, you know, full circle.
So hopefully that helps.
Go to our Web site PureFinancial.com if you want more information, if you want more help. If you have a question, go to our Web site. Ask an adviser. We’re here for you to answer anything that you got. For Big Al Clopine, I’m Joe Anderson. Show’s called Your Money Your Wealth.
So, to recap today’s show: you need a strategy for retirement withdrawals, you need a strategy for claiming your Social Security, and you need a strategy for investing in real estate. Special thanks to our guest Andrew from the Listen Money Matters podcast, who explained why, if you can save 50 to 80% of your income each year, you already have a great strategy for retiring early!
Listen next week for more Your Money Your Wealth, presented by Pure Financial Advisors, a registered investment advisor. This show does not intent to provide personalized investment advice through this broadcast and does not represent that the securities or services discussed are suitable for any investor. Investors are advised not to rely on any information contained in the broadcast in the process of making a full and informed investment decision.