Should you invest in a real estate investment trust (REIT)? What about a fixed indexed annuity or structured notes? What can be done about an indexed universal life insurance plan purchased by an employer to replace a defined benefit plan? Plus, understanding qualified small business stock gain exclusion. Joe and Big Al also discuss the value of hiring a CERTIFIED FINANCIAL PLANNER™. Are they worth it?

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Show Notes

(00:52) Is a CERTIFIED FINANCIAL PLANNER™ Worth Hiring? (Simon, Plymouth, MA)
(10:26) Should I Put My Retirement Nest Egg in a Real Estate Investment Trust (REIT)? (Richard)
(22:03) Fixed Indexed Annuity and Structured Notes Second Opinion (Phil, AL)
(32:24) Employer’s Indexed Universal Life Insurance Plan Replaced Defined Benefit Plan. What Can I Do? (PJ, Honolulu, HI)
(42:51) Qualified Small Business Stock Gain Exclusion (Mick, Davis, CA)

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Transcription

Today on Your Money, Your Wealth® podcast #315, should Richard put his retirement savings in a real estate investment trust or REIT? Phil in Alabama is looking for a second opinion on the fixed indexed annuity or structured notes recommended by his prospective financial advisor, PJ in Honolulu wants to know if there is anything he can do about the indexed universal life insurance plan that his employer purchased as a replacement for a defined benefit plan, and Mick in Davis California wants to know about the qualified small business stock gain exclusion. But let’s set the stage first by answering the question, is it worth it to hire a CERTIFIED FINANCIAL PLANNER™? I’m producer Andi Last, and here’s a CFP® now with what will clearly be a completely and totally unbiased answer to that question – the hosts of Your Money, Your Wealth®, Joe Anderson, CFP®, and Big Al Clopine, CPA.

Is a CERTIFIED FINANCIAL PLANNER™ Worth Hiring?

Joe: Simon writes in from Plymouth, Massachusetts. “Hey there, Joe and Big Al. I discovered your YouTube channel about 6 months ago and learned so much from you guys. Just can’t say enough about your show and how much I appreciate all your great free advice. I really love the humor as well. You guys crack me up.” Simon loves the show, Al.

Al: Yeah.

Joe: He loves it.

Al: I’m picturing that, Simon in Plymouth.

Joe: Plymouth Rock.

Al: Yeah, watching our show.

Joe: Little chilly there, too.

Al: Well, that’s why he’s been he’s been- he’s probably binge-watching right now.

Joe: Is it bin watching? Or binge?

Al: Binge.

Joe: Got it.

Al: Binge binge.

Joe: “I’m 55 years old, married, my wife, 59. My kids are all out of college. No debt, other than a mortgage, which I’ll have paid off in 6 years. I’m starting to look seriously at retirement age, 65, wife, 69. I have a 401(k) with about $730,000 in it, well-diversified with mutual funds and no other investment buckets created yet. I know I can hear you now. Roth conversion.”

Andi: He does know this show.

Al: I was just going to say that.

Joe: Yeah, might as well.

Al: Of course.

Joe: All right, next question. “I plan on doing that slowly over the next 4 years while tax rates are low. Cash in the bank, about $50,000. Company pension projected to be $55,000 a year. Social Security about $77,000 between my wife and I.” Wow, that’s healthy.

Al: Pretty good.

Joe: Healthy. “My question, I’ve never worked with a CFP® before and I’m trying to decide if it’s worth paying 1% or if I should stay with my 401(k) options. He’s got 8.5% average over the last 10 years.” Wow.

Al: Pretty good.

Joe: Simon. Simon says. “Do the Roth conversion myself and be happy or working with an advisor? Also, how much do you think I should keep in the 401(k)? How much in the Roth IRA? Thanks for the advice. I wish you had a branch office out here in Boston.” What do you think? Is the CFP® worth it? Well, that’s a pretty biased – I am a CERTIFIED FINANCIAL PLANNER™. We manage $3 billion of client assets and we do charge a percentage of fee on those assets. So am I worth it? No, don’t do it. The thing’s a sham.

Al: Full disclosure.

Joe: Yes and no. I mean, it depends on what you want to do. I think if you have the knowledge, the time and the wherewithal to not blow yourself up, then absolutely. But I think, does an advisor add value? Without question. I look at a couple of different things. I like to work out with the trainer. So do you think I could achieve my weight loss or weight gain or whatever goals faster, quicker, more efficient with a trainer than me watching a YouTube video? With these two guys that are very hilarious. And they teach me how to do some push ups and pull ups and things like that?

Al: There’s something to be said for being accountable to somebody.

Joe: Now he’s looking at maybe some sophisticated tax planning because he’s asking the right questions, but he just doesn’t know how much. He’s like, I got $750,000. I’m going to have a large fixed income of Social Security and pension. I’m going to retire looking- He’s 59, so he wants to retire in 6 years. So he’s going to have over probably $1,000,000 in retirement accounts depending on what he’s funding it. I don’t know what he’s spending. Probably not a ton. I would imagine his pension and Social Security will cover a lot of his living expenses.

Al: Yeah, very well could be.

Joe: So then he’s like, well, how much money should I convert? Well, then it’s not like just go to the top of the bracket. You probably want to do a little bit of cash flow planning. So here’s what I would do if I were you, Simon. Since I’m a CERTIFIED FINANCIAL PLANNER™.

Al: All right, good.

Joe: I would create a spreadsheet. You take a look at your income coming in, your expenses going out. You would want to make sure that you have the proper taxes that you’re paying on the income from now until your retirement and then from retirement till end of life. Then you could see what tax bracket that you are in today, where you’re going to be in the future. Then you can run assumptions on inflation. You would want to run assumptions on growth rates on the overall portfolio. I would not run 8.5% because the last 10 years is probably one of the biggest bull markets that we’ve ever seen. And if you only did 8.5%, what was your portfolio like? If you were 100% equities, well maybe you have to relook at the overall portfolio. But if you were 50% stocks, 50% bonds at 8.5%, that’s a hell of a good job. So there’s a lot more things that kind of have to go- involved here.

Al: Yeah, I agree with that. Morningstar did a study to try to figure out how much value does an advisor add? And they came up with 3%. And that’s based upon a bunch of assumptions that may or may not apply to the average person. But I think the single biggest factor in that 3% was that people have a tendency to buy and sell emotionally, buy and sell at the wrong times. And it’s kind of like a trainer. A trainer forces you to come to the gym every Wednesday or twice a week or three times a week. A financial planner kind of forces you to stay in your seat and not overreact when markets are too high or too low. Because when they’re too high, we tend to want to buy more. In other words, we’re buying high. And when they go down, we tend to get fearful. We want to sell, which is actually when we should be buying. So and that’s probably the biggest value add. But if you are asking a question- and then there’s tax loss harvesting and all kinds of other things that they can add, certainly what you just said Joe, a good financial planner will do cash flow planning with you not only now, but through the rest of your life. But if you’re asking the question, is it worth paying 1% because the CFP® is going to have a better investment strategy? Well, maybe so. Maybe not. It depends upon your knowledge. If you’re pretty knowledgeable, then no, you’re not going to find advisors are going to make you an extra percent. I mean, they might say they will, in my opinion.

Joe: No, I agree with that. I think if they’re just managing the overall assets and not doing anything else. Yeah. Simon’s in kind of a really good position. We don’t know how much he’s spending. If we just knew that nugget, I think we could probably- if he doesn’t need the money, let’s say. His fixed income is going to be fine. He could basically blow up his investments. So his value add for an advisor is probably not the overall portfolio, as long as it’s globally diversified and low-cost funds. It’s looking at more of an income tax strategy or wealth transfer play, protecting it in case he passes. And what’s his wife going to do? So there’s all different things that you would want to look at that an advisor value add has.

Al: And I would also say to Simon and anybody, nowadays with Zoom, your advisor doesn’t necessarily have to be in your same town. And that-

Joe: Sales pitch.

Al: – that’s not a pitch for me. That’s actually that’s a pitch for anybody.

Joe: Sales pitch.

Al: Because I think that’s true now. I don’t think it matters as much as it used to.

Joe: Got it.

Andi: I was waiting for that.

Joe: You could call Al. 1-800-BigAl. One last thing too is what- and I also have a golf coach, professional that I go to. And I think if I never had a lesson, I would probably look at Rory McIlroy and say, OK, copy that and I’ll go to the range. And I would be coming over the top and slicing the hell out of the ball. And I would continue to practice that movement over and over and over again and doing the wrong thing. And I’m just getting worse. Without direction to say, you know what, hey, maybe you should do this or that or tweak this or that. I mean, that adds value.

Al: It does.

Joe: If your advisor’s not adding value, then don’t pay. But a really good advisor shouldn’t cost you anything. You should be making more dollars or having more value in your overall wealth because you have a team of professionals working for you.

Al: Yeah, and I think right and going back to my first point, I think the value of the advisor is all the intangibles. It’s not that they’re going to earn you an extra half a percent. That’s just my opinion.

Joe: All right. Thanks for the question, Simon.

Should you do a Roth conversion, and if so, exactly how much? How should you be invested, given your risk tolerance and your retirement goals? And how do you reach those goals from where you are right now? Plus all those intangibles. These are all reasons to contact Joe and Big Al’s team of CFPs at Pure Financial Advisors for a financial assessment. The number to call is actually 888-994-6257, or go to YourMoneyYourWealth.com and click Get an Assessment to sign up for a video conference call with a CERTIFIED FINANCIAL PLANNER™ who is a fee-only fiduciary, which means they do not make a commission off of selling products, like you’ll hear about in these next couple of questions, and they are legally bound to do what is in their clients’ best financial interest. You’ll come away with suggestions for your specific financial situation, you’ll know whether a CFP® is worth it for you, and it doesn’t cost anything and there is no obligation. Visit YourMoneyYourWealth.com and click Get an Assessment.

Should I Put My Retirement Nest Egg in a Real Estate Investment Trust (REIT)?

Joe: Richard writes in, Alan. “Hey Big Al, Little Joe and Awesome Andi.”

Andi: Thanks, Richard.

Joe: Yeah, He probably goes by Dick.

Al: A lot of Richards do.

Joe: “You guys seem solid and know what you’re doing. I’m single, almost 65, drive a ’92 Honda Accord with 265,000 miles on it.” Man. “It’s going strong. My portfolio, 70% aggressive and 30% conservative, I want to begin to rebalance it to a 50/50 this year, 50% stocks, 50% bonds. So I’ve been looking at some income type investment like dividend ETFs since bonds are like paying little right now. Someone suggests investing in a real estate investment trust that he owned. He said his company buys land, then flips it to developers at a profit.” Interesting. So raw land.

Al: Sure.

Joe: “He said investors are guaranteed an annual 10% dividend paid once per year.” Sounds pretty to me.

Al: Sounds- on paper. I like it.

Joe: 10% guaranteed. “Almost too good to be true.”

Andi: Almost.

Joe: Almost.

Al: Yes.

Joe: “I asked what happens when the current bubble burst and price drop? He didn’t think it was a problem because they have lots of cash so they could buy cheaper land and still flip it, especially in California where there seems to be a housing shortage. I mean, 10% return forever is a pretty good return. I mean, let’s put the whole retirement nest egg in there. But I know when something sounds too good to be true, it probably is. I’ve also heard of other REITs offering a guaranteed return. So what do you think about REITs? Do they really guaranteed that good of a return? Are they safe? What are the risks that I may be unaware of since I know nothing about them? Thank you for your years of dispensing reliable, useful financial information and make it easier to understand.” So Richard’s been listening to us for years, and then writes this question.

Al: Yes, right. So first of all, Richard, it’s not almost too good to be true. It is too good to be true. Your-

Joe: So let’s break- let’s break this down.

Al: Your suspicion is correct.

Joe: REIT, Real Estate Investment Trust. And what- there’s all sorts of different sizes, flavors on REIT. If you want real estate in your overall portfolio and maybe you don’t necessarily want to go out and buy a shopping center or maybe an apartment building. Or any other type of real estate. So there’s companies that package millions and millions of millions of dollars worth of real estate. Hundreds of millions.

Al: So they go out and buy the real estate and then they set it up in a real estate investment trust, which is like a stock. Right, that you can buy. Some are publicly traded and some are not. And so that’s your first thing is can you get in and out of it easily, which is what we recommend. A lot of them are closed ended to where you cannot get out of it. So you’re kind of stuck in that investment for whatever the term is of the investment, typically 5 years, 7 years, 10 years, maybe longer.

Joe: And so- this probably sounds like a non-traded REIT?

Al: I’m guessing. Because it’s a company that’s flipping property. So I’ll tell you what, if you- if this real estate investment trust is adept at finding cheaper properties, maybe re-zoning, maybe selling them to developers, that’s fantastic. You can make a lot of money doing that. You can also lose a lot of money doing that. Why? Because properties go down and market sometimes.

Joe: Things change.

Al: I mean, I can tell you in 1992 properties went way down, I can tell you 2007, 2008, properties went even further down. Will it happen again? I think so, at some point. And this is where people get into trouble that, I mean yeah they maybe they end up, they’ve made a lot of good purchases right now, they can resell them because real estate’s going up. What happens if real estate flattens out? Or starts going down? Then they have all this inventory that they can’t sell and they don’t have enough resources. And this is the kind of investment where you can lose everything. It’s that 10% return – it’s only as good as the underlying investment is producing. And as long as real estate- as long as they’re adept at buying and re-zoning and selling and property values keep going up, then that’s fantastic. But we know that markets change.

Joe: So here’s the deal. I think his friend is also confused because I bet you his buddy was in this investment for the last couple of years. And guess what return he has received.

Al: Yes, 10%.

Joe: 10%.

Al: I’m not surprised, properties have gone through the roof the last few years.

Joe: But I almost could guarantee you this, that it’s a non-traded REIT. If it’s a traded REIT, like Alan said- so they’re packaging this real estate and they put it in like a mutual fund or an exchange traded fund.

Al: Yeah, it’s like a security.

Joe: So you could buy and sell the real estate in and out, daily if you wanted to.

Al: Just like buying a stock, like Tesla or Google, you buy this publicly traded real estate investment trust. That’s a lot safer, right? Because-

Joe: There’s more transparency.

Al: – more transparency because you can get in and out of it. And it’s registered with ____ and all that kind of stuff.

Joe: Non-traded REITs, however, are a little bit different. They’re packaged a little bit different because they’re not traded. There’s no ticker symbol. You can’t really- the transparency is lacking. And so when they’re giving a 10% rate of return, you’re going to see on your balance- on your statement. The REITcompany is going to give you here’s the market value. You put it in $100,000. That statement is going to show $100,000 and whatever coupon that they’re throwing out. In this case, 10% or $10,000 per year that Richard would receive, He will continue to get that 10% until the thing blows up. Because then they’ll have to recalculate. This is what they did- So when real estate investment trust blew up in 2007 and 2008, it still showed a balance of $100,000 that people thought they didn’t lose any money. Untill the REITs companies said we have to redo our books. Let’s really take a look at what the value is of all this. And you couldn’t sell these real estate investment trusts. It was like pennies on the dollar. The liquidity was almost none. No one wanted to buy the paper that it was written on. And so even though they got that 10% per year, but guess what it was? It was return of principal. It wasn’t a true rate of return because you don’t really know what the heck is going on within the REIT because it’s non- traded. There’s very little transparency.

Al: Not only is it can be- I’m not saying with this one, but what can happen is you said things go south a little bit and then the real estate investment trust tries to keep paying the 10%. You know how they do that, with new investor money-

Joe: Sure.

Al: – that comes in.

Andi: Aren’t there also commissions on the sale of REITs?

Joe: There’s costs and commissions on everything.

Al: And that’s- and if- I’m not saying this entity would do that, but this is how pyramid schemes start, it’s not necessarily with the worst of intentions. It’s just what we’ve- everyone’s expecting a 10% rate of return. We don’t have it right now, but we got some new money in. And let’s just use that and then the whole thing blows up.

Joe: So we love real estate as an investment. We love real estate investment trust. We- our clients own real estate investment trusts.

Al: And I own real estate directly.

Joe: I own real estate directly as well.

Al: Love real estate.

Joe: And so but when you start hearing things of a guarantee of 10%, there is no guarantee. Can this reproduce a 10% annual return for the next 40 years? Sure. We don’t know. But if they’re guaranteeing it, you’ve got to start thinking, all right, why would they guarantee you a 10% rate of return? Why would they? There’s no such thing as a guarantee of 10%. If they could give you- So I’m thinking, all right, why on earth would anyone guarantee 10%? You know what I mean? So it’s like, Alan, I need your capital, so why don’t you invest in my real estate and I’m going to guarantee you 10% on your money. Why on earth what I want to pay that high of a guarantee, you know what I mean? When I can go to the bank and get a loan, If I really needed capital, wouldn’t I just go to the bank and get a loan at almost 2%. Or 3%.

Al: Yeah, even 5%.

Joe: Why would I guarantee you 10% if I can just- What’s the basis? Is it just for me to get capital so I can continue to build? Because I’m still going to take my money. So why wouldn’t I just go to the banks and ask for cash versus like a private investor?

Al: And the answer is because the banks won’t loan on that because it’s too risky.

Joe: It’s too risky. They’re saying, yeah, that’s leverage, that’s-

Al: We’re not loaning on this. You’re saying based upon your skill, you can keep producing this rate of return? No, they’re not going to loan on this. So that’s why you go to the private market.

Joe: Right. And then you have a sales force of individuals that are saying, hey, look at this. And they might have thrown out the word guarantee. I guarantee on every piece of paper that they have. But there’s no guarantee there.

Al: Of course not.

Joe: But the salesperson is probably saying that or touting that or maybe he got confused why his buddy is saying, hey, you know what, I’m getting the 10% rate of return. It’s guaranteed because these guys are so good. You know what? If the market crashes, they’ll just buy more on the cheap. And be able to develop and even make more money.

Al: Now, I have heard of some investments that have a preferred return, which if you don’t get that return, it accrues and floats to the next year. But again, that’s only as good as the assets inside that investment. And if they fail, your preferred return fails.

Joe: So I guess the moral of the story, Richard, is don’t put all your eggs in one basket.

Al: Agreed.

Joe: And I think go with your gut. If it sounds too good to be true, it probably is.

Al: And I would tend to agree with you. I think you just have to look at the underlying investment. And so what- it’s the real estate. And like I said, if they’re talented people and if real estate keeps going up, you’ve got no problem. But real estate doesn’t keep going up. We already know that.

Joe: Exactly. Real estate is a very volatile asset class, just like any other investment that you invest in, besides cash, CDs and TBills.

Al: It doesn’t have daily volatility like the stock market, but it does go down. And that’s how people lose a lot of money. You can-

Joe: Look at market values of real estate just today. Now people are getting reports, right? Like with Zillow. So with my home, I think every month. Here’s the market update of your home. Ten years ago, people were doing this crap. You’re like, oh, my gosh, my house just went up $50,000 over the past month. Then you get my house just went down $100,000 this month.

Al: Then you stop looking at it.

Joe: Oh my God. Should we sell it? What do we do? So people are kind of not necessarily living in their homes for 40 years as they used to, because they’re looking at more as an asset class. All right. Anything else you want to say on that Bud?

Al: No, that’s good.

Fixed Indexed Annuity and Structured Notes Second Opinion

Joe: “Hi, Andi, Joe and Al, this is Phil from Alabama. I look forward to the weekly podcast, and I really appreciate the great information and insights. Since you guys are the ultimate authority, I wanted to get your take on some recommendations I recently received with meeting with a prospective advisor. Background, 69 this year, not married and I’ve not filed Social Security benefits, my estimated benefit at 70 is $40,000. No pension, but I have a portfolio of about $1,800,000. With about 55% stock, 40% bond allocation, plus about $300,000 in home equity, I won’t need more than 2% or 3% yearly from the portfolio.”

Al: So everything sounds good so far.

Joe: So let’s call it 2.5%- 2.5% and $1,800,000 is-

Al: At age 69- well call it $45,000. $40,000.

Joe: $40,000. So he’s going to spend about $85,000, $90,000. Pretty modest. That’s good.

Al: Yep. All good.

Joe: “So the advisor suggested reducing my stock allocation to 35%. And using 35% of the portfolio to purchase a fixed indexed annuity.” That sounds like a wonderful recommendation.

Al: Yep.

Joe: “15% would be used to purchase banknotes and 15% to retain in cash. He said he would charge less than 1% to manage as he won’t charge a management fee on the fixed indexed annuity.”

Al: Only on the cash.

Joe: Well, he’s so- wow.

Andi/Joe: How kind.

Al: That’s because they got the commission upfront.

Joe: Yes, sir. “I’m not familiar with banknotes. I believe they may also be called structured notes. I haven’t heard you guys discuss these. I did see an article in Morningstar that was pretty negative. He said he recommends them as a way to get about 3% in today’s low interest rate environment. The only risk, he says, is that they’re callable after 6 months. Any thoughts from your side would be greatly appreciated. By the way, no pets and I drive a Honda CRV.” This is the second CRV.

Al: It is. Great cars.

Joe: People love the CRVs that listen to Your Money, Your Wealth®. “Many thanks.” OK, Phil, from Alabama. All right, let’s see. So what do you think of this advice, Al?

Al: I liked everything until he talked to the advisor. Just stick with what you’re doing already.

Joe: Exactly. Don’t change a thing.

Al: You are perfect, Phil.

Joe: Do not change a thing, Phil.

Al: I mean, 55/45 stock/bond allocation, that sounds fantastic. You got equity. You got plenty of money. You’re living off way less than a 4% distribution.

Joe: You’re 70 years old. You could probably go 5%-

Al: You could go 5% if you wanted to, you could spend more. And don’t worry about all this other stuff.

Joe: Fixed indexed annuity, garbage, super garbage, awful, worst investment on the planet. Be careful YMYW listeners with these because we are living in a fairly low interest rate environment. And so-

Al: And that’s how they sell them.

Joe: Yes, some advisors are using them as a bond alternative and saying, well, we could get a little bit- we could get you 4% or 5% of these fixed indexed annuities versus what the bond is paying 2% or less, depending on what type of bonds that you’re getting into. You are locked up for a very long time. The pitch is that you could get stock market-like returns with no downside risk. That is completely BS because you’re not getting stock market-like returns. I don’t even know what stock market-like is.

Al: It’s not- Yeah, it’s not like- it’s something different.

Joe: It’s different. You could get different from stock market returns. Because what they’re doing is they’re buying a bond or they have the general account within the overall insurance company and they’re buying call options on a particular index such as the S&P 500, because they’re buying an option, which is not the security, it’s a derivative of- so it’s- I’ve already gone through this 1,000,000 times. But anyway, your money is locked up for a long time. It’s highly commissioned product. So he wants to put in about $650,000. That’d be a nice little pop for him, huh?

Al: Right? Sure would.

Joe: Could be a pretty high commission. He’s not going to charge him 1% on it now because he’s going to make about $80,000 in a commission.

Al: He’s gonna make a ton upfront.

Joe: So, yeah, the commissions all upfront, if you ever want to get out of it, very little liquidity. He says, well, you’re 70 years old, you get 10% liquidity. Well, yeah, if you ever want to get completely out of the product, you probably have to wait 10 years. If it’s a 10-year product, it’s a10% commission at $650,000, you can do the math. At $65,000 going to the great advisor there. Structured notes is another really good, terrible investment.

Al: Remember we looked into those 10 years ago?

Joe: Probably.

Al: – ish? And I- no one’s talked about them which is why we haven’t. I just remembered they were kind of like indexed annuities.

Joe: Indexed annuities.

Al: Yeah. That’s what they were.

Joe: Yeah. You got- oh remember the days of everyone would need income, so you got the MLPs, you got the structured notes, you got the BDCs and you got the equity-indexed annuities. Those were the top four. And then if you ever ran into an advisor that was selling those, that’s when you run away, in my opinion. He could be a great guy.

Al: Could be.

Joe: But yeah. He’s not going to charge you 1% on that. No way. Well, what do you make on the indexed annuity? Well, no, you don’t pay me anything on that. The insurance company pays me. Wow.

Al: That’s a good deal.

Joe: So I’m only going to pay less than 1% on the money that you manage, which is only 35% of the $1,800,000. So, wow, that’s-

Al: Free investment.

Joe: $6000 a year. And you divide that into $1,800,000. I’m- wow. I’m only paying like 30 basis points. See it’s all smoke and mirrors. The structure notes are very similar to the equity-indexed annuity. So depending on- there are all sorts of different types and flavors on this. So it’s different, but it’s the same concept. If they can get 3%, you just kind of think expected return and risk are related.

Al: Sure.

Joe: And if you’re getting a higher expected return and they’re saying that there’s no risk, well, the risk is the lack of liquidity, especially with the indexed annuity, you have zero liquidity.

Al: Now you can get 10% per year.

Joe: Sure, on what, the real estate-

Al: Well no, I mean on the indexed annuity, typically.

Joe: A 10% per year?

Al: No, not a return. You can take out 10% of your principal.

Joe: Oh yeah, yeah, yeah, yeah, liquidity.

Al: Liquidity.

Joe: Yes. Yes. You could take out 10% out of the-

Al: Yes.

Joe: Got it. Yeah.

Al: Typically, you’re locked up for 7 years, 10 years, 12. We saw 17 one time I remember. Have you seen longer than 17 years lockup?

Joe: 18.

Al:18. OK.

Joe: And it was like a 21% commission.

Al: Yeah, right.

Joe: Because they sold a ton of them.

Al: And I remember the person that would that bought that was like what, 75? It was completely inappropriate.

Joe: And illegal.

Al: Anyway, a fee-only advisor would never recommend this-

Joe: – any of this. A true fiduciary that’s really looking out for Phil’s best interest rate is not going to recommend any of these different products. And that’s not saying that this advisor’s a bad guy or bad gal. He might or she might be uneducated. You know what I mean? You work with some of these firms and they’re like you get a wholesaler that’s really slick and smart.

Al: They make it sound good, don’t they?

Joe: They’re like, oh, look at this product. You’ve got to get your clients into this product. The hierarchy doesn’t necessarily come from the advisors. It comes from the insurance companies. It’s like we got to sell this stuff, so let’s package it up. And this is the sales pitch. And so you get the sales force to go out and talk to all these independent advisors and the independent advisor’s like, oh, wow, that does sound pretty good. And then they come up with their sales pitch to the overall client. So if they can’t really tell you a lot more than what they’re saying, well, I like to use this because this gets me a little bit higher than the bond yield. To the average person, they’ll say, oh ok well but why does it do that? Well, the only real risk is with these structured notes, you might have early liquidity. Ok. And I’m not going to charge you a fee on that. So it might be a lack of information or education from the advisor or the person just is a commission hound and that’s his business model. So Phil, don’t do anything.

Al: Yeah. Stick with what you got.

Joe: Stick with what you’ve got.

If you need a second opinion on an investment being pitched at you, before you hand over your money, click the link in the description of today’s episode in your podcast app to go to the show notes, then hit the “Ask Joe and Al On Air” banner and send us your situation. Or your money questions, comments, original songs, whatever. There in today’s podcast show notes at YourMoneyYourWealth.com you’ll also find the transcript for today’s episode – you know we post transcripts of every episode, right? – and free financial resources like the Retirement Income Strategies Guide and the Retirement Readiness Guide, both newly updated for 2021. Then share like crazy to spread the financial knowledge!

Employer’s Indexed Universal Life Insurance Plan Replaced Defined Benefit Plan. What Can I Do?

Joe: Aloha. This is your boy?

Al: Yeah, from Honolulu, like it.

Joe: “Joe and Big Al, my name is PJ, live in Honolulu. Just recently discovered your show which has given me an outstanding education on indexed universal life.” Just found the show. I wonder how he found it.

Al: Good question.

Joe: More questions we have. These guys have a lot of questions for us.

Andi: How did you find the show?

Joe: How did you find the show? What- I mean, all of a sudden it’s just like, you know what? I just heard of you guys, like last week-

Al: It just popped up.

Joe: And I’ve been binge listening for the last-

Al: – for a week.

Joe: Yeah. And then I got totally sick of it. I asked the question, it didn’t get answered in 3 months.

Al: I don’t like it.

Joe: “Here’s my problem. About 5 years ago, my employer purchased a IUL, indexed universal life, policies as a group benefit for many of the highly compensated employees. There was no underwriting. The policy just showed up in my mailbox one day. The IUL was purchased at the same time my employer completely stopped our defined benefit plan. So this IUL policy was intended to replace that. I now know was good for the balance sheet, but not so good for ours, as it shifted any risk from the company side to the employees. I was studying from my original policy illustration the other day, which shows an unrealistic steady 6.51% annual return. So far, the policy has earned more like 2% and is on track to implode once the cost of my annual renewable term rises. I contracted the insurance sales broker to ask him questions about the unrealistic policy illustrations. At first she was very pleasant and helpful.”

Andi: Imagine that.

Joe: “As my questions became more sophisticated about the product and the highly likelihood that this policy’s cash value was eventually tanking, she stopped returning my calls and emails. Radio silence. I’m now at the point that I set a meeting with our H.R. executive to demonstrate how our policies are unrealistically illustrated and likely to lapse. I’m hoping I can make progress there. In the meantime, I have two questions for you.” So this is interesting. My buddy there, Dante, that still emails me, well what do you think? Should I do it? Should I not do it?

Al: Didn’t you answer that already?

Joe: I was like, dude, no, don’t put your- If it was me, I would not put money in it. But I’m not- you’re not me. So but this is what I was asking him about, because there are some benefits that these small employers do. So they’re- he’s highly compensated. They had a defined benefit plan. So he didn’t do a 401(k plan or if he did a 401(k) plan, it wasn’t a safe harbor plan. Which is weird. He did a DB plan, so must have-

Al: Well, defined benefit. Yeah. So the defined benefit plan just got too expensive. So they went to this instead.

Joe: Exactly. It was like, why didn’t he just go to a 401(k) plan?

Al: Well, that’s what I was thinking. Why wouldn’t you do a safe harbor 401(k)? Which- maximum 4% match.

Joe: Because I guarantee his advisor now is an insurance broker. Does he remind you of someone?

Al: Yes.

Joe: So anyway. Right, go ahead. So with this, it’s like the defined benefit plan is fully funded by the employer, right? So it helps the employer reduce their tax liability. Because if they have some employees, they can fully fund themselves, usually how they’re set up. This sounds a little fishy to me. Might be one of these old carved out plans where it really helps the owner and maybe a few others to shelter a ton of money for tax purposes and have the money grow tax deferred. And then when they have it for retirement, then of course, they pay taxes on it. But PJ’s stating here he’s like they switched the defined benefit plan because he didn’t want to fund all the employees anymore. And so then they came up with this other plan. It was an IUL policy. Now I have a life insurance contract that he’s contributing to me and I didn’t go through any underwriting. And so now I’m stuck with this. Is this- what the hell is it? So his first question is, “is there anything I can do inside this policy to save it? My company plans to contribute $20,000 a year- $19,000 dollars a year till age 65. I asked if I could opt out, just take the $19,000 as wages, but the answer was no. I contacted the insurance company to make the death benefit level, but was told that the policy would fall under the MEC regs, it was not allowed at this time. I’m thinking I should change the policy from an index policy to a fixed one and then change the death benefit to level at age 65 when I retire. Is there anything else I’m missing? Is there a way to reduce the death benefit at a certain age to completely stop paying the annual renewable term altogether?”

Al: These are good questions.

Andi: I’m going to say PJ sounds very informed.

Joe: Yeah, but not enough. I need to look at what how this thing was set up and really what kind of plan this is. Because the company is fully funding 100% of this. You’ve got what 12b, 12 1i ______

Al: Oh, yeah, and yeah, 412i?

Joe: 412i.

Al: I think so.

Joe: Yes. I got to see if this is under Section 412i.

Al: ___ wasn’t very good.

Joe: Yes. Because it’s another form of retirement account that they’re using, whole life or universal life insurance to fund it. So that the employer is funding it.

Al: So I guess so the answer is you’ve got to look at the policy and see what’s available.

Joe: Who knows? Because he’s got very little control. He’s not the insured. He’s not the owner. So he’s got a pool of money within the overall policy and the company is contributing. So he’s trying to say, I’m looking at this thing and the illustration is whack- is that the cost of insurance. And so there’s a term policy, that is renewable, that goes up-

Al: Sure. As you get older.

Joe: – as you get older, the cost of insurance. So he’s like I can see the cost and everything else within this policy is going to eat up all of my cash value. But the illustration that is run is at 6%. But he’s like, you know what? This thing is growing half that. And most of the premium is now not necessarily growing, but going to fees and the cost of insurance. So he doesn’t like the index because it has a 0% floor versus just a straight fixed rate of 2%. So the index PJ, will over the long term, will give you a higher expected return just because it’ll probably pay you more than 2%, but not a lot more than 2%.

Al: And he says it’s been 2% to 3%, which sounds about right.

Joe: You’re right. So I’d much rather get 3% than 2%. And if I’m going to have this until age 65, I’m not sure how old PJ is, but- “so assuming I could persuade our H.R. execs that this IUL policy is junk and should be scrapped, is there any other benefit option I can suggest in its place that could be specifically designed to take the place of a defined benefit option? Thanks.”

Al: Yeah, I think a safe harbor 401(k) would have been a better choice for the company.

Joe: Sure. Unless they have one. And then this is just another ________ executive plan that the owner wanted to do to shelter more money because he’s a highly compensated employee. He’s like I’m going to put PJ on this thing too. So maybe the owner is putting hundreds of thousands into this thing. If he’s giving PJ $20,000 in the overall policy.

Al: Wouldn’t it be better to do- the company, to do a deferred comp plan, non-qualified deferred comp plan, give the executives bonuses so they could fund it through their salary? I mean, that would be a lot cleaner.

Joe: It would be. I’m not an insurance expert. If we got some old crotchety insurance guy, they love these types of plans.

Al: Well, let’s say PJ went to age 65 and assuming there was still a cash value, couldn’t he just cash it out at that point?

Joe: Sure. It’s free money.

Al: So just do that. I mean, better than nothing, right?

Joe: Right, it’s free money. You’re getting $20,000 a year. And I get that he wants to maximize the free money that he can. He’s like just pay me out as wages- don’t ____ this crap. I would like to learn a little bit more about this policy. And so maybe PJ can send me some more stuff and we could do, I don’t know, a little examination there to figure out- I don’t know- I’m intrigued. It’s been a while since I’ve seen, you know, these companies- because-

Al: Yeah, you don’t see this very much anymore.

Joe: Not anymore. Because the IRS shut a lot of these things down.

Al: They didn’t like it.

Joe: All right. Hopefully- I know that didn’t answer his question, but-

Al: We did the best we could.

Joe: Yeah, because most people now are buying these universal life policies individually. And then they make them sound like bank on yourself or you can have your own retirement plan. But this is truly a retirement plan through the employer. So we would just need a little bit more information on it.

Al: Well, the whole idea of them is that you have life insurance, but you overfund it. And that’s why you end up with a cash value in your policy. And then these illustrations are run, assuming you’re going to earn a certain amount and then assuming you earn that amount, then over time the earnings pay for your future life insurance premiums. But what PJ is saying is it’s not earning as much as what the illustration was, which is a common issue.

Qualified Small Business Stock Gain Exclusion

Joe: We got Mick from Davis, California. “Hey Joe, Big Al and Andi, love the podcast. I usually listen to it on Tuesdays when I walk our two dogs. Daisy is a lovable, very mixed, small dog and Nutmeg is a half Pekinese-”

Al: Correct.

Joe: Killed it. “- half every thing else, tiny dog.” So they’re kind of little, cute, little tiny dogs, huh? Nutmeg is the name of the dog? Or is that a type of dog?

Andi: That’s the name.

Joe: That is the name. Got it.

Andi: Because Nutmeg is half Pekinese and half everything else.

Joe: Daisy and Nutmeg. Nutmeg. You just chill, walking around Davis, California. “Otherwise, I listen to it while I drive my 2-seater-” Wow, he’s one of those, 2-seaters. “- 2003 Honda Insight, the original hybrid that gets about 68 miles per gallon. His wife’s car is 2013 Nissan Leaf. My question is not about Roth IRA conversions of any kind.”

Al: All right. Thank you.

Joe: Thank you very much, Mick and Pam. “I need to understand the qualified small business stock, QSBS, gain exclusion. Does it still exist? Did the Trump tax trump the old tax code? And which shares are covered by it and which aren’t? My wife is a serial entrepreneur-” I killed that word.

Al: Yeah, yeah, you did. Yeah, you got serial and entrepreneur right, both.

Joe: I know it. I was going to say- you know, when I- like a long time ago, I- we were like I’m an entrepreneur-

Andi: There is an ‘r’ in there, entrepreneur.

Joe: I’m a piece of manure.

Al: He was close enough.

Joe: Well, the wife, she’s a serial business person “who owns founder stocks from years ago. Her company, ____ 2013 as well, as a lot of other stocks she bought in her company over the years via options in ____s. She has not sold any company stock, she was able to give some shares to charity since she is still a board member of her company. She is very limited in selling the shares.” Insider trading, probably, you know, she’s an insider.

Al: Well, yeah, there’s limits on key people selling shares. They have to have certain open windows to do that.

Joe: Because they have information that most people don’t have.

Al: That’s accurate, insider trading.

Joe: “We are approaching retirement and need a strategy to diversify. Her company stock makes up 20% of our $6,000,000 net worth. We’d like to get it down to lower than 4%. Should we sell the original founder stock first to take advantage of the QSBS gain exclusion? Does it still exist? Or should we use those shares to contribute to our charitable pledges? I’ve done our taxes and retirement planning for years. Is it time to hire a pro?”

Al: Mick. Yes. If you go ahead and do that strategy, definitely hire a pro. And what it is, this is QSBS or Section 1202 stock. That’s the code section. If you’re interested, Google that, look it up. But what it basically means is that certain gains from your C Corporation stock are tax-free on sale. So it has to be a C Corporation stock. The company has to be formed after August of ‘93, which probably is the case. The gross assets of the company have to be below $50,000,000 when you get the stock. It needs to be original stock. And it needs to be an active business and there are a bunch of businesses that don’t qualify. So look that up. Now, what it basically says is when you have a gain, you can limit up to $10,000,000 of gain or 10 times your original tax basis, whichever is greater. So in this case, if it’s 20% of $6,000,000-

Joe: $6,000,000-

Al: $6,000,000- yeah. So whatever the gain is, it’ll be- it could be eliminated by this. And just for your information, if you have gain that’s over and above this, you pay a higher capital gain rate, 28%, but it is still around. It’s 100% gain, which has been true ever since 2010.

Joe: Yeah, 2010. I do remember us talking about when this first came out.

Al: That’s right.

Joe: All right. Hopefully that helps. Mick and Pam, congratulations on your upcoming retirement. All right, thank you all, the show is called Your Money, Your Wealth®.

_______

Derails about TV coming up momentarily, stick around.

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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.