Joe Anderson
ABOUT Joseph

As CEO and President, Joe Anderson has created a unique, ambitious business model utilizing advanced service, training, sales, and marketing strategies to grow Pure Financial Advisors into the trustworthy, client-focused company it is today. Pure Financial, a Registered Investment Advisor (RIA), was ranked 15 out of 100 top ETF Power Users by RIA channel (2023), was [...]

Alan Clopine

Alan Clopine is the Executive Chairman of Pure Financial Advisors, LLC (Pure). He has been an executive leader of the Company for over a decade, including CFO, CEO, and Chairman. Alan joined the firm in 2008, about one year after it was established. In his tenure at Pure, the firm has grown from approximately $50 [...]

Published On
January 26, 2021

Drilling down into the specifics of retirement distribution strategies: dollar cost averaging, pro-rata withdrawals, and buckets vs. the total return approach. Plus, a retirement withdrawal strategy with a side of pension and Social Security, another mortgage payoff question, the small business solo 401(k) trap, an LLC for a kayak side-hustle, and FIPhysician.com says nice things about YMYW.

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Show Notes

  • (00:48) Dollar-Cost Averaging, Pro-Rata, Buckets & Total Return: Retirement Withdrawal Specifics (Kristin, MA)
  • (14:48) What Can You Tell About Index Investments? (Richard)
  • (15:46) Retirement Withdrawal, Pension, and Social Security Strategy (Jeff, San Diego)
  • (22:40) Not Sure My Pension is Reliable. Should I Pay Off the Mortgage in 15 Years? (Richard)
  • (26:41) “Solo 401(k) Trap”: Qualified Business Income Deduction and the Solo 401(k) (Smitty, the Villages)
  • (31:46) Should I Create an LLC for My Small Business for Tax Purposes? (Jeremy, Cookeville, TN)
  • (36:48) FIPhysician.com: YMYW is the Best Retirement Podcast With Humor

Free resources:

Guide: Cracking the Financial Code at Any Age

WATCH | YMYW TV – Cracking the Code: Succeeding Financially at Every Age

YMYW TV: Cracking the Financial Code: Succeeding Financially at Every Age

WATCH | EDUCATIONAL VIDEO: Should I Take the Lump Sum Payout From My Pension Plan?

READ | BLOG – Small Business Self-Employed Tax Filing: A Helpful Guide

Listen to today’s podcast episode on YouTube:


Today on Your Money, Your Wealth® podcast #310, Kristin from Massachusetts wants to drill down into the specifics of retirement withdrawals, with pointed questions on dollar cost averaging, distribution strategies, pro-rata withdrawals and the bucket approach – and of course, Joe and Big Al are happy to opine. Plus, a retirement withdrawal strategy with a side of pension and Social Security for Jeff in San Diego, another mortgage payoff question from Richard, Smitty and the small business solo 401(k) trap, a limited liability company or LLC for supply chain manager Jeremy’s kayak side-hustle, and FIPhysician.com says nice things about YMYW. I’m producer Andi Last, and here are the hosts of Your Money, Your Wealth®, Joe Anderson, CFP® and Big Al Clopine, CPA.

Dollar-Cost Averaging, Pro-Rata, Buckets, and Total Return: Retirement Withdrawal Strategy Specifics

Al: That’s a long one.

Joe: We have 3 pages. What are people thinking? How long do you think it took Kristin from Massachusetts to write this thing?

Al: This was over weeks, maybe months.

Joe: This is like her full financial plan she sent us.  Kristin from Massachusetts writes in. And ‘writing’ is an understatement. This thing is long. And I-

Al: I think if it were any longer, you’d have to bind it in a book.

Joe: Right. I’m going to give it my best shot, folks, so this is a long one. And you know me. If you ever listen to this show before, I’m not a very good reader.

Al: That’s why it’s endearing.

Joe: It is very endearing.

Al: But she starts it with ” Hi fellas.”

Joe: “Hi fellas.”

Al: I kind of like that. That’s folksy.

Joe: Ok. “Joe and Big Al and hello Andi. My name is Kristin and I’ve enjoyed listening to so many of your YMYW podcasts while I make my commute to work on Cape Cod in my 2013 Honda Civic-” You live on Cape Cod, I would think you would have a nicer car than a Honda Civic. I don’t know. I don’t know, maybe am I thinking the Hamptons or something? I’ve never been to Cape Cod, but a Honda Civic? You roll, girl.

Andi: She works on Cape Cod. That doesn’t mean she lives there.

Joe: Oh, OK. On. So she’s on Cape Cod.

Al: Yeah. Not in. She’s on.

Joe: Got it.

Al: Different word.

Joe:  “- planning and dreaming about retirement. I’m a 2nd time emailer with a topic that I really don’t think I have heard too much discussion about during your sessions, so here it goes.” So she’s double-dippin’ and this thing is 6 pages long.

Al: She is.

Joe: “My husband is 57, has had 6 employers in his career and he has most of his money in 5 Fidelity Rollover IRA accounts, all in equities. Each of these has about 3 mutual funds inside of them. And for the most part, they are untouched from the time of the rollover. Plus, he has one account, a Roth IRA at Fidelity he opened in 2018, podcast 175,-” You’re welcome. “-  when you helped us out by suggesting to take advantage of some losses on the sale of our Florida condo. We moved some of the money from one of those rollover IRAs, paid the tax, not too much, and converted to a Roth IRA. We did that with about $80,000. And thanks to you guys and the market run, it’s now worth much more. Thanks again. My husband now has a Fidelity 401(k) plan with his most recent employer. Long story short, he has a couple of accounts with under $30,000 from more recent employers and a couple of accounts from employers in the 1990s that have about $300,000. I, on the other hand, 54, and have been with the same employer for 32 years and have only one traditional 401(k). The company I work for have changed 401(k) holding companies multiple times, most recently in 2018, by liquidating our accounts from Prudential and moving them to Fidelity and buying similar funds to what I have been invested in. So question, every time my company changes 401(k) companies, doesn’t that totally annaliate my dollar cost averaging?”

Andi: What was that word, Joe?

Joe: annaliate?

Andi: – annihilate.

Joe: – annihilate. “If they stayed with the original company that I was investing in 32 years ago, all those shares in the mutual funds from long time ago, would have gone to the cost basis back in the 1990s or so, would be worth much, much more. Instead, each time they change 401(k) companies, it’s like I started over. And I lose all of those gains and I would have had from having my money invested in the original shares that I bought a long time ago. Is this true?

Al: That answer is no.

Joe: No, you’re good. You’re good, Kristin. Let me explain- is that let’s say you started with $1 a share and then you’re in a large company mutual fund. And that $1 share goes to $10 a share and you have these nice big gains and they get rid of that 401(k) plan, but you go into another large company growth fund. Well, you’re buying that large company growth fund. Guess what, at $10 a share. Then that $10- it’s the same same. You’re selling at $10, buying at $10.

Al: Yeah, that’s exactly right. And I’ll say it a different way. So you have $50,000 in your 401(k) that you originally put $20,000 in. The $50,000 is now what you start with into the next 401(k). So you’re not like you’re going back to $20,000 what you invested, you’ve got all $50,000. And so you may have different investments but all of those gains get rolled into the new investment. So don’t worry about that.

Joe: Right. As long as you stayed in similar investments, what she stated she did.

Al: Yes.

Joe: It doesn’t matter. If she’s sold and all of a sudden they said, you know what? We’re not going to have any- you’re not going to participate in the market anymore. It’s going to go to cash. And then the next plan says, Ok you can participate in the market, then you buy back into the market. And then they change plans again and say,  now this is just an all cash plan, right? They’re not doing that. They’re just switching providers potentially to give you more opportunity and maybe lower costs, maybe better record keeping. Who knows why they’re changing so often?

Al: But I guess the point is all the gains that you had in plan number 1, transfer to plan number 2, maybe with different investments, all those gains transfer to plan number 3, maybe with different investments. But no, you don’t lose your gains.

Joe: And so here’s another thing too that people get- kind of get a little confused on. Let’s say you have 2 IRAs, both at $10,000. And then they’re like, well, if I combine them, won’t I make more money because compounding interest on $20,000 is better than $10,000? And I’m like but you still have $20,000, they’re just in 2 separate accounts.

Al: $10,00 double is the same as $20,000 single.

Joe: It’s the same. They switch this account and it’s still dollars.

Al: Anyway so you probably didn’t understand what we said, but our answer is, don’t worry about it, you’re fine.

Joe: You’re fine. No, you’re good. “When I hear you talk about taking distributions from your 401(k) and/or IRAs, can you please explain that in more detail?” Ok. Taking dollars out of a 401(k) plan, that is a distribution.

Al: Let’s say you call up your company, ‘I want $1000’ and boom, it shows up in your account. You’re good.

Joe: Yeah. If you need income, if you need- it’s a distribution. You’re taking money from the account.

Al: She probably wants to know what accounts to take it from. Maybe-

Joe: “Please can you explain that in more detail. Our plan is to retire at 62 and she’s going to retire at 58. I want to keep my money in the 401(k) plan. So when I separate from service I can have access to my money after- when I turn 55. And I was hoping to retire on the sooner side. My plan is for us to live off the 401(k) for the next 5 years, setting up a 3-bucket strategy, using the money in my husband’s rollover IRA to rebalance the buckets until we take Social Security at age 70. The largest of my husband’s accounts is a mix of Contra Fund, Magellan Fund and over-the-counter fund. So this goes back to sort of the first question about dollar cost averaging over time and the length of time invested. Should I use up the money that is in the smaller account first letting those older and bigger funds grow even more or do the opposite?” Wow, I didn’t even read this. And I knew, though, because the question she asked, I knew she was- her brain thinks that way, which is totally fine, which a lot of people do. Because she’s got 3 different accounts. She’s like, well, you know, the bigger ones are going to grow faster than the smaller ones because there’s more money in the bigger ones. No, it doesn’t work that way.

Al: It’s all the same.

Joe: This reminds me of the ‘My Cousin Vinny’ whole thing, right? When your grits cook faster- Ok, I digress. “I have-

Andi: Listen to episode 300 to get that story.

Joe: “I have 5 to 7 years of experience-

Al: -expenses-

Joe: Oh I’m sorry. “I have 5 to 7 years of expenses in a bond fund in my 401(k) plan waiting to spend down when we retire. I got nervous about 3 years ago and transferred a bunch of cash with Prudential. Then I got directed into a bond fund with my Fidelity 401(k) switched. When it comes time to take a distribution, am I going to be able to take money only from this bond fund or does a little bit of every fund that I have in my 401(k) have to come out?”

Al: So that’s a good question.

Joe: Yes. So is it pro-rata? She’s asking. So she’s got 3 different funds in a bond fund, right? She’s got OTC, she’s got Magellan and she’s got Contra Fund and she’s got a bond fund.

Al: Can she pick which fund to take the money out of or does she have to do it from all 4?

Joe: Right. So if you take $1000 out, is it $250 per fund? Or is it $1000 from one fund? You could- it’s your money, Kristin. You can do whatever you want. You can select whatever you want.

Al: The answer is it doesn’t matter. So this is not like the pro-rata rule when you’re talking about basis in an IRA versus not basis pre-tax, after tax money. You can do anything you want.

Joe: So what she’s doing is she’s bridging the gap into Social Security. She wants to retire before age 59 and a half. So she’s got money into a 401(k) plan that she wants to keep in the 401(k) plan. The reason why she wants to keep it in the 401(k) plan is that you can take distributions from a 401(k) plan at age 55 if you separate from service at age 55, without a 10% penalty. So she’s right on target there. Keep the money in the 401(k) plan. But then I got confused. She’s- then her husband’s plan is the 3-bucket plan or whatever. Just look at it is that, if you and your husband have your money? Or is it her money and his money and you keep your finances totally separate, well then that’s a different story. But if you’re looking at it, hey, you need the cash for you at 55, but your husband’s older than you, so he would have access to the money of his money prior to you turning 59 and a half- so there’s some confusion that I have here depending on how they’re looking at their finances. But I get where she’s going. And then we’ll wrap this thing up. “Two years ago I started a 401(k) with my company’s Fidelity plan. I started contributing to that in a hope not to tap into the Roth IRA portion until my very last needs in retirement or pass to my children. What is pro-rata? When can it cause problems during the distribution? When does pro-rata apply? I thought that my Roth 401(k) account could be left alone for many years to grow.” So pro-rata Al, you just kind of explained pro-rata.

Al: Yeah, I think you do a good job though. Because with the 401(k)s, Roth 401(k)s, you have to do an RMD. But if it gets rolled out to a Roth IRA, you don’t have to do an RMD.

Joe: So you just roll the 401(k) Roth into the Roth IRA and you’re fine. Then you don’t necessarily have to take the RMD and let it grow. So be careful with what you’re thinking here. She’s like, well, let’s go bonds first, then equities first, then Roth third. No. You want to look at your entire portfolio first of how much money that you have. Second, how much money do you need? So let’s say you have $1,000,000 and you spend- and you need $40,000 from the portfolio. That’s your first step. Then you divide the $40,000 into the $1,000,000 and you’re like that’s a 4% distribution rate. I’m in my late 50s. I don’t know. That’s pretty close. Maybe we can’t spend $40,000. The second piece of this is look where the money’s held. How much is in a 401(k) plan versus Roth account versus brokerage account? That’s tax diversification. Look at you and your husband’s money together. So what do you have total in 401(k) accounts? What you have total in Roth accounts? What do you have total on brokerage accounts? And so let’s say you needed that $40,000 to live off of. Well you create a portfolio to create that $40,000 of income. Some days you will spend bond, some other days you will spend equities, depending on what happens with the market. So she’s got this like bucket strategy- get-

Al: Get rid of that.

Joe: – the buckets are gone. You’ve got a hole in your bucket. Ok? So you want to use-  in Al and I’s opinion, you want to use a total return approach, but how you create a little bit more juice in it is by making sure that you’re taking a look at taxes. So she writes on, “Thanks so much for reading to the end of this email. I hope I haven’t frustrated you guys too much on this topic. But this withdrawal process needed to be clear. I needed more clarification for me and I don’t want to make too many mistakes so close to retirement. I hope don’t mind if I pick your brains again in the future. I have a question about an IRA annuity and variable life insurance policies that I bought one in my early 20s.” I can’t wait for part 3 of Kristin from Massachusetts. Thanks so much for your email. Hopefully that helped.

No matter which stage you’re in in life, decisions you make will affect your financial security today and for years to come – all of Kristin’s questions about retirement withdrawals show that to be true. This week on YMYW TV, Joe and Big Al help you Crack the Financial Code at Any Age, walking you through financial strategies and actions to take in your 20’s, 30’s, 40’s and 50’s that will help you overcome any previous missteps, and set yourself up for a more successful retirement. Watch YMYW TV and download the free companion guide in the podcast show notes at YourMoneyYourWealth.com. Just click the link in the description of today’ episode in your podcast app to get there. Share the love and spread the knowledge! Post the YMYW podcast and TV show on your social media with the hashtag #YMYW, and email the links to your friends, family and colleagues!

What Can You Tell About Index Investments?

Andi: Question from Richard. “What can you tell about index investments?” That’s on page 10.

Joe: Oh yeah, we can answer that in a second. Page 10, ” What can you tell from index investing?

Andi: “- about index investments?”

Joe: Well, they’re pretty good.

Al: I like them.

Joe: Yeah, they’re strong. How’s your portfolio? Strong?

Al: I got indexes, I’m good. Yeah, I like indexes. I mean, it depends which index I guess we’re talking about. But in general, index funds have very low internal costs and they generally do not have a lot of trades inside the accounts. So there’s not a lot of trading costs either.

Joe: You’re diversified within the asset class that you’re selecting. It’s very low cost.

Al: But there’s different kinds of index funds. So have some domestic, have some international, have some small company, have some large company. So there’s more than one index. But yeah, we like index funds.

Joe: If you just want to look at what asset class you want to take advantage of and if you invest in an index fund it’s a very cheap, inexpensive, efficient way to invest.

Retirement Withdrawal, Pension, and Social Security Strategy

Joe: Jeff from San Diego writes in, “Hello Joe Big Al and Andi. I’ve been listening to your podcast for the last 6 months or so, usually while walking my dog, the Fluffster.”

Al: Fluffster. That’s a cool name.

Joe: The Fluffster.

Al: That’s gotta be one of those small, fluffy dogs.

Joe: A Maltese mix, Al.

Al: There you go.

Joe: “I drive a 2014 Volvo and value the information you provide and enjoy that you do it in an entertaining way. I live in San Diego and have a retirement strategy question for you. I’m nearly 59 and plan to retire at 65. My wife is a year younger, but will also like to retire when she reaches 65. The vast majority of our retirement income will derive from traditional IRAs, 401(k)s, Social Security, and after-tax savings. We will have a small pension, $4000 annually or a $70,000 lump sum. Here’s the strategy I’m proposing.” All right. So, Jeff, here’s his strategy. “In order to maximize the Social Security payout, I will wait to claim until I’m 70. My wife will claim her benefit while she 67. Once I turn 70, she will claim the additional spousal offset since her spousal benefit will likely be larger than her benefit alone.” Fail. Jeff. That- you could have done that- how old is he?

Al: He is 59-

Joe: No.

Al: She’s 58, a year younger.

Joe: So that strategy does not exist anymore. It’s deemed. So when she claims her benefit – so what he’s trying to do is that, he’s claiming his benefit, she’s going to claim her own benefit and then it will switch over to the spousal benefit once she reaches age 70.

Al: That doesn’t work.

Joe: He’s doing things- I mean, even if- her benefit- you would do the opposite, if you could. She would first claim the spousal benefit because then her benefit continues to grow by the 8% delayed retirement credit until she turns age 70. Then she would turn her benefit on at age 70. She would file a restricted application to do that. However, 2 or 3 years ago, they changed the law. You cannot file that restricted application and let your own benefit grow. So while she’s claiming her benefit at age 67, she’s going to get the higher of the 2 or it’s going to be deemed together. She’s going to get her benefit, plus the spousal benefit at that time when she claims. Flaw number 1, Jeff. Sorry to burst your bubble there.

Al: Yeah. That’s too bad.

Joe: “Bridge the 5 years until Social Security starts for me using a combination of the after tax savings and distributions from the IRA 401(k) weighted toward the after tax savings so the IRAs and 401(k)s can continue to grow.” OK, you like that so far?

Al: No. Fail.

Joe: Ok. Failure. Jeff. Come on.

Al: The reason is because you want to- if you’re in a super low bracket because you’re not receiving Social Security and you’ve after tax money you can live off of, then you want to maximize those low tax brackets by doing Roth conversions-

Joe: – or either take the distributions to the lower brackets.

Al: Either one.

Joe: One of the two.

Al: Either one.

Joe: “Once I turn 70, the retirement income will then largely derive from Social Security and traditional IRAs, 401(k), with much less continuing from after tax savings, not already recently- ” what?

Andi: – coming from after tax savings.

Joe: What did I say?

Al: – continuing-

Andi: – continuing-

Joe: Well it’s the same thing.

Al: It doesn’t matter.

Andi: Ok.

Joe: “- with much less the coming from after-tax savings.”

Al: That’s much more clear now.

Joe: Yes. “Note: I’ve only recently started contributing to a Roth 401(k) at work, so there will be some money in a Roth, a relatively small portion of the nest egg. Does this seem like a reasonable strategy, especially step number 2? Any input on taking the monthly vs. lump sum payment for the pension since it’ll be relatively small component of our retirement? I like the idea of a monthly payment, even if it’s small. Thank you very much. Keep up the good work. Jeff.” All right, Jeff, we’ll give you a pass because he’s only been listening for 6 months. You need to go 6 years to kind of-

Al: – to really get it. What we’re trying to say. It takes us 6 years for anyone to follow us.

Joe: Ok, so your Social Security strategy is flawed. So if your wife claims the benefit at 67, it is what it is. No big deal. So you’ve got to bridge the gap for your Social Security to turn on at age 70. So when you bridge that 5 year gap, you want to look at taxes, right? So if you have enough non-qualified- because what he’s doing is this, he’s letting his deferred defer, defer, defer. It’s compounding tax deferred and growing, which is great. But the problem is it’s all going to be taxed at ordinary income when he pulls the money out and his Social Security is going to be larger. So he’s pushing his Social Security up to the maximum amount. His wife is going to have a large benefit. So his fixed income and then he has no diversification at that point. All of his income is going to come from a retirement account.

Al: What Jeff is doing is what traditional advice is, I mean by most financial planners, which we disagree with.

Joe: Correct. I would look at if you’re taking money to bridge the gap, you either convert the money from the 401(k) to the Roth in low brackets, the 10%, the 12%. You could even do a lot more than the top of the 12% because you have the standard deduction. So that’s your first step to see, how much that you want to convert there. If you don’t want to do the conversion, at least take money from the 401(k) plan up to the standard deduction. It’s $25,000. That’s tax-free to you. And then you could supplement or maybe go to the 10% bracket. So that’s what, that’s $45,000, $50,000 of income. $25,000’s tax-free. The other $20,000 is going to be taxed at 10%-

Al: – and plus almost no state depending upon what state you’re in.

Joe: – and then supplement that with your after tax dollars, depending on how much money that you want to live off of. And then so you’re not blowing all of the diversification that you have. I know you don’t have any Roth now, but you can do conversions. You can start. You still got time.

Al: I think to me, this is one of the classic mistakes that we see from people, which is they retire. They’re in a really low bracket. They’re living off their after tax money. They’re thinking, boy, this retirement, it’s- you don’t pay any taxes. This is great. And then 70 hits, Social Security starts;  now 72 hits, required minimum distributions hit. It’s like, oh, wait a minute. Now the rest of my life, I’m in a higher bracket. And in some cases a very high bracket, depending upon how much you’ve saved in your deferred accounts.

Joe: He’s compounding the tax problem.

Not Sure My Pension is Reliable. Should I Pay Off the Mortgage in 15 Years?

Joe: Richard, back in December, he wrote us. “Hey Joe and Al. I have a very generous pension that transfers to my wife. I’m 10 years older than her, approximately $1300- $13,000 per month.”

Al: Wow. That is generous.

Joe: Very generous. Very generous. “We have no other debt other than our first mortgage. We are both retired; 65 and she’s 55. I probably shouldn’t have, but I’ve already started taking my Social Security at age 62 because it was drastically reduced due to the state pension. I have about $100,000 in savings and another $400,000 in IRA monies. We have an opportunity to pay off our house in about 15 years. The new mortgage will be about $1000 a month more than what we’ve been paying comfortably. I know you would say refinance into a 30-year and have liquidity to pay it down, but that’s never worked for us.” I could tell.

Al: And actually, that strategy doesn’t work for many.

Joe: “We’d end up giving money to our adult children or spending. I’m also concerned that the pension may not always be there the way the state is spending their money.” What do you think? Would he feel more comfortable knowing that the house is paid off? What are your thoughts? So he’s concerned about his pension may not always be there. The way the state is spending money, it would feel more comfortable knowing that the house is paid off. So he’s asking himself, should he pay down the mortgage or not?

Al: Yes. Should he stick with his 15-year mortgage or should he get a 30-year or what? Right?

Joe:  That is the question Richard is saying. His wife is 55. He’s 65.

Al: Yeah. And his pension is-

Joe: – generous.

Al: – generous and transferable. So his wife will presumably will outlive him being female and 10 years younger. So at any rate, that is standard advice we give to people in retirement is refinance to a 30-year. So you have better cash flow. And I still think that might be the right case, Richard, just because why feel stressed and strapped when you’re coming into retirement. However, if you can comfortably pay a 15-year mortgage, there’s no harm in that because you’ve got other resources.  You’ve got a good fixed income. I don’t know what state he’s from. I’ll assume California, just by the way he said he doesn’t like the way they’re spending. I’m not too worried about California’s pension. Now, if you’re a California state employee right now and you’re 40, maybe it’ll change by the time you get to retirement. But I wouldn’t worry about a current retirement amount. So I would say if you can comfortably pay the extra $1000 a month and you can pay it off in 15 years and it’s a forced savings plan. Yeah, sure. Go for it.

Joe: I agree. I’m with you. I don’t know how large the mortgage is, though.

Al: Doesn’t say.

Joe: It’s just $1000 more a month?

Al: $1000 more. So it’s got to be sizable enough to have a good-sized mortgage.

Joe: So I guess but, you know, he’s right. If he does spend it or give it to his adult children, who cares? You know, you got $13,000 a month coming in.

Al: I think you could probably cover it unless it’s a giant mortgage.

Joe: Maybe. Sell the house and move, Richard.

Jeff’s and Richard’s pensions both play a part in the financial decisions they need to make for retirement. Click the link in the description of today’ episode in your podcast app to go to the show notes for more from the fellas and their team at Pure Financial Advisors on deciding between a pension lump sum or monthly payments, along with other free resources for small business owners like Smitty and Jeremy, coming up shortly. If you still have questions, click Ask Joe & Al On Air in the podcast show notes, send them in, and the fellas will answer here on the YMYW podcast.

“Solo 401(k) Trap”: Qualified Business Income Deduction and the Solo 401(k)

Joe: Let’s see. We got Smitty, our boy Smitty from the Villages. Can’t wait to, buy a golf cart-

Al: You just want to hang out with him because of his name.

Joe: I do. “Hey, guys. I hope you all had a happy New Year. I have something totally different for you guys today. It’s about the Tax Cuts and Jobs Act on QBI.” Qualified Business Income Deduction, Section 199 Cap A.

Al: That’s correct.

Joe: See, you like that, Al?

Al: That was pretty good. The first tax seminar I went to after this? They kept saying 199 Cap A. It’s like, I’ve got it already, you can just say 199A. I don’t need the Cap every time.

Joe: “Last week I was trying to figure out how much of my solo 401(k) I can convert to my Roth IRA without busting over the 24% bracket. This is not a Roth conversion question, guys. So sorry. So I’m trying to figure out the Section 199 Cap A tax calculation on how many 2020 Solo 401(k) contributions would play into these calculations. What I discovered was my solo 401(k) contributions don’t get a dollar for dollar deduction.” Wonder what kind of business Smitty is in.

Al: He’s in finance.

Joe: He’s goin’ in the QBI.

Al: Right.

Joe: Because the larger deduction that you get sometimes phases out the QBI.

Al: Yeah. Plus when you have a solo 401(k), it reduces your business income and you get less QBI deductions. That’s what he’s getting at.

Joe: Right, because the deduction is based on the gross, not net after 401(k).

Al: Yeah, after 401(k) rate.

Joe: Got it. “What I did discover was my solo 401(k) contributions are getting an 80% deduction, not the 100%. But when it comes to RMDs, that those same contributions would be 100% taxable. It seems like a partial double taxation to me. I wasn’t sure if I was right on this. So I did some more research and I found sources to back this up. One source referred to it as the solo 401(k) trap.

Al: Who comes up with stuff?

Joe: Some marketing firm. “So now I’m thinking when it comes to Section 199 Cap A and the solo 401(k), that they don’t play well together. I’m hoping you guys can confirm this for me. I’m wondering if it would be better if I pulled out my 2020 solo 401(k) contribution I already made and instead just put it in a regular taxable brokerage account, thus avoiding the 20% markup on my contributions. I’ve already maxed out my HSA and Roth IRA for 2020, so I think I’m out of options. Would my 401(k) contributions be better off in a taxable brokerage account and thus avoiding a solo 401(k) trap that comes from the Section 199 Cap A? Smitty, from the Villages. Black, 2019 Yamaha Drive 2, Quetech 4-stroke with independent suspension. This thing purrs.

Andi: Maybe that’s Quietech. It’s one of those marketing terms.

Al: Is that the golf cart? I don’t know what that is.

Andi: Yeah.

Joe: So the 401(k) solo tax trap, Al.

Al: Yeah. Don’t worry about it. Here’s why. So first of all, here’s an example. So let’s say your profit in your business is $100,000. And so your QBI, your qualified business income deduction, is $20,000, 20% of that. If you add a $20,000 401(k), let’s just say as a deduction, now your net income is $80,000 because it’s considered a deduction for purposes of QBI. So basically, you lost $20,000 of income for your QBI. QBI is 20% of the $20,000. Right? You follow me so far? So 20% of $20,000 in that example is what you lose. That’s $4000 deduction that you’re losing out of. Let’s say you’re in a 25% tax bracket just to be simple.

Joe: $1000.

Al: $1000 tax. I would not do anything different just for that $1000. It’s not worth your effort and time.

Joe: One of the things he could do is just switch the solo 401(k) to a Roth 401(k), instead of going to a brokerage if he’s so worried about the- he loses $1000 deduction. Right. Or tax.

Al: Right. Yeah.

Joe: Because he loses some of the QBI. If the QBI didn’t exist, you wouldn’t be bitching about it.

Al: I know. But his point to go back to his side is there is I mean, if you want to count it this way, there’s a slight double taxation because you’re not getting a full deduction for it. I do agree with him. I’m just telling- I’m just saying it’s not that big a deal. It’s in my example, it’s $1000. It’s not going to make or break this whole thing.

Joe: Right.

Al: So if you’re trying to undo something and it’s difficult-

Joe: The benefit of the 401(k) is still larger. Even with $1000 delta.

Al: Exactly.

Joe: So, Ok, thanks, Smitty. I’ll let you know how my golf cart shopping goes.

Should I Create an LLC for My Small Business for Tax Purposes?

Joe: Jeremy from Cookerville, Tennessee.

Andi: Cookeville.

Joe: “Al, Andi and Joe. I have a tax question. I’ve been managing the supply chain here in Tennessee for the last 5 years.”  Is he the supply chain manager that keeps writing to us?

Andi: Yes.

Al: Yeah.

Joe: Got it.

Al: We never figured out what a supply chain is, have we?

Joe: “About two years ago, I started a side hustle, buying and selling small boats, canoes and kayaks, very popular in this area.” Cookerville is very known for their kayaking.

Al: Even Cookeville is too.

Joe: “I probably made $2000 the first year, but in 2020 I made it big, $8000. At what point do I need to start considering tax implications or possibly an LLC? The $8000 is net profit and I have no clue about the tax situation I may be creating. From a liability standpoint, I assume that the buyers are buying at their own risk. I’ve sold about 50 or 60 boats in the 2-year period and have zero buyers contact me about problems with their new boat or complaints about the purchase.” 50 or 60 boats? That’s a lot of boats.

Al: Yeah, yeah.

Joe: He’s made $8000?

Al: Low commission. They’re little kayaks that are $300.

Joe: That’s a ton of work for $8000. I don’t know about you, but I would stick with your supply chain business.

Al: That does sound better.

Joe: Oh, my goodness, Jeremy.

Al: He likes it. He likes boats.

Joe: “I’m happy to pay the taxes if I- ”

Al: – if the law-

Joe: “- if the law says I owe any.

Al: It does say you owe something.

Joe: Just a smidge. This year I used $6000 of profits to purchase a 2005, 4-door Chevy Silverado. It’s navy blue and 107,000 miles on it. It’s a utility vehicle and only gets driven about once a week. My daily driver is a 2005 white Nissan Merino. It’s about 210,000 on it. This guy is a grinder. He’s grinding his cars. He’s grinding his body with these canoes.

Al: He’s going to drive the Merino-

Joe: – to 300,000-

Al: – or until it blows up.

Joe: All right. Jeremy, the supply chain manager from Cookerville, Tennessee.

Al: Well, Jeremy, so a couple of things. If you generally either have a sole proprietorship, which is what you have when you have nothing, that’s what you currently have.

Joe: Would you sell 50 or 60 canoes for $8000?

Al: Well, that’s net. That’s all his expenses.

Joe: I mean, I can’t get over that.

Al: That’s a lot of work.

Andi: Actually, he says it’s in the 2-year period that he sold 50 to 60. So what is that like $10,000.

Al: 25 to 30 boat sales a year to make- call it $16,000.

Joe: He makes like what is that, $133 a boat?

Al: Well, first of all, I think you’re going to have to quit your day job if you really want to really accelerate this and make some decent profits.

Joe: That is scalable. Now this is a business that is scalable.

Al: I would say, right off the bat, I wouldn’t even worry about the LLC or an S Corporation until you had at least $50,000 of profits, maybe more. But so understand this, an LLC, this would be what would be called a single member LLC, which is a disregarded entity for tax purposes. So basically, it’s if it wasn’t there. The only benefit of the LLC is that you get some limited liability protection if you have employees, which you probably don’t and probably won’t have employees. So LLC makes no sense whatsoever. An S Corporation, on the other hand, the benefit there is that you can take your profits and split them between salary and profits. Salary, you have to pay self-employment tax, which is like Social Security taxes on wages. Profits, you don’t have to pay it. You do have to pay yourself a reasonable wage for your energy and effort. So but yeah, no, at $8000 of profits, I would stick with the sole proprietorship. This is what you currently have. It’s fine. Yes, you do have to pay taxes on it. You have to pay self-employment taxes and income taxes both on that. But you can set up a little retirement plan. You can do a SEP IRA, a simplified employee pension plan, IRA, or if your supply chain job does not have a 401(k), you could set up your own solo 401(k) with this little tiny business and basically shelter all the profits potentially.

Joe: Yeah, I would get out of the canoe business.

Al: But what if he likes it?

Joe: I suppose. I guess you never work a day in your life if you enjoy what you’re doing.

Al: That’s right.

Al: And he bought a Chevy Silverado.

Joe: That’s a badass truck.

Al: With 107,000 miles.

Joe: 2005. Cruisin’.

FIPhysician.com: YMYW is the Best Retirement Podcast With Humor

Joe: Want to say thank you I guess- I don’t know if we can say thank you or not, probably get in trouble. FIPhysician.com, we’re voted Best Retirement Podcast of 2021-

Andi: – With Humor.

Joe: Not total, right? With Humor.

Al/Andi: Yeah.

Joe: Because he just couldn’t pick the best podcast. So he-

Al: He’s got different categories-

Joe: Yeah, different categories.

Al: We’re the winner of the humor one.

Joe: It’s like the best new retirement podcast of the year.

Al: I wonder what our competition was on the humor one.

Joe: I don’t know.

Andi: In this arena, I would say there is none.

Joe: Yes.

Al: That’s what I’m thinking.

Joe: Best Retirement Podcast With Humor. He goes, “Your Money, Your Wealth® is hilarious, good humor, good planning; in addition to production value of the show is perhaps best in class.”

Andi: Yeah.

Joe: Whatever.

Andi: Thank you  FIPhysician.

Joe: Yes.

Al: Nice.

Joe: “Hosts, Big Al and Joe- ” Well, first of all, this guy is just totally whacked. He doesn’t get the billing right. It’s Joe and Big Al, first of all.

Al: Depends on who’s talking, could be. I mean, I might have a different perspective. “We answer a wide variety of questions, including retirement. Social Security. Al ls a CPA. So there’s a tax-centric nature that you don’t find in other retirement podcasts. This is a great addition and marks this retirement podcast stand out.”

Al: – and makes it-

Joe: Oh, sorry. Makes it. Yeah, we stand out, Al. Our thanks to everyone for the 1-star review this week. Appreciate that. This show sucks.

Al: 1 means bad; 5 means good. Just to remind you.

Joe: So check out FIPhysician.com. He’s got a whole list here of interesting podcasts. So if you like- well my boy,  Dante, we’ll get to his question. He got sold a life insurance contract that I’m still breaking down. But he goes,”yeah, I listen to like 10 retirement podcasts a week.”

Al: Really.

Joe: I’m like, are you crazy?

Al: Wow. OK.

Joe: Thanks again, folks, for the wonderful questions. We’ll see you again next week. For Big Al Clopine and Andi Last, I’m Joe Anderson. The show’s called Your Money, Your Wealth®.


Annaliate, Bononza, and Cookerville are in the Derails at the very end of today’s episode, so stick around if Joe’s weird pronunciations is your thing. Smitty’s golf cart is in there too!

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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.