Joe and Big Al discuss how to choose international funds in a diversified portfolio, a momentum investing strategy called The 12% Solution, and safe retirement investments like CDs and bonds. Plus the fellas touch on real estate investing with 1031 exchanges and qualified opportunity zones, and they answer your questions on the SECURE Act, IRA contributions, and calculating Social Security in this wide-ranging email round-up.

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Show Notes

(00:49) 1031 Exchange, The 12% Solution, and Qualified Opportunity Zones
(08:47) What Investment is Safe These Days? CDs, Annuities, and Bonds Seem Bad
(14:16) How to Choose International Funds? Emerging Markets, Foreign Large Growth, Large Blend, or Large Blend Index With Low Expense Ratio?
(21:01) SECURE Act: Are Inherited Roth IRA Gains Taxed as Ordinary Income?
(27:09) Can You Really Fund an IRA for the Prior Year Until April 15? Can You Amend Returns Too?
(30:43) YMYW: Too Slow and Annoying
(32:39) Calculating Social Security, 1031 Exchange, and Deferred Compensation vs. Taxable Account

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*IRA rules have changed since this video was produced – download the SECURE Act Guide for the latest!

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Transcription

Today on Your Money, Your Wealth®, it’s an email round-up, answering your questions on a wide range of financial topics: we’ll find out what Joe Anderson, CFP® and Big Al Clopine, CPA think about how to choose international funds in your diversified portfolio, a momentum investing strategy called The 12% Solution, and safe investments like CDs and bonds. Plus the fellas will touch on real estate investing with 1031 exchanges and qualified opportunity zones, and they’ll also answer your questions on the SECURE Act, IRA contributions, and calculating Social Security. I’m the lady of the podcast, Producer Andi Last. Go to YourMoneyYourWealth.com, scroll down and click Ask Joe and Al On Air to email us your money questions, or you can be a superhero and send them in as a voice message:

1031 Exchange, The 12% Solution, and Qualified Opportunity Zones

“Good afternoon Andi, Big Al, and Joe. This is Batman. I’m calling from Gotham City and I have a couple of questions. First question is if a person has a residential rental property which has considerable capital gain since its purchase – the purchase price was $300,000, the current value is $1,400,000. It was purchased in 2010. Would you suggest a 1031 exchange into a Delaware Statutory Trust? If so, why would you? Who would you recommend to deal with? And if not, why not? Also, I just finished a book called The 12% Solution. Robin had actually brought it to my attention, and I believe he got it from Alfred here in the Bat Cave. It was written by a gentleman named David Alan Carter. I’m wondering if you’ve read the book and what you thought. It’s an extremely brief book and he outlines a compelling investing plan. Third and final question. I’d like to know what your opinion is of qualified opportunity zones. If you do like them do you have any particular brokerage houses you would recommend? If you do not like them, please tell me why. These are three topics I really haven’t heard on your podcast. I thank you in advance for replying, hopefully, and I just want to let the three of you know that you put on a phenomenal podcast. I actually have listened to pretty much all of them that deal with financial planning and that deal with tax and questions. I find yours not only the most entertaining for sure but also extremely informative and non-biased. I’m glad that Andi is there to referee. Be well and God bless. Thank you.”

Joe: All right Batman.

Al: The Bat Phone isn’t working right now that well but a couple of questions.

Joe: So Batman wants to do a 1031 exchange, $300,000, current value $1,400,000, purchase price. Gotham City is booming I guess there.

Al: Apparently. When you have a rental property or investment property and you sell it if you put the money directly to what’s called an exchange accommodator or qualified intermediary in other words you don’t receive the money, it goes into the special account. And then you have 45 days to identify up to three properties to purchase and then you have six months after close of escrow actually buy one of those three properties. So that’s what he’s referring to. And what that does is it defers your gain. So, in other words, the gain that he would have to pay in this particular example $1,100,000 of gain that would get deferred into the next property. And he would not have to pay that tax until he actually sold that property although he could do another 1031 exchange and delay it indefinitely.

Joe: But wants to go to a DST.

Al: Right. Delaware Statutory Trust. So when you do a 1031 exchange you can buy another property. That’s the most common.

Joe: Tenant in common.

Al: Tenant in common, a small interest in a larger piece of property. Delaware Statutory Trust is actually- it’s almost like a real estate investment trust in a way. It’s a portfolio of properties typically where there will be several properties which I personally like that better than the tenant in common. Because there’s just a little bit more diversification in your portfolio. The pros and cons, the pros are you’re not managing it anymore. You just get a paycheck. It’s basically a much simpler way to go. The cons are you’re not managing the property. You lose control. So if things go wrong you’re not the one in charge of things. And what happened for a tenant in common investments in the Great Recession was properties went down so far and the general managers couldn’t run them that some of those were given back to the bank. And the people lost their investments and those that were in those kinds of investments regretted giving up control. So that’s the downside. As far as the upside, a simple way to get out of your property and not have to pay taxes and not be involved in the management, I’m all for it but just understand those risks.

Joe: Maybe increase your cash flow a little bit there too. But with anything you just want to look at the fine print. There’s a lot of cost fees, charges and things like that with some of these DSTs.

Al: Good point. Internal charges can eat away a lot of the profits.

Joe: Right. And then you just want to look at really the true cash on cash return that you’re trying to get but shop around. I guess just with any investment they’re not all created equal. Ever read the book The 12% Solution? Al: Have not. Have you?

Joe: No.

Al: I did look it up though.

Joe: Oh you did. You did some research.

Al: I did. Yeah. You know what it is?

Joe: What?

Al: It’s a momentum strategy. So 60% stocks, 40% fixed. And there’s like 3 or 4 stock index funds that are to be picked based upon what’s done well momentum wise. And then in terms of the fixed income, I forget what that’s in. But then you can get completely out of stocks depending upon the basic criteria. And it’s claimed that over 40 years it’s earned 12%.

Joe: Is it a true momentum play? Or is it more of just a timing play?

Al: Well I think those two words can be used interchangeably.

Joe: I suppose.

Al: So the timing is ‘I’m in the market, I’m out of the market’, ‘I’m in the market, I’m out of the market.’ The momentum play is ‘I’m investing in what’s done well recently.’ But apparently what at least what I read was if things don’t meet the- if the 4 investments- if none of those meet the criteria for stocks you get out completely. So it’s I guess it’s sort of a combination of both.

Joe: Huh. Well, Batman, I will check it out. I’ll read that. And then finally qualified opportunity zones which is somewhat new I guess.

Al: Yeah. Brand new with the new tax law. This is actually another way to postpone capital gains on sales of property or virtually anything for that matter. You could sell a stock, you could sell a business, you could sell a piece of property. And what happens with a qualified opportunity zone is let’s say you’ve got a gain, in his case $1,100,000, Batman would have to invest $1,100,000 in an opportunity zone to avoid paying any current taxation.

Joe: But the opportunity zones too – there are zones looking for opportunity that are not necessarily the greatest areas in town.

Al: That’s right. There’s a reason why they’re that way. And furthermore I would say this; this is just a general comment with no areas specific in mind. Because this new tax law came out there was a lot of new money in the opportunity zones and the prices went up fairly quickly. So it’s like is it too late to get in? I don’t know. But I would just be careful. I would be careful with that because what you’re doing is you’re taking some of your hard-earned money and putting it into an investment that you may or may not really want.

Joe: Right, for a tax benefit.

Al: But if it does make sense investment-wise here’s what you get. If you own the property for at least 5 years, 10% of the gain gets forgiven. If you own it for 7 years, another 5%t gets forgiven. So 15% tax-free. In about 7 years from now, you’ll have to pay that tax. I think it’s in 2027 if I’m not mistaken to actually have to pay the tax. However, any additional gain on sale on the opportunity zone itself will be 100% tax-free. That’s the idea. And there are designated opportunity zones in virtually every state and every county.

What Investment is Safe These Days? CDs, Annuities, and Bonds Seem Bad

Joe: Samuel wrote in. He’s from San Diego. “Great show Andi. Big Al. Joe. I enjoy the weekly podcast. Thanks for the ongoing education. My question. I want to keep half my retirement savings invested in the market and half invested in a safe product yet still have the ability for the safe half to accumulate during retirement. What do you recommend for safety these days? CDs are awful. Less than 2%. Not likely to keep up with inflation. Some annuities look okay, offering a max of 3% to 3.5% returns and that’s not even getting into why Joe HATES annuities.” I do hate annuities.

Al: You do, don’t you?

Joe: I don’t hate annuities. That sounds like I’m Fisher.

Al: He wrote it all caps too. It does sound like you’re Fisher.

Andi: And he did actually say that ‘some annuities look ok to bad.’ So that’s his range.

Joe: That is a range.

Al: Nothing good.

Joe: “Bonds seem to be risky just as risky as stocks. Any advice for safe investments would be greatly appreciated.” So risk is a relative word. Would you agree with that?

Al: Yes. So explain what you mean.

Joe: Well I think Samuel is looking at this not in a bad way. I’m not going to knock how he’s thinking about it. But you have to take a look at the risk of the entire portfolio in its entirety. Versus splitting it up saying ‘I’m going to have half of this subject to risk, market risk and the other half safe.’ I think you start with safe should be your cash reserves. Money used for emergencies. Something happens to you, something happens to the spouse, you have cash that you can rely upon to cover the basic necessities for a certain period of time. If this is a portfolio based on retirement then you want to look at the total return of the overall portfolio. So he’s trying to pick and choose investments a little bit.

Al: Well he’s trying to get the best one of each is what he’s thinking and it’s hard when you do that. I agree with you because you get yourself bogged down. Like for example, we’ve had a 10-year bull run. And so when you look at your bonds you go why do I have bonds? But if you look at the total portfolio and notice that you weren’t near as volatile as some. And as a matter of fact, if you’ve got a portfolio with risk and safety then you can weather storms better. When it comes to the fixed income or the safer part of your portfolio, the way I would say it is we like shorter-term high-quality bonds which do not have a great rate of return but they do tend to be better than CDs over the long term. And they also tend to go up a bit during bad markets that kind of helps negate some of that down market. But I really don’t think it’s a good idea to focus on that as an individual return. You got to look at the whole portfolio.

Joe: Because you tend to segment your portfolio and say well this is really good. What defines really good? Rate of return? Well if you’re looking at US growth companies. Yeah. Then those are really good, right now in this time period. But what is it to say what’s going to happen by the end of the year? They could be down 20% and then so does that mean that they’re not good anymore? You know bonds are risky as stocks. Well depends on what type of bonds that you own. I mean do you have high yield bonds? Longer maturity bonds? What kind of credit risk are you taking? What kind of term risk are you taking? Because you just want to look at what are your goals? What target rate of return do you want to accomplish with the overall portfolio? And then you look from a risk perspective how much are you willing to lose? If it’s zero, well then yeah then you would go into a fixed product such as- and he wants a product, a CD, an annuity. Well, why don’t you buy an MLP? Or an individual bond. So we’re not product salespeople, we’re advisors. So I’m sure you could get pitched several different products that will give you certain rates of return. Looking at for instance indexed CDs. You can buy those. Oh look at these or you know the whole indexed annuity BS and the list goes on and on and on. So I would say stay diversified, understand what target rate of return that you need to generate, mitigate the risk as much as you can. We like to use very high-quality short term bonds in the form of mutual funds ETFs that are very liquid very cheap. You’re not going to get a huge rate of return but it’s going to buffer the downside. Another thing I heard this example once is that let’s say- you have kids, Al.

Al: Yes.

Joe: Let’s say they come home from school. They have the report card and then they have four A’s and an F. What are you going to focus on?

Al: The F. Of course.

Joe: Even though they got four A’s you’re totally going to ignore the four A’s but you’re going to blow them up on the F. So that’s what he’s kind of looking at here too is that when you look at an overall portfolio it’s like you’re trying to pick or select investments. It’s a lot more challenging today.

Al: That’s a great analogy.

Joe: Thanks.

Al: And you’re right. I would focus on the F.

Joe: You’d kick his ass.

How to Choose International Funds?

Joe: We got Steve. He writes in from San Diego. “Hi, Joe and Al (and Andi) parentheses. Did you put that in Andi so your name is mentioned?

Andi: Yeah that must be it, Joe.

Joe: Guaranteed. That’s exactly what happened.

Al: Because it’s spelled right.

Joe: Yes, for sure. “Thanks so much for your answer recently about ways to think about selecting funds in a 401(k). I wanted to drill down a little deeper if I can. The biggest takeaway from your answer for me is to look at asset classes versus performance.” All right, see? Way to go Steve. “I have 30 funds in my 401(k). Suppose I decide to allocate 20% of my contributions to international funds to get exposure to that asset class? Four of the funds in the 401(k) are in the international category. Diversified emerging markets fund, a foreign large growth fund, a foreign large blend fund, a foreign large bland index fund, with a low expense ratio. What criteria would you look for to help you decide which of these four funds to contribute to? In what proportion? Under what circumstance would you pick one and put the full 20% in that? Versus dividing 20% among some combination of the four? Thanks so much again for the great show. I’m sure I’m not the only one out there who really looks forward to this show each week.” That just made my heart.

Al: That’s really sweet.

Joe: You don’t say ‘that’s really sweet’ to a guy. ‘Steve that’s so sweet of you.’

Andi: I would. It’s really sweet, Steve. Thank you.

Al: I realized as soon as the words came out of my mouth. I was thinking it was Cindy. I said sweet. And I looked and it was Steve, and I go, “whoops. I can’t pull that back.” Steve that’s so sweet of you.

Joe: Thank you so much, Steve.

Al: That’s just awesome.

Joe: So I like where you’re going here, Steve. A couple of things I’ve got a couple of notes when you’re contributing to a 401(k) plan. What most people do is let’s say he’s gonna put 20% in a foreign fund, 20% in a U.S. fund, maybe 20% in another fund, and blah, blah, blah, blah. On your contributions, try to look at an asset class that is going to give you the highest expected rate of return and also the most volatility. Because as you’re contributing to a 401(k) plan you’re putting money in on a biweekly basis. And so as markets go up and down it’s called dollar-cost averaging. If I’m putting in $200 biweekly and the market goes down I’m still putting my $200 in and I’m buying more shares. So you want to look at the shares that you’re purchasing. Not necessarily the price when you’re contributing to a 401(k) plan. Because the more shares ultimately that you own that the better off you’re going to be. So as a contribution look at more volatile funds such as emerging markets, such as smaller caps, such as value type companies, because you’re going to see more volatility there. So as you contribute you’re going to then probably reap a little bit better rewards if the market is volatile. That is not stating put 100% into emerging markets in your entire balance. You want to have a globally diversified portfolio but as you contribute each month or biweekly use something that’s a little bit more volatile because of dollar-cost averaging. Then rebalance at the end of the year. To answer his question in regards to which fund should he select. What do you think Al? He wants 20% in international.

Al: Assuming that’s the right allocation. I mean the first question is what other investments do you have? And does it make sense to have 20%? But let’s make that assumption. So if it were me and I determined I wanted 20% international with these 4 choices, I would probably do about 1/4 in emerging markets and 3/4 in the foreign large blend index fund with a low expense ratio.

Joe: I agree 100%. But I think the real answer to the question is how much should he have in international? 20% seems low.

Al: It seems low. And I guess when you think about it a lot of people are- they’re not really used to investing internationally and even 10% seems like a lot but the world is a global economy. And I think the well- what would be a better ratio do you think in terms of how much international versus domestic?

Joe: If you look at the global market capitalization. We’re not- if I look at the global markets- the USA is not 90% or 80%. It’s more like 60% or 50% or even 40%.

Al: I think it’s 40%. I think international 60%.

Joe: 60% of the global market capitalization of the world. So if I’m just investing 80% of my money in the US I’m missing a huge component of the overall market.

Al: Yeah. And I think the other thing that people don’t realize is international markets do not go up and down at the exact same times as the US. And so we can have periods of time where there’s a lot of growth in the U.S. and then it switches to international. And those periods of time could be months, weeks, years. And you never know which is going to pop compared to the other one. So it’s good to have both.

Joe: That’s correlation. So you want to take a look there. Emerging markets is a different asset class than your foreign stocks. So we would want you to have international exposure but then as another piece in foreign stocks so that’s why we picked two of those funds. Thanks a lot Steve for the question.

How is your investment mix, and why is it like that? To learn how to grow your investments in all market environments, how to avoid poor investment decisions, and how to protect yourself from risk, download our white paper, 8 Timeless Principles of Investing. It’s free, it’s in the podcast show notes, just before the transcript of today’s episode, and it’ll help you feel more confident in your portfolio even when markets are volatile. Click the link in the description of today’s episode in your podcast app to get yours. For more in-depth financial guidance, click the free assessment button at YourMoneyYourWealth.com for a two meeting financial assessment with a CERTIFIED FINANCIAL PLANNER™ who can help you figure out if you’re on track to accomplish your goals in retirement. You don’t even have to be local to where we are here in Southern California for that assessment, our advisors can even do it via web meeting. Now let’s get back to your emails. If you have a money question, can click Ask Joe and Al On Air in the podcast show notes and send it on in.

SECURE Act: Are Inherited Roth IRA Gains Taxed as Ordinary Income?

Joe: We got Sam. He writes in from North Carolina, Big Al.

Al: Yes.

Joe: He goes “Big Al and Joe. Enjoy your show and your humor and wisdom.” So he’s like, “in a Forbes magazine article in December 2019. Jim Lange wrote that under the SECURE Act beginning 2020 if a person dies and leaves a Roth IRA then only the basis date of death? comes out tax-free to the beneficiaries. Any increase in the inherited Roth IRA rate due to dividends, capital gains, market value increase, is taxed at ordinary income tax rates? If this interpretation is true then that we likely have the effect of shortening the distribution for an adult beneficiary of an inherited Roth IRA to a much shorter time period- a shorter period of time and possibly as soon as possible.” So he’s thinking ‘man if I keep it in the Roth all the additional growth is going to be taxed at ordinary income. Let’s just blow the thing out tax-free and then move on.’

Al: Sort of negates the benefit of the Roth.

Joe: That would be awful wouldn’t it?

Al: It would.

Joe: That would be news.

Al: It’s not true, by the way.

Joe: “So why? At least in a brokerage account, you know the qualified dividends, long term capital gains, would be taxed at a favorable federal income tax rate. Example- Big Al dies.

Al/Joe: Oh boy.

Al: I left $1,000,000 to my colleagues.

Joe: Yes.

Al: Dear colleague Joe.

Joe: Yes. Thank you, Al.

Al: You’re welcome.

Joe: Appreciate that. “If Joe leaves the money in his inherited Roth IRA and waits 10 years to distribute he might be forced with reporting $1,000,000 of ordinary income assuming he’s 7% rate of return in the 10th year.” So what the example is Big Al dies leaves me $1,000,000. I have it in the Roth. It grows at 7% for 10 years. Now the $1,000,000 is worth $2,000,000. So I cash it out at the 10th year, the $1,000,000 comes out tax-free. The other $1,000,000 is taxed at ordinary income. Sam goes on he goes “seems to me it would be much better to go ahead and distribute the full $1,000,000 and invest the money in a tax-efficient fashion and likely wind up with a lot more after-tax money. What are your thoughts? Thanks.” Well, Sam, I think you misread the article. I know Jim Lange. He’s been on the show multiple times.

Al: He has. Smart guy.

Joe: Not in a while. He’s kinda boring.

Al: You didn’t have to go there.

Joe: I love Jim Lange.

Al: He’s a CPA. What do you expect? You’re sitting next to one. I think he’s really interesting.

Joe: You guys go out and have beers – or a beer.

Al: Yeah. We split one. We order beer with two glasses.

Joe: Don’t wanna get out of control here.

Al: And we still Uber home. A CPA party. It’s amazing. Good stuff. Well, so Jim didn’t say that. I agree something was amiss in your understanding. Because Roth IRA accounts whether they’re your own or whether you inherit them, the money all comes out tax-free. And that’s the principle, the growth, the income, everything.

Joe: So I read the article and-

Al: Do you see where he got it?

Joe: Yeah. And there was a statement where it says ‘what many IRA owners don’t account for is that earnings on the withdrawals-‘ So he has to withdraw the money. ‘-also lose the protection from income taxes.’

Al: Yes. Okay.

Joe: ‘This is true whether it’s an inherited account, is a traditional IRA, or a Roth IRA. So if you’re contemplating your estate planning, it’s important to understand that your beneficiaries will have to pay taxes on dividends interest and realized capital gains that are earned on the money they withdraw from the inherited IRA or inherited Roth IRA.’

Al: That’s the key word then. Okay.

Joe: So I think he missed the word ‘withdrawal’. So if it stays in the Roth it’s 100% tax-free. But the withdrawals that you take out will be taxed at ordinary income rates. ‘If it’s classified as an ordinary income tax event or dividends or cap gains.’

Al: And it is true that under the SECURE Act you do have to pull the money out within 10 years. It’s just tax-free. All of it.

Joe: Yeah 100% tax-free. That’s why I think the strategy that a lot of you need to be looking at is that if you have large IRA balances- we are all-time low tax environment- is that does it make sense to convert to the Roth? Because then your non-spouse beneficiaries even though they can’t stretch it’s 10 years and then that’s not going to be taxable to them. And a lot of times what we see that people then inherit a large IRA balance are in their peak earning years. You know what I mean? How old are you Al? 60? And your parents are what, 80-?

Al: Yeah. They’re mid to late 80s.

Joe: So let’s say if they have- they have pensions though, they might have a large high rate. Does the old man have some cash?

Al: Not much. No. Because they just came about. I mean they first started IRAs I think in 1980 or 84?

Joe: 87?

Al: It was early 80s. I think.

Joe: I know this answer. It’s been a while since I had to answer that.

Al: And actually that’s consistent with almost everyone we talked to that’s in their 80s. They don’t have a big IRA because they hadn’t been around that long.

Andi: “IRAs were established by legislation passed in 1974.”

Joe: Yeah, 74. ERISA.

Al: 74. Wow.

Joe: Yes yes yes. ERISA.

Al: Well no one really-

Joe: But you can only put $5 in them.

Al: It was like, was it $500? It was some low number.

Joe: It was so low number and then-. So what the hell happened in 87?

Al: 87 was the Tax Simplification Act under Reagan.

Joe: Under Reagan. Thank you. Got it.

Can You Really Fund an IRA for the Prior Year Until April 15? Can You Amend Returns Too?

Joe: This one actually came from YouTube. A Synaps.

Andi: Something like that. YouTube user name.

Joe: “I saw your video, Top Three IRA Mistakes to Avoid.

*IRA rules have changed since this video was produced – download the SECURE Act Guide for the latest!

“I had a question about something you stated.” Robert McCullock actually stated that, and we taped that in November of 2018. “You said that an IRA can be funded for the prior calendar year up to April 15th. Was that true?” No. We were lying. We just get really bad information and put it on YouTube.

Andi: So that you have to write us a question.

Joe: Yes. “If that is true does that also mean you can do amended returns to fund a prior year as well if you had not but were eligible to fund an IRA then too?” So you file your taxes on April 15th. You have until the April 15th tax filing deadline to fund an IRA. So yes, that is true.

Andi: Robert was not lying to you.

Joe: Oh we’re not lying. We’re not giving you know bad info out there. So unless you file your return in January and then you funded or maybe you’ve been funding an IRA. I don’t really understand the question. It’s like did you fund an IRA? Now you want to amend the return to take the deduction or you’re like you already filed your return in January and you have until April 15th to make an IRA contribution. Can you amend your return and put the $6000, $7000 in the IRA and take the deduction? The answer is yes. So for 2019 if you already filed your tax return and the date is January 20-something. That’s eager beaver right there. I usually wait till October 14th.

Andi: Well that further complicates it.

Joe: Yeah. So I mean if you file your return prior to April 15th you’re eligible to make an IRA contribution. Yes, you can amend your return, make an IRA contribution and fund it.

Andi: Can you do that until October?

Joe: No, no, no. Tax filing deadline is April 15. October 15th for extension. But IRA contribution deadline is April 15th. So this only makes sense if you’ve already filed your return for 2019 and you realize because you watched our video on YouTube, the Top Three IRA Mistakes to Avoid, “Oh I didn’t fund my IRA. I already filed my return.” You can file an amended return and put in whatever amount that you want to put into your IRA. Hopefully that helps.

I’ve posted the video in question, Top 3 IRA Mistakes to Avoid, in the podcast show notes at YourMoneyYourWealth.com along with links to subscribe to our YouTube channels, with over 700 educational videos for you to binge.

*IRA rules have changed since this video was produced – download the SECURE Act Guide for the latest!

Check out Joe and Big Al on seasons 1 through 5 of the Your Money, Your Wealth® TV show, including their most popular episode of all from way back in season 1, called Find Out How Much Money You Need to Retire. Season 6 is coming soon so you’ll want to subscribe so you can see how much better the fellas are on TV nowadays! You can also listen to this podcast on YouTube if that’s your thing, and you can see how excited our financial advisors are to be on camera answering common money questions. Click the link in the description of this episode in your podcast app to go to the show notes, where you’ll find those links to subscribe to our YouTube channels.

YMYW: Too Slow and Annoying

Joe: So we had this Chitham?

Andi: Chidam.

Joe: Chidam. He wrote in a comment. “Too slow and annoying voice.” Who’s slow? And who’s got the annoying voice?

Andi: Read on.

Joe: “I started listening to this with high hopes but the people talking are too slow and put you to sleep. There are unnecessary distractions talking about non-financial nonsense, repeating the same sentence multiple times, especially the lady in the podcast-“

Andi: I got called the lady!

Joe: -“the lady in the podcast.” What does that mean repeating the same sentence multiple-? I mean that’s me, I’m the idiot. Because I can’t read.

Andi: Maybe you’re the lady of the podcast.

Joe: I might be. He might think I’m the lady. Jo Ann, he’s probably thinking. “Artificially laughing.” Hahahahahaha!

Andi: Oh my gosh.

Joe: “It appears like they purposely drag each episode to make it longer. I’m unsubscribing. There are plenty of other podcasts which come to the point right away without dragging.” Well, I’m very sorry, Chidam.

Andi: The funny thing is in November he wrote a glowing review. Apparently after listening to it for a couple of months he decided he didn’t think that way anymore.

Joe: Yeah. I don’t know, I don’t think I come off slow- well maybe when you say too slow- maybe he’s thinking like me with my mental…? I talk fairly fast.

Andi: You do. But it takes you a little while to get your thoughts collected.

Joe: Because I’m slow. I’m special. Hey, if you guys got comments. Got complaints. I love them. Makes me strong. Then I go home and cry. Keep them coming. You give us those ratings. We can’t ask for them…

Andi: We can ask people to subscribe and we can ask people to share it.

Joe: Yes. Subscribe, share, write a comment.

Andi: Tell everybody else how much you think this podcast sucks. “This is awful. You should listen to it.”

Calculating Social Security, 1031 Exchange, and Deferred Compensation vs. Taxable Account

Joe: We got James from Arizona. We’ve been sitting on these e-mails for a while because James takes advantage of us by sending us hundreds of emails.

Andi: Well that means he’s a committed listener.

Joe: That is. “Hello, team YMYW. You had a recent request to do more than one podcast per year and I would like to-“

Andi: Per week, per week. Not per year.

Joe: That would be perfect if we just did one per year. “-one per week.” He would like to put his vote and that we do more.

Andi: Remember, Marcus was the one that suggested that we should do more. So apparently our regular listeners really want to hear a lot.

Joe: And some don’t because we go slow and we have annoying voices.

Andi: Exactly.

Joe: So whatever. So yeah James we’re thinking about it. I don’t know how far that thinking will go but we appreciate you listening and sending in some questions. He’s got 1, 2, 3 questions that I’m going to rifle through.

Andi: He’s got 4. There’s another one on the next page.

Joe: Got it. “When I receive my annual Social Security statement it tells me what my expected monthly benefit will be at age 62, 67 or full retirement age and age 70 as long as I keep earning the same salary. Is there an easy way to calculate my benefit if I were to stop working at 60 or 62 but not collect my benefits until age 67 or 70? Also does the estimated benefit they publish include estimated COLAs that will happen between now and then? If not is there a certain factor that your firm uses to estimate the future payout since you are looking at the future spending based on some inflation factor? Or do you just assume no COLA to be conservative? I’m working on my master spreadsheet to figure out my distribution strategy and that is one thing that is still not clear to me.”

Yeah there’s a lot of meat on the bone here. So let’s just start here. How they calculate the benefit is your 35 years of wages, top 35 years. If you have less than 35 years they’re going to put zeros in those years. So it’s just going to be an average of the 35 years. So they use an inflation factor of the years that you worked in 30 years ago and they put a present value on that to come up with the annual amount or monthly amount. I think on the Social Security statements and I will double-check this and correct myself later because I think I’m probably wrong but I think they only go to that on the Social Security statements they’re assuming- let’s say I’m 40 years old. I’m going to look at my Social Security statement and it’s going to show me the benefits at 62, my full retirement age, at age 70. And so when I look at that they’re going to assume that I’m making the same amount of money that I’m currently making now all the way up until age 60 was my understanding, not full retirement age. So if you did retire at 60 it’s going to give you a similar number. That’s going to look at 35 years. They’re going to average out the 35 years. If I don’t have 35 years and if I retire at 60 or 67 they’re still going to put zeros in those dollars anyway. But if I have my full 35 years by the age of 60 I think they might only go to age 60 but I’m probably 25% on that one. I’m just making it up as I go here for some reason I thought I read that but maybe I read it from someone that wrote something wrong. So the COLAs, no, on your Social Security statements they’re not putting in any type of cost of living adjustment on those estimated figures. So in most cases, it’s going to be higher if you have a full 35-year work history and you made roughly the same amount of money. If you don’t have a 35-year full work history and retire early let’s say at age 55 they’re going to put in zeros because they assume that you’re going to work at least until 60 or full retirement age. And so those will be zeros that average is going to be a lot lower. But if I worked my full 35 years and they average it out they’re not assuming a cost of living so your benefit is probably going to be higher once you do receive the benefit. How we look at cost of living adjustments, we use a 2% COLA. If you want to be a more conservative I would probably put 1% on average over Social Security. It’s been around a 2% COLA. Of course not every year, that’s an average. Some years it’s higher, some years it’s lower, some years it’s zero. As we look at the age wave and now this trust fund is going to be depleted. You might want to use a more conservative number and I think we are as a firm going to do that as well. Hopefully that answers your question to some degree.

OK number 2 question here. “So what is the process, the minimum required years to lease the current cabin and new cabin?” So looks like James has a cabin. He’s looking to sell the cabin and purchase a new cabin but he wants to sell the cabin using a 1031 exchange. That’s a tax-free exchange. It’s a like exchange. So he’s going to exchange one cabin that’s a rental into another cabin and he’s like what’s the current or required years to lease? I would want that two years on my tax return James. So let’s say you have your cabin you’re going to exchange it. You’re going to do a like-for-like exchange and purchase another rental property. That rental property- then you want to convert that into a second home. You want to make sure that you have rent shown on a tax return for at least two years minimum would be my recommendation or else it would be a sham. And then that 1031 would not go through upon audit you would say ‘no you didn’t really exchange this it wasn’t a like-for-like. You kind of worked the system.’ You would get penalized and fully taxed on whatever gains that you should have paid tax on. So James has a rental property that has an increased value and he doesn’t necessarily want to sell it outright and pay the tax. So he’s looking at a tax deferment of the overall gains. So you can use a 1031 exchange to say ‘I want to purchase this rental property. I’m just going exchange the basis into the new property.’ Please seek your tax advisor on this. We don’t give tax advice. We don’t give advice at all on this show. Just FYI. This is not advice. This is just fodder.

And then finally, “Would you suggest aggressive contributions to my deferred compensation plan versus aggressive contributions to my taxable account?” Let’s break this thing down. So “I’m contributing the max amount that could be matched in the deferred account. But since it will be paid as ordinary income over 5 years when I leave the company and retire I’m thinking it might be better to be more aggressive in a taxable account instead of the extra in my deferred comp plan. I am disciplined to make automatic weekly investments in a taxable account and I’m already funding my Roth 401(k) to the full match and doing the full backdoor Roth for my wife and I. I’m also planning to max out my current tax brackets to make in-service Roth 401(K) conversions at the end of each year until the current tax rates expire. I just don’t know if I’m missing something on the deferred comp strategy. Thoughts.” So deferred comp- sounds like James is an executive of some firm and they have deferred compensation plans and what that means is that you can then defer some sort of your compensation. So you get paid X amount of dollars you can defer some of that. The caveat is you have to elect how you’re going to receive that deferred compensation back out to you before you elect what you want to defer. So let’s say I want to defer $50,000 from taxes this year. So I would have to usually elect that the previous year to do so but then I also need to put on there when I want to receive it. Do I want to receive a lump sum in year X? Do I want to receive a 10 year payment of that? So if it’s $50,000 maybe it’s a 5-year payment of $10,000 back to me.

Andi: So there are really some forward-looking projections you’re making.

Joe: Exactly. And it’s also an asset of the company. So if you put a lot of money in the deferred comp plan, it’s on the company’s balance sheet. So if the company goes under, bankrupt, you know that money is subject to that risk. So just kind of FYI there. My rule of thumb James is that you want to fully fund the 401(k) plan up to the match. Then from there you want to fully fund Roth IRAs. Sounds like you’re doing that. So you’re fully funding the 4019K) up to the match, you’re funding IRAs and then you’re converting those into Roth IRAs. I didn’t see you though, it just said you’re doing it for your wife.

Andi: No, it says “my wife and I-“

Joe: Oh Okay. So then I would go back to the 401(K) and make sure that you’re maxing that out. If that is fully maxed, then I would probably want more money into a taxable account. If you don’t have money in a brokerage or taxable account I would start there because the deferred comp is only deferring your comp to a later date that’s going to be taxed at ordinary income rates. And if you already are a disciplined saver that has a lot of money already in retirement accounts you might be just adding a little bit more tax burden in long term and especially if tax rates are due to change and potentially go up. You might be saving a little bit of tax now but you might be paying in a higher tax rate later. So you want to look at that. How much money do you currently have in all of these different plans? How much money do you have in a Roth? Versus a regular 401(k)? Versus a brokerage account? That’s going to add to that overall decision to see kind of where the balance lies. So I’m a big believer in more diversification within all of the accounts. But if you’re in the 37% tax bracket you’re making $1,000,000 a year then it might make sense to utilize the deferred comp plan and get yourself in a lower tax bracket. So it all really depends on those types of factors. So really appreciate your listening to the show, James. You know you’re always welcome to write in. We’ll answer them right here even if it takes me a couple of months to get to them. That’s it for us today, appreciate you hanging out, we’ll see you again next week. The show is called Your Money, Your Weatlh®.

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That’s the end of the financial content, so if we’re too slow and annoying for you, feel free to bail now, but if you enjoy the non-financial derails and banter, stick around to the very end of the episode. Your Money, Your Wealth® is presented by Pure Financial Advisors. Sign up for your free financial assessment.

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