Plenty of risks threaten retirement, and today we focus on managing risks from longevity, inflation, sequence of returns, taxes, interest rates, and lost opportunity. Plus, Professor Jamie Hopkins from The American College and the New York Life Center for Retirement Income talks about how our risky investor behavior needs Rewirement (which happens to be the title of his most recent book), how a reverse mortgage can help, and why “set it and forget it” may also be a risk to retirement.
- (00:37) Longevity Risk, Inflation Risk, and Sequence of Returns Risk
- (09:52) What is the Best Retirement Withdrawal Strategy?
- (18:04) Tax Risk, Interest Rate Risk, and Lost Opportunity Risk
- (25:03) The Derails
- (30:40) Jamie Hopkins‘ Rewirement and Reverse Mortgages
- (47:33) Jamie Hopkins on A New Retirement Risk: Unclaimed Property Laws
Plenty of risks threaten retirement, and today we’re going to focus on managing risks from longevity, inflation, sequence of returns, taxes, interest rates, and lost opportunity. Plus, Professor Jamie Hopkins from The American College and the New York Life Center for Retirement Income talks about how our risky investor behavior needs Rewirement (which happens to be the title of his most recent book), how a reverse mortgage can help, and why “set it and forget it” may also be a risk to retirement. Now, here are the Roth Brothers – I mean, Joe Anderson, CFP® and Big Al Clopine, CPA.
00:37 – Longevity Risk, Inflation Risk, and Sequence of Returns Risk
JA: When people think about risk, Al, what do they think about usually?
AC: In retirement, they think about the market.
JA: Market risk, right?
AC: And that is a risk – but there are others too.
JA: There are. There are a lot of other risks that you have to consider in regards to having a fulfilling retirement. There’s longevity and inflation risk, Alan, that’s the silent risks. We live longer, which is good, right? I want to live a little bit longer.
AC: It’s fantastic. Here are the current stats: so a healthy individual, age 65, a man has a 54% chance of living to age 85 or later.
JA: That’s today. According to Ric Edelman, we’re going to live until 200.
AC: Well, I think 120 is what he says.
JA: I just listened to a podcast of his.
AC: Now he’s up to the 200?
JA: I don’t know, but he’s saying, if you’re under 40 years old or 45 years old, don’t worry about long-term care because all of these ailments are not going to exist – it’s all going to be cured. I think that would be fantastic, I hope he’s right.
AC: It would. You’re just over 40 so you didn’t make the cutoff. (laughs) Better get long-term care right away. So now if you’re a woman, healthy at age 65, you have a 64% chance of living to 85 and a 45% chance of living to age 90. So as a consequence, people need to be planning into their 90s, and maybe even later – because you’re right. This is as of right now. Who knows in the next decade what medical advances will come around? And I think we’re getting smarter on fitness and nutrition and all kinds of things.
JA: Yeah. The next 10 years could be pretty remarkable. I mean just look at A.I. How crazy. And how fast technology…
AC: Are we going to be replaced? A.I.? No?
JA: You think a robot could do this? Easily. (laughs) I hope so. I want to play more golf. (laughs)
AC: I can just see it. “Today the market went up 10 points.” (robot voice)
JA: No, it’s already doing that. You don’t even have to listen, you can just read it. Siri. She’s sounding more human every day.
AC: Is she your best friend? (laughs)
JA: She could be. (laughs) She helps me out when I’m in need. Inflation risk, Alan.
AC: Well that’s another one. you don’t even have to hardly say that, anyone that’s lived any amount of time knows what a home or a car used to cost decades ago versus what it costs right now.
JA: Yeah but it kind of slips a little bit. If you think about people that are retired today. Let’s say if you meet one of our clients at 70, 75 years old. And maybe they’ve been retired for let’s call it 25 years. And then 25 years ago you’re saying, “to fill up your tank of gas is going to cost you 50 bucks,” they would probably think you’re crazy. They’d be like, “there’s no way I could afford that. I can’t retire.” Little increments in time add up to a pretty big deal.
AC: They add up. I remember a case in point. So I bought my home in 1996.
JA: Okay. I was in fourth grade. (laughs)
AC: Yeah, you were young. (laughs) I’ll just give broad ranges – it was below half a million at that point and it seemed like an expensive home at the time.
JA: In 1996 you bought a half a million dollar home?? (laughs)
AC: I said below. It was well below. I’m not saying the amount, it was well below. (laughs)
JA: (cracking up) Oh my goodness. It was like $35,000, but it was below 500. (laughs)
AC: It was below a million for that matter. Anyway, the point of this is I remember talking to people in our neighborhood and I remember saying at one point, “our homes are going to be worth over a million dollars at some point.” Everyone said, “no, it’s impossible.” And now they are.
JA: Well you live in Southern California and it’s pretty hard to find a shed in the back of the barrio for under a million bucks.
AC: That’s true, yes.
JA: So inflation risk – it’s real, it’s silent. It was like a silent tax – it kind of creeps up on you.
AC: It does, because year by year it doesn’t really seem that much, but after 10, 20, 30 years, it really accumulates in a pretty big way.
JA: I think one of the biggest risks in retirement that people truly don’t understand is sequence of returns risk.
AC: Yeah I agree with you. So why don’t you explain that?
JA: Without question, this is, I think, why we are employed, Al, to be honest with you. Because when people accumulate wealth, they’re looking at, “hey, let me just throw money at a 401(k) plan. Let me put money into a Roth IRA. Let’s just pick a few different mutual funds, have a balanced portfolio, and if I’m younger, maybe it’s more weighted towards equities, as I get older, maybe have it more weighted towards fixed income or safer investments. And let me just save, save, save, save, save.”
AC: Yeah that’s true. “So the market goes up, it goes down, who cares, because it just keeps on recovering and I’m fine.”
JA: Yeah. So once you retire, the games completely change on you, because it matters so much of what the market does in the first several years of your overall retirement if you don’t necessarily have a withdrawal strategy. And what I mean by that is that you have investor A, investor B, and if you look out over the next 30 years of their retirement, and let’s say they averaged a 6% rate a return. But investor A, they have positive returns there first several years of retirement, while investor B had negative returns their first several years retirement. Even though over a 30 year period or 20 year period they averaged 6%, the person that had negative returns in the beginning of their retirement will most likely have a totally different retirement experience – and not in a good way. And we’ve seen charts and graphs and things like that, and for compliance purposes, I don’t know if we can get into it, but some people could potentially have a lot less money versus someone that had positive returns, they might have a lot more money.
AC: And especially right now, Joe, because we’ve had a pretty long bull market and markets are at all-time highs and for people retiring right now, it’s a concern.
JA: Well if you think of it like this, and I’ve given this example many times, but arithmetic in financial planning versus what we learned in grade school, in high school, and everything else is a little bit different, because people get averages, in a sense. If I average a 6% rate or return, I’d be happy with that. Or 8% rate of return I’d be happy with that. But averages don’t work necessarily like that when it comes to your money. Because let’s say, if, Al, you make 30% this year on your money, next year you’re down 30%. Your average rate of return over two years is zero. Right? You’re up 30, down 30, average the two out, it’s zero. But you can’t look at averages. Because if you have $100,000 and you lose 30%, you lose $30,000. But the next year you gain 30%. But now you’re not gaining 30% on 100 you’re gaining 30% on $70,000.
AC: So I’m gaining $21,000. So I got $91,000, even though my average return is zero.
JA: Exactly. So you have a negative return.
AC: Yeah, and I think a lot of people don’t really understand that. And the same way – and you sort of said, you get the 30% first and lose 30, you’re still at a negative because you’re losing 30% on a bigger number.
JA: Absolutely. So now imagine you start taking distributions from that account. You’re pulling, the 4% rule, so I’m going to pull 4% out each year. Well, wait a minute. I’m down 30% on my money, and then I’m taking 4% out, but next year I’m up 30%, but I’m still down. It’s going to be very difficult for me to get caught up.
AC: That’s right. 70% and I take out 4%, so now I’m 66% and I earn 30% on that, I’m not even at 90% yet.
JA: Right, you’re not even back to square one. It’s going to take you a long time because the next year you still have to take that 4% out and so on and so forth.
AC: And very often when it goes down significantly, it takes longer to come up. It goes down 30% and then boom, right away it goes up 30% – that’s not common. It’s quicker down than up, I guess.
JA: It’s a stupid example. to be honest with you, but I’m just trying to illustrate the math. Because hopefully if you’re retired or close to retirement, you have a portfolio that might not lose 30%. But you could. I mean when’s the last time you took a look at how is the makeup of the portfolio? How much stock should you have, how much bonds should you have? What does that downside risk? What should that be? And I think a lot more people need to realize the downside risk of what they’re doing in their overall portfolio because the sequence of returns risk could absolutely blow up your retirement, even though you work your ass off to save all this money. And then just a couple of bad years in the market because we got greedy on the way up, and you’re like, “these returns are pretty good. I feel like I have enough money now. I’m going to retire.” You retire with the biggest nest egg. Yep, that’s when you retire when the nest egg is the biggest and it’s the most vulnerable. So you have to be careful in making sure that you have a withdrawal strategy.
09:52 – What is the Best Retirement Withdrawal Strategy?
JA: Lo and behold we got an e-mail from Rich from Chicago. Chi-town. I’m from Minneapolis, so Chicago, that’s – man.
AC: I’ve only been to the airport, so I can’t really say I’ve even been.
JA: You haven’t lived, Alan. That’s your next bucket list. Let’s go to Chicago! We’ll go to a Cubs game…
AC: So forget Chile and Alaska, New Zealand.
JA: “Chilay.” I call it “Chilly” but Alan calls it “Chilay.”
AC: Yeah right. Buenos Dias Señor Anderson.
JA: OK. This is from Rich from Chi-town. “Love the show and thanks for all your work.” Hey, you’re welcome, Rich. “My question is about withdrawals in retirement. I’m not talking about safe withdrawal rates here, but rather how to withdraw. Having a mix of stocks and bonds, do I only take from the bonds and then rebalance if needed to my mix, or does it matter at all as long as I rebalance? Thanks” That’s a very, very good question. So it’s like, in any given year, what the hell do I do here? It’s like yeah I understand, take 4%, who gives a…” (laughs)
AC: Yeah, what does that mean? I got $100,000, I can pull four grand.
JA: “But where do I get the four grand?” Is what he’s talkin’ about.
AC: Or maybe you’ve got a million bucks, forty grand, so where does that come from?
JA: Well do you want me to tackle that or do you want to start out?
AC: I think I’ll let you start out and I’ll correct you, instead of vice versa. (laughs) Because you’re always saying, “that is totally wrong!”
JA: But you got to make the show spice, Al. Then I realize after I say it’s totally wrong, I was like, “Oh man, that was actually pretty good!”
AC: Because I read a book. (laughs)
JA: Yes you did, you smart son of a…
JA: Rich, it’s a little bit more complicated, without really knowing the dynamics of what the portfolio looks like, how much money needs to be derived from the overall portfolio, what other fixed income sources need to come from it.
AC: Got it. So let me there’s always a disclaimer.
JA: There’s always a disclaimer, but let me talk on a broader brush, which I know he probably doesn’t want me to talk about, but there are other aspects of retirement income I think is important because then that will help where are you going to be pulling the dollars from. So the first is that Rich probably has a goal that he wants to spend X amount on money. If he already knows about withdrawal rates he’s probably got a pretty good plan. And if he’s listening to this show…
AC: Then he should listen to another one. (laughs)
JA: “Email me. Give me a list of like eight shows that I could actually learn a thing.” (laughs)
AC: Yeah. We’ll send you in the right direction. (laughs)
JA: So he’s probably got a pretty good plan. Where I would want to dive in a little bit more is to say, OK well, where are you going to be taking the distributions from, first of all from a tax perspective, because I think that the first choice. So do you have money in a non-qualified account, do you have money in a Roth IRA, and do you have money in retirement accounts? So what’s going to determine your withdrawal strategy is going to be dependent on how much money you have been each of those, and how much of that withdrawal is going to come from each of those accounts.
AC: Right. And that’s based upon tax brackets, and trying to be smart about paying as little tax as possible.
JA: Right. If you have a pension and Social Security of $60,000, and you want to spend $80,000 a year, so you need another $20,000, well maybe you only pull $10,000 from the retirement account and then you pull another $10,000 from other sources to keep you in a low bracket.
AC: Yeah. So right now we have a nice low 12% bracket, and for a married couple it goes up to about $77,000 of taxable income, single is about half of that – 37 and a half, something like that. So in other words, you take a look at your income, and yes, some of it is fixed. Maybe I’ve got a pension, Social Security, maybe as much as 85% of Social Security is taxable, so it’s not all taxable, but you add that up and then you say, “all right, so if I pull the rest from my IRA, what tax bracket does it put me in?” Maybe do it up to the top of the 12% bracket. And then you say, “the rest I’m pulling from my Roth account, or maybe from my non-qualified non-retirement account to stay in a lower tax bracket.”
JA: So after you master that, here’s another thing that I would suggest. So all the stocks and stock equity mutual funds and things like that that you currently have, potentially all the dividends that you have, you probably are reinvesting those. It might make sense now to not reinvest those. You could just put those into cash, and as those build up, that could be a distribution strategy. Or you just take the dividend itself. And that’s one way to look at it. Some of our clients do it that way. Another way to look at it is to say, as you rebalance your overall portfolio, you’re going to have stocks are up, bonds are flat. Well if stocks are up that year, then that’s what you take your distribution from. Instead of rebalancing back into bonds, say, “no, I need the distribution, I’m going to take it from here.” But as stocks go down, you don’t necessarily want to sell stocks. But some of those stocks still might be creating dividends. So with those dividends that are going into cash, that could help build that cash pile-up for you to create whatever distribution that you need. It’s so dependent on how much cash or money that you have. If you’re talking big dollars, then those dividends add up fairly quickly. If we’re not talking big dollars, then it’s going to be a combination because you need a certain threshold of those assets. So you might be selling principal, interest, and some cap gains. So it’s going to be dependent on your overall situation. I know that’s probably not the answer, but I’m trying to give you some specifics.
AC: Yeah, and of course it depends, like you said Joe, how much you have in each of the categories. A lot of people that we see don’t have any non-qualified, it’s all retirement accounts. So then you’ve got to pull from your retirement accounts. On the other hand, sometimes people are well-balanced, but they want to sell stocks, but the stocks are in an IRA and they don’t want to pull from the IRA, because it puts them in the higher tax bracket. So in that case, go ahead and sell some bonds out of your non-qualified account, and then rebalance your overall portfolio to get to the right place. So it depends. Now if you can pull from the account that’s up, let’s say stocks, for example, then that’s a good way to do it, as long as it’s the right tax answer because there are fewer trades involved. On the other hand, if you can’t for whatever reason, then just pull from the type of tax account that you want to pull from, and then rebalance at that point.
JA: Right. Because then, if you’re pulling and rebalancing, now you’re placing multiple trades, and then that’s going to blow you up on cost. So you have to look at tax, you have to look at the cost of the transactions that you’re trying to create the income from. So I think it’s boiling it back a little bit more to say, “how much income do I need from the portfolio, and what does my overall picture look like? How much do I have in retirement accounts versus non-retirement accounts? What are my fixed income sources and what’s that draw going to look like?” And then having a strategy of saying, “I’m going to pull x amount of dollars from each of the different pools, from a tax perspective,” and make sure that you have enough safe money in each of those pools because you do not want to sell stocks when they’re down. We just talked about sequence of returns risk. So we like to have at least 6 to 8 years in very safe fixed income to cover your income needs for the next seven years. For instance, what I mean by that, if you need $40,000, you need probably $400,000 in safe money, so who cares what happens to the market in the next 10 years?
We’ll get more into how taxes are a risk in retirement momentarily. Now, for more on withdrawal strategies, go to YourMoneyYourWealth.com and check the show notes for this episode for links to previous episodes on How to Tailor Your Retirement Income Strategy And Why You Need To, and How to Create a Retirement Income Distribution Plan. And if you haven’t been to our Learning Center in a while, we have several new free resources designed to help you plan for your best possible retirement – like the Social Security Handbook, the Quick Retirement Calculation Guide, the 2018 Tax Planning Guide, and Pursuing a Better Investment Experience. All of these white papers and guides are free to download. Just visit YourMoneyYourWealth.com and go to the white papers section of the Learning Center, or find links in the show notes for today’s episode, and download to your heart’s content!
18:04 – Tax Risk, Interest Rate Risk and Lost Opportunity Risk
JA: We’re talking about risks in your retirement, but not necessarily the risk you’re probably assuming.
AC: Yeah, it’s more than just the market risk, than the market decline. There are other risks, and Joe, I think one of them has to do with taxes. And a lot of people don’t really think about this when they go into retirement, but when you look at your assets, a lot of people find that the majority, if not all of their assets, are sitting in a retirement account. And when it’s in a retirement account, as they pull those dollars out for their retirement, it’s all taxed at ordinary income. And then you add that to the fact that people have Social Security, and a lot of people still have pensions. Some people have rental properties, and some people have investments that are producing ordinary income. And it’s like, “gosh, I thought my tax bracket would be lower in retirement. I want to live my same lifestyle, but all the assets, all the money coming to me is taxed at ordinary income. I’m actually in the same bracket,” and in some cases, you hit age 70 and a half when the required minimum distribution kicks in you’d be in a higher bracket. And so that’s the tax risk.
JA: There’s an example that we ran in our television show, that’s going to be airing sometime in 2018. Give or take. (laughs)
AC: (laughs) It’s supposed to air in September, by the way. I mean, that’s the schedule.
JA: Talking to Rich from Chicago. He had a question of how do you take the withdrawals, and then we just kind of answered the question in like 15 minutes when it probably should’ve taken about 30 seconds or less. But I think taxes are overlooked, Alan. And when you look at taxes and your withdrawal strategy, it makes a huge difference. And we love tax diversification, having money in different pools, and when people talk about, let’s just say a Roth conversion for instance, they’ll be like, “oh yeah I’ve heard that show before, they just talk about Roth, blah blah blah.”
AC: Right. The Roth guys. We’ve been called that.
JA: The Roth Brothers! Let’s do that! Changing this show up! But they’re short-sighted and ignorant because they’re just looking at it in a vacuum. Alan your little retirement hypothetical, here. (gesturing to paper) I’m not sure where you got any of these numbers from, but I like them.
AC: (laughs) I made them up. They’re hypothetical. Do you want to go over an example?
JA: Yeah walk me through something here. Walk me through an example.
AC: This is kind of to illustrate what we’re talking about. This is a hypothetical couple at age 64. They’ve got $40,000 in pension. And that’s really their only taxable income because they’ve got money in savings. They’re just pulling money out of savings to cover their lifestyle, and they want to live on over $100,000. That’s what they want to live off of, but they only have $40,000 of income. They’re married, under the new tax law, they get a $24,000 standard deduction, taxable income is $16,000, they’re in the 10% bracket. Tax is only $1,600. So they get to retirement, they’re paying $1,600 tax year after year and they’re going, “this is great, taxes really are lower in retirement.” But lo and behold what happens at age 70 and a half? And I’ll go through that. So they still have the $40,00 pension. I’m not including cost of living, inflation or whatever, just to keep it simple. But then maybe they waited until age 70 to get their Social Security because they heard from us and others that they get a higher benefit. So now, the taxable part of that’s $40,000, hypothetically.
JA: Allegedly. It’s going bust.
AC: (laughs) And then, required minimum distribution, I got $80,000, which means they got a couple million bucks, but that could be. They still got the standard deduction, now they’re older, so they get a higher standard deduction, but their taxable income is $133,000, now their federal tax is $21,000. So it was $1,600, now it’s $21,000. And there is a better solution here when they’re in such low brackets. Why not start taking some money out of their large IRAs and converting it to a Roth IRA so you don’t have such a big difference when you hit 70 and a half? Because all of a sudden you’re in a much higher tax bracket.
JA: Or either just spend it too. The ideal is to convert into the Roth so that money will compound tax-free and you pay very little tax because you’re almost in a 0% tax bracket – or bleed it down to spend it down too.
AC: But the standard advice right now is, defer, defer, defer, defer, defer. And so you’ve got $40,000 of income, just live off your savings as long as you can – let those IRAs, 401(k)s grow. But that’s ignoring a huge risk, which is the tax consequence, and by the way, taxes right now are the lowest they’ve been, actually, in my entire career, and they’re scheduled to go up in 2026. BIn this example, by the time this couple reaches 70 and a half, the tax rates are higher, and they may go higher still because we’ve got deficits. We’ve got national debt that we’re trying to figure out how to pay off. So just be aware of that, that’s a pretty good risk. So this is probably one of the biggest mistakes that we see people retiring, say, in their early 60s is they don’t realize they’re in such low tax brackets they can actually do Roth conversions.
JA: That they will be in a lot larger bracket later. And so you just have to forecast a smidge here. Interest rate risk. That’s another big topic nowadays because interest rates are on the rise a little bit.
AC: Wel,l they are. And so there are a few things that could kind of hit you there. One is if you’ve got a lot a lot of fixed income, and let’s just say you have a lot of long-term bonds because that’s the only place you could get any sort of decent return. But the longer the bond is, the greater risk there is as interest rates go up.
JA: What’s funny is that interest rates have been very low for quite some time. So the standard advice that we would hear from certain advisory firms was that there were a few products – high yield bonds, MLPs, annuities, structured notes or products were kind of the big four. I think because of this whole Fiduciary Ruling that is no longer (laughs), which blew up, I think though, Pandora is out of the box in a sense. It’s like, “I’m an investor. I want to be an intelligent, educated investor, even though I don’t want to maybe get my hands dirty with this, but I don’t want to get screwed.” And so, a lot of these different products out there – I don’t hear as much of them. Even though interest rates are still almost at all time lows. So the interest rate environment or the yield environment for people trying to create income is still almost the same. And then, of course, you’ve got the anchor, high-dividend-paying stocks, and I don’t think that will ever go away, because people really don’t understand what a dividend is. They think it’s a coupon payment.
AC: They do, and what it really is is a distribution of profits. And if the company keeps the profits in the company, the stock value goes up by the same amount. So it’s kind of same-same.
JA: No doesn’t, Al. (mock serious, then laughs)
AC: (laughs) Yeah I know. ‘You don’t know what you’re talking about, because my stock goes up and I get dividends.”
JA: The stocks are volatile, ya stupid…!! (laughs) “You cannot be right. No, that’s not right. The dividend, I get paid, the stock price does not go down the same as the dividend.” “Yes, it does.” “No, it doesn’t. How come my stock goes up then?”
AC: “Because it would have gone up more without the dividend.”
JA: “No, I don’t think so, not my stock. My stock does something completely different.”
AC: “No one’s told me that. Are you sure?” (laughs) Lost opportunity.
JA: Lost opportunity risk, what the hell is that, Al?
AC: A lot of folks, and we hear this, the markets at all-time highs, it’s an eight or nine-year bull run. Shouldn’t I just take my money out of the market and stick it under the mattress or put it in a CD or something like that? And the problem with that is that we know that it’s virtually impossible to predict the best days in the market. Here’s an example of someone that invested I guess, what, $1,000, this table doesn’t say when. But let’s just say 1990 – or 30 years, I’m guessing.
JA: It’s the growth of $1,000 and we only have half the chart so we don’t really know the other axis. (laughs)
AC: And we don’t have the notes on it but here’s what I think it is. So now you got $13,700. But if you missed the best day in the market in that entire 30 years, it’s $12,300. So you lost a lot of money, just by not being in the market that one day. If you missed the best five days, now it’s $9,100. If you missed the best 15 days, it’s $5,000. So the point is, no one knows when these best days are going to be. And if you’re out of the market, you may miss one of these best days and your investment experience could be a lot different.
JA: Let’s just assume, Alan, that this is 20 years.
AC: It could be 20.
JA: We’re just talking about 15 days, market days, out of 20 years. If you missed the best five days. So if you’re fully invested, all in, take the ups and the downs, you took the bad days, you took the good days, all in, you roughly, hypothetically, did 9.81%. And if you missed the best 15 days, you did 6.18%. I mean that’s a huge difference. 10% to 6?? Just 15 days in the overall market! So that’s why it’s very, very, difficult to say, “well, I feel a little anxious, I should be getting out.” And then guess what tomorrow, boom, market implodes – or explodes.
AC: Right. And you don’t know. And of course, people do that because they’re afraid it’s going to implode. And the truth is, it will implode. But no one knows when. And so the people that try to guess it, really don’t do a very good job at that.
JA: I wish we had that crystal ball because then I would warn all of you when to get out. And then we would tell you when the coast is clear to get in. That would be fantastic. But there are risks. If we had that information, do you know what the yield on stocks would be? 2%! It would be very low because there is no risk!
AC: That’s right. Everyone would invest in stocks because they earn 2% and they never lose any money. Anyway, that’s what a bond is.
JA: That’s what a bond is. If you what you want that, that’s where you go. You go to the Treasury. Because if we lived in a world where everyone knew that, there would be no high expected returns.
AC: Right. Yeah, that’s very true. Risk and return are related. And in general, the higher the risk the higher the rate of return. The problem, though, the higher the risks and the higher the rate of return, but you tend to have a more volatile ride, a bigger roller coaster. Case in point, like emerging markets as an asset class, you look at 10 years past and not every 10 year period, but the majority of 10 year periods, it’s at the top or near the top. So what’s an emerging market fund? It’s companies that are in emerging countries, like India, China, Brazil to name a few. And so we know that at least based upon history, this is a really good asset class to be invested in. But it is all over the place. It can go up 80% one year and then down 60 the next year or whatever. But it tends to be a very good asset class. You probably want to have a little bit in your portfolio, just for a kind of inflation hedge growth? But not very much because it is so volatile.
Okay, so here’s the deal: in that last segment Joe went off on a massive derail about grits and the movie My Cousin Vinny – if you really want to hear it, along with the top movies of 1992 and Joe’s story about his Grandma’s safety deposit box, I’ve posted about 12 minutes of somewhat off-topic bonus audio content from today’s show in the show notes for this episode at YourMoneyYourWealth.com. Just look for The Derails. If you like this new feature, I’ll make The Derails a weekly thing.
The Derails: My Cousin Vinny, Grits, The Best Movies of 1992, and Joe’s Grandma’s Safety Deposit Box:
Not familiar with the grits scene from My Cousin Vinny?
In the meantime, you’re still thinking about pulling out of the market now while it’s up at it’s highest levels ever, aren’t ya? Do me a favor before you make that decision – check the show notes for a Comprehensive Guide to Bear Markets from our Director of Research, Brian Perry, CFP®, CFA®, and learn about the signs that signal a market decline becoming a bear market. Will you do that for me, please? Okay, thank you. On with the program.
30:40 – Jamie Hopkins’ Rewirement and Reverse Mortgages
JA: We have Jamie Hopkins back on the show. I don’t know how much we had to pay him to get him on.
AC: A lot, I’m sure. Andi worked out some deal, I’m sure.
JA: I don’t know what it is but I’m sure we’re going to have to pay a pretty penny.
AC: I mean, he’s got all these 40 Under 40 lists…
JA: There’s another person that’s been 40 Under 40, sir. (laughs)
AC: You used to be, way back when. (laughs)
JA: It wasn’t that long ago, it was like a couple of years ago. Yeah, the San Diego Gazette 40 Under 40. (laughs)
AC: Yeah that’s right. I think the Carmel Valley News. (laughs)
JA: Exactly the Reader. Jamie Hopkins. Welcome back to the show. How are you doing, bud?
JH: Yeah, thanks for having me on. I’m doing great today. it’s a beautiful day, got at a lot of good things going, so yeah, happy to be here.
JA: Jamie is a professor at the American College. He’s the director of New York Life Center for Retirement Income. Just as Al mentioned he’s been named as both a top 40 financial services professional under the age of 40 by InvestmentNews which is a little bit bigger than the Reader, so he’s upped me a little bit. Jamie is really making a name for himself in the financial services industry by bringing out phenomenal content. And he’s got a new book out called (Joe mangles the word Rewirement.) That’s a tongue-twister, Jamie!
AC: Maybe you should tell us the name of the book because we can’t pronounce it.
JH: Yeah, it can be a tongue-twister because it’s a new word, right. Made up this term called Rewirement. Kind of a play on rewiring the way you think and retirement. And that was a really important part of the book because it really is the theme through the whole book – kind of looking at the behavioral challenges that we have. The things that hold us back from better planning and less of a secure future, and how do we overcome this? How do we change the way we think and change the way we look at things? So rewirement – rewiring the way you think about retirement – but can be a little bit of a tongue-twister as you’ve seen. Don’t worry they’ve messed it up on LIVE NBC too, so you’re in good company. (laughs)
JA: (laughs) Well tell us the premise a little bit more – talk about what do we need to rewire? I mean I’m sure there’s a ton, this book must be very large. (laughs)
AC: It was written just for you, Joe. Let’s rewire you. (laughs)
JH: So I really started with the idea of kind of looking at what people do well, actually, in saving for retirement? And then how some of those things don’t actually translate well to retirement. So the whole idea of average savings, we care about that, we care about returns, or average returns, throughout our life. But all of a sudden, we get to retirement and that really gets kind of flipped on its head and we now care about the sequencing of our returns. And as advisors we talk about this, but still, the general world doesn’t get that concept yet. That if you get bad returns really early in retirement, that will deplete your portfolio. And so that’s a big starting point of the book is kind of talking about investing – it’s kind of one of Warren Buffett’s great quotes – “investing is simple but not easy.” And we have these things that hold us back – what we tend to do is buy and sell low, but we’re supposed to do is dollar cost average or buy low, sell high, but we’re not good at that either, for a bunch of different reasons.
JA: Jamie we were talking earlier in the show about sequence of returns risk, and it’s funny because, to retire, there’s going to be some level of confidence to say I’m going to give up my paycheck, and then I’m going to go out and start the second phase of my life and start creating an income on my own. And that confidence, in most cases, has to do with maybe how much money that they’ve built up or saved over their lifetime. And that first day of retirement, in most cases for a lot of people, is the largest nest egg that they’ll ever see. And you’re right, as soon as they retire, if someone gets hit with a bad market, they don’t necessarily have a plan for that, it could absolutely devastate someone’s overall retirement. So what are some of the things that you talk about to hedge against some of that?
JH: Yes. So one of the things is. we used to talk about kind of what we call glide path. Glide path is really just, “what should you be investing in different parts of your life?” And so the old theory was, you should get more and more conservative for your whole life, so yo take the number 100, subtract out your age and that tells you how much you should invest in stocks. And Vanguard, Jack Bogle was a big supporter of that. Then all of a sudden, our computers and our modeling got a lot better and we tested that. And that doesn’t work very well. It’s kind of interesting – it sounds good, it looks good. But when we actually test it, historically, it doesn’t work well. But what does work well is to be a little bit more conservative right around when you retire. So maybe the two, three years heading into retirement, two, three years first in retirement, that actually might be the most conservative you should be in your life. Now some people say, “I still just don’t have enough money. I need to be in the market.” So then we need to have, what are our other strategies in case the market drops? A simple one is, can we spend less? Can we actually just sell less of them the next year? So that means we have to have flexibility in our lifestyle spending, that we have to have enough income to get by, and maybe we can cut back for a year or two and then we’re going to be OK. The other thing is to look for what we call non-market-correlated assets, and so that could be cash to some degree, some people hold cash. Some people bond ladder for a couple of years, as long as we’re going to let those mature, that can work. We could use term-certain annuities, we can use home equity strategically too, set up lines of credit, reverse mortgage line of credit, and then we borrow from that, instead of selling stocks when they’re down 40-60%, we borrow at four and a half. Well, that math works out well. So cash value life insurance, all those things that don’t move necessarily when the stock drops, can kind of supplement our income during those down years and allow our savings to last a lifetime.
JA: Talk a little bit more, because I think there’s still some confusion. A reverse mortgage is maybe the last resort and it’s the Wild West, and “oh, my grandmother, she got taken advantage of,” and so on. Can you bring some light to this?
JH: Yeah, almost all those things really are misconceptions out there. And I cover those in my book too, about reverse mortgages. You kind of start with one of the ones that most people say, that it’s some type of scam, people get taken advantage of. Now, it is a government-created product, so if you do believe the government in its entirety is a scam then you still fall into that category. (laughs) But otherwise, this is actually one of the most regulated products in the financial world in existence. It’s a government product that’s then delivered by individual companies. So it’s very secure in that sense, it’s backed by the Federal Housing Authority Insurance program too, so there’s insurance for this, it’s a government program, it is very secure. It’s very restricted. So most products look similar across companies. You still need to shop, if you’re going to move around, for different companies. You want to look at what their closing costs are, things like that. And the other side is, people also had this concept, “well, that’s really for people who run out of money who just need it,” “last resort” language was out there for a long time. And actually, FINRA, the regulatory body for a lot of advisors, insurance agents out there, said they used to have that in their investor alert – they had something that said, “only use this as a last resort.” Well, some of the research that my colleague that you had on the show before, Wade Pfau, did, and Barry Sacks, who’s one of the smarter people I’ve ever met, he won’t admit to that, but he’s a Ph.D. from MIT and Harvard J.D. So you don’t have too many people that have doctors from both out there, and he has research on this too showing effective uses of reverse mortgages, and that it actually is for a much wider range of the population than people think, that many middle-income, even up to kind of higher net worth clients, still have a role of using home equity strategically in retirement. It really is just a more flexible version of a traditional mortgage in that has a little bit more cost because you pay more, and essentially the idea of a higher interest rate because you do not have to make monthly payments to it. That’s a really valuable aspect in retirement when we’re living on fixed income or low-income sources and we haven’t paid off our mortgage. We can often, essentially, refinance your traditional mortgage to a reverse mortgage and then make optional monthly payments if you want. And then going back to what we talked about – stock market collapses, that’s kind of like losing your job in retirement. So instead of having to sell more assets when they’re down then, we just stop making monthly payments for 5, 6, 7 months, maybe 2 years, and then if we wanted to, we could go back into making payments to the reverse mortgage. It really does provide this more flexible option. So I think more people need to look at that, kind of the research world has started to embrace that more, financial advisors have started to, but we do need to get that to Americans to improve their retirement.
JA: Question. Would you advise someone to open up the line of credit at 62, just to have that line of credit continue to grow for them? What’s the downside of that, I guess?
JH: Yeah, so there is a cost to doing that. Up until October 2017, there were some companies offering what they said was a no cost line of credit, meaning they were pretty much allowing you to set up a reverse mortgage line of credit with maybe $50, $100 to your closing costs you’d actually have to front, but otherwise, almost nothing. The government changed the rules on that a little bit and shifted more costs up front, but actually made the product cheaper in the long run. But the downside of that is, you actually have to pay a percent of your house value upfront into the insurance fund. So there is a cost associated with that. Now, what do most people do? They roll it into the loan, but now you’re borrowing money to essentially set up the line of credit if you don’t want to pay that out of pocket. So that’s the downside. However, on the flip side, it is an incredible line of credit feature. It’s actually a much more secure line of credit than a traditional HELOC, home equity line of credit. Back in 2007, 2008 when the market crashed, people had set up home equity lines of credit for that exact purpose, that if the market drops, I lose my job, we can borrow from the house. Well, what happened to the large banking institutions then when the market dropped? They froze all the lines of credit – and actually, some of them even canceled existing lines of credit. Nobody could borrow at that point from their home. So that kind of, using a traditional line of credit as a market hedge, well the last time it didn’t work. But reverse mortgages actually cannot be canceled in market downturns, anything like that. It’s a permanent line. And in Wade Pfau’s research, you had him on before, he actually shows that there is a benefit to setting it up as early as possible. The growth, the way the line of credit grows there, is better than waiting over time. So that’s kind of an interesting feature, that the earlier you set it up, really, the better with a reverse mortgage. It’s kind of the opposite of what most people think, not as a last resort, but early in retirement is typically better – but cost, there is some there.
AC: Yeah, I do remember the Great Recession, the same thing happened to me – my line of credit was frozen and then I could no longer borrow against it.
JA: Yeah, but do you think that is a product of the reason why the Great Recession – I mean, we’re going to have another recession, and hopefully it’s not because of Wall Street packaging up BS mortgages and then securitizing them and then selling them and then having the rating agencies say they’re AAA even though they’re…. I was gonna say dog-sh… (laughs) Then the banks are going to collapse. So that was crazy, awful stuff. The next recession, I don’t know, hopefully, it doesn’t have to do with that. So was there a direct correlation why they froze those credit lines, just because of how that recession happened?
JH: Yeah, most of it actually came down to cash flow from those large institutions, that they didn’t have it then. And that actually shocks people.
JA: Right, they were paying bonuses.
JH: (laughs) Yeah. But actually, the kind of scarier thing is some of the stuff we were doing back then with housing is starting to occur again. You’re seeing places do the 5% down for housing again. That stopped for a number of years and that’s back again. So we are seeing that, and I travel a lot across the country, and kind of everywhere I go now, almost everyone tells me they think they’re areas in a housing bubble. (laughs) Almost nobody tells me that housing is undervalued where I go. Now, that doesn’t mean it is, it just means housing value is rising and we had a big dip before so we may be catching back up to kind of where we’ve been. But some areas, we saw here, outside Philadelphia, I think last year, one of the Zillow reports was saying it was up 15 or 16% in the area. Well, that’s actually a little reminiscent of bubble type stuff. Housing typically grows around 3%, historically, a year – not 15. That’s about five times the norm. Some of those things, easy access to capital today, low interest rates. But companies have a lot more cash than they had before. Obviously, we’ll have some type of recession, but the economy seems pretty healthy today. I’m not sure stocks are going to keep going up as they have been. That might slow down, but that doesn’t necessarily mean recession, that might just mean a slowdown in stocks, money flowing to there.
JA: Another question – someone could have the best laid out plan. Let’s say they follow you, they read all your stuff, and they put together an overall strategy that is top notch for their specific situation. But the problem, I think, they could have the best laid out plans, but we’re all human. And I think you’re doing some great research and writing on the behavioral side, of people dealing with their money. Can you speak to us a little bit on some of that aspect?
JH: Yes. And a big one there is just this fear of loss. So we often call it loss aversion, but that drives people to a lot of really bad decision making. So that is, market drops, we know a lot of people are going to sell out. It also causes people to be more conservative than really they should be. So we still have those people out there that are fully invested in CDs and bonds. And the CDs, I always say are a very risky investment in my view, because they tend to under-pace inflation. So you’re actually putting money into an investment that’s losing value every year when you look at CDs. Now obviously, there’s a role for CDs to provide, essentially, some liquid assets, liquidating assets. But the people that are 100% in that – that’s bad. Now the other side is just spending too much. That’s a tough one to overcome, and it can be for a lot of reasons, that all of a sudden you get your 401(k) and you roll it over to an IRA. Now suddenly you have $500,000 in a liquid account, you’ve never seen anything like that in your life before, you say, “well, let’s just spend a little extra 50 this year and buy a boat.” OK, well that’s a big withdrawal. It might not feel like it today. But to make that money last for 30 years, you just over withdrew that first year. Or, kids are coming back into the house, the boomerang generation, you’re spending, you’re helping them, you’re paying for their health care, you’re paying for their wedding, and somebody told me recently, the average wedding costs are getting up over 40 grand a year. Different areas 80 grand or something is the average in New York City. That’s too expensive and if parents are paying that, you’re spending a lot of your retirement, early on in retirement too, which is very similar to sequence of returns risk. Your sequence of spending risk is a little bit of an issue too. Higher spending early is actually a little bit of a risk. Now, there is, on the behavioral side, some economists that believe that’s what you should do – you should spend as much as early as possible because those are the years you’re most likely to be alive. And so that’s kind of the gambler’s mentality. So if you’re somebody who likes Vegas, you’ll probably gravitate towards that idea to spend as early as possible. But then you do risk kind of depleting your funds over time.
As Professor Hopkins pointed out, Dr. Wade Pfau has been on Your Money, Your Wealth® – both the podcast and the TV show – multiple times discussing his academic research on the topic of reverse mortgages. If you’re considering a reverse mortgage, you’ll definitely want to review those discussions before you make your decision. You’ll find links to all of Dr. Pfau’s very informative appearances on our show, of course, in the show notes for this episode at YourMoneyYourWealth.com. As we wrap things up, we’ve got just one more retirement risk to cover – and this one’s a doozy…
47:33 – Jamie Hopkins on A New Retirement Risk: Unclaimed Property Laws
AC: Hey Jamie, I want to ask you about an article you wrote, I think last month in Forbes, it’s called A New Retirement Risk: Unclaimed Property Laws. And I was reading this, and you’re talking about different states have unclaimed property laws, and some interesting things happen with regards to your 401(k)s and IRAs that I wasn’t even aware of. Can you kind of go over that?
JH: Yeah. So that one had kind of piqued my interest when Pennsylvania changed their laws. Now, to Pennsylvania’s credit, since the law was changed, the Treasury Department here in Pennsylvania has been very good about, and very strategic about how they’ve acted, even though they’re still not happy that I’ve written articles on this. (laughs) But generally speaking, what we’re talking about is unclaimed property laws. If your property sits for too long without action, meaning you’re not logging in, you’re not reinvesting money, you’re not claiming the refund check that sat somewhere. In most states, you can see it ranges 3, 5, 7 years, and all of a sudden that property gets turned over to the State Government because we don’t want these companies just holding on to assets that they can’t find the rightful owner of forever. So there’s a good process to turn those over to the states. Now, you have a right in perpetuity, forever, to get that money back from the states. So you can go and ask for that back. You can go to the state website, look up your name, see if there’s any property there, and then go through the process. Now, what shocks most people is that your IRA, 401(k), retirement accounts, are also subject to these rules. Now, most states out there, the rules don’t start till after 70 and a half. Really, the set it and forget it mindset they support, but after 70 and a half, if you leave your account there for five years, it could be turned over to the state. Now, big problem with that, by having the state claim your 401(k), it’s treated as a taxable distribution, meaning that you would owe ordinary income tax on the entire thing. It’s entirely moved out of the 401(k). That’s a big problem. So if we mess that up, we’ve all of a sudden significantly diminished our retirement savings, and that can occur, especially in the IRA world, if somebody’s got four IRAs, they’re taking RMDs from one, which is perfectly legal. They’re leaving the other three out there, and they don’t log into the accounts for five years. And they’re doing what they’re supposed to be doing. That could be turned over, and then subject to a tremendous amount of income tax, and you’ve lost the IRA tax advantage rapper at that point, too. There’s really no way to get it back into it.
AC: And in Pennsylvania, they’re talking about actually doing this at any age, not necessarily 70 and a half.
JH: So Pennsylvania’s law still says that. It says that, basically, you could lose your 401(k) over to the state at any age if it sat idly for too long. Now there was a lot of public backlash about that. And one of the big reasons is that Vanguard is located here. And the interesting thing is, those laws actually apply to accounts that are here, not just to where the individual lives. So anyone who had Vanguard, all of a sudden those rules now applied. And that was the scary thing. Now, Vanguard was vocal, some others were vocal, and the Treasury Department here at the state level stepped in and said, “look we’re not going to enforce this rule right now.” So as of right now, while the law is on the books, the Treasury Department has said that they’re not going to enforce that till somebody hits 70 and a half. That’s always kind of one of those interesting things because technically, there’s a law that says, hey this stuff should be turned over,” and the state at a different level said, “we’ve got a lot of backlash. Let’s not do that right now.” But at any point, they could change their mind. I think that’s one of the risks when you still have the law on the books. That’s a scary thing. That is the legal answer but they’re just not enforcing it today – which is, in my view, a good thing.
AC: Yes. So if I have a 401(k) from 15 years ago, that I haven’t… so I need to be logging into this thing from time to time to make sure it looks like I’m actively checking it out I guess, right?
JH: Yes. So actually one of the things that surprises people is that automatically reinvesting dividends in an account does not count as activity. So you might think, “I set that thing up so my dividends just reinvest every year, so I’m active in there, it should look like I’m active.” You’re not. So you do need to log in. You need to respond if they send you a letter that says you haven’t logged in in four years and that this is an issue – you need to log in. So it is good behavior to check every once in a while, look at your accounts, make sure beneficiary designations are right, make sure your investment allocation is correct. So you should be doing that. And this actually is kind of a legal push down that road to check on your account. It doesn’t need to be every day, doesn’t need to be every month. I think checking every day is a bad thing, but checking somewhat regularly is a good thing, to even just protect your account over time.
JA: Jamie, this is crazy stuff, man. This is totally…
AC: It is. And you said, it’s still on the books – they’re not going to enforce it, but it’s still on the books.
JA: It’s the exact opposite of what they should be thinking. What the hell is going on?
AC: Right. It’s like, “let’s figure out ways to get more money,” not how they can take it.
JA: Yeah, why don’t you just have a nice allocation, don’t do anything with it, don’t trade the hell out of it, don’t buy and sell at the wrong time, just let her go. Nope. “Oh, you didn’t churn and burn that thing, I’m gonna take from you. You didn’t check it last year. I’m gonna blow you up.” Jamie, I really appreciate your time. You are a true asset to our industry. Where can people get more information on you, Jamie?
JH: Probably the two best places, I do work for The American College, so we have great material up there. And then my website, HopkinsRetirement.com. That’s the easiest place to find me and my book. Everything Hopkins Retirement related. (laughs)
JA: HopkinsRetirement.com. I encourage everyone to check that out. Andi, will we have that in some sort of show notes?
AL: Absolutely. The show notes are going to be chock full of all kinds of information for today’s show.
JA: All right. HopkinsRetirement.com, that’s Jamie Hopkins, Esquire, CFP®. Jamie, thank you so much, man. (laughs)
JH: Had some fun there. Yeah.
JA: Thank you, Andi Last, for producing this wonderful show, Big Al, wonderful job. My name’s Joe Anderson. Have a wonderful wonderful day.
Yessir, wonderful day in progress! In addition to everything else, if you want to read more about unclaimed property laws, Professor Hopkins’ article on that topic is linked in the show notes at YourMoneyYourWealth.com too. Big thanks to all of you who have been telling your friends about Your Money, Your Wealth. If you haven’t already, you can subscribe to the podcast and the podcast newsletter at YourMoneyYourWealth.com – or find us on Google Podcasts, Apple Podcasts, or wherever you listen to podcasts – Spotify, Stitcher, Overcast, Player.FM, iHeartRadio, TuneIn. If we’re not on your favorite app, drop me an email at firstname.lastname@example.org and let me know! And let me know if you like The Derails. And send all your money questions to email@example.com as well, or you can call (888) 994-6257, and the fellas will answer them for you in the podcast. Listen next time for more Your Money, Your Wealth, presented by Pure Financial Advisors. For your free financial assessment, visit PureFinancial.com
Pure Financial Advisors is a registered investment advisor. This show does not intend 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.