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
April 14, 2020

Breaking down Roth IRA conversion pro-rata rule considerations with RMDs on an inherited IRA, Roth conversion tax bracket planning to account for the loss of a spouse, and the state income tax impact on Roth conversions. Plus, Roth IRA contribution and conversion limits, what to do about earnings on a reversed excess IRA contribution, how dollar-cost averaging affects capital gains tax first-in, first-out (FIFO) rules, the pros and cons of zero-coupon bonds, whether to use the brokerage option in your 401(k), and more.

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Show Notes

  • (00:57) What Do I Do About the Earnings on a Reversed Excess Contribution to My IRA?
  • (06:51) Backdoor Roth IRA Strategy: What’s the Conversion Limit?
  • (09:42) Is an Inherited IRA Included in Pro-Rata Rule for Roth Conversions?
  • (15:30) Loss of Spouse: Roth Conversion Tax Bracket Planning
  • (19:59) State Income Tax Impact on Roth Conversions
  • (26:46) Should I Use My 401(k) Brokerage Option?
  • (31:11) What Do You Think of My $6M Retirement Investment Strategy?
  • (34:02) Does Dollar Cost Averaging Affect FIFO Rules for Long Term and Short Term Capital Gains Taxation?
  • (37:52) Pros and Cons of Individual Vs. Joint Brokerage Account for Beneficiaries
  • (39:57) Zero-Coupon Bond vs. a Regular Bond: What’s the Purpose of a Zero-Coupon Bond?

Resources mentioned in this episode:



LISTEN | YMYW Podcast #263: 7 Roth Conversion Strategies

LISTEN | YMYW Podcast #251: Should You Convert to Roth IRA All At Once or Over Time?

LISTEN | YMYW Podcast #255: Breaking Down the Confusing Roth 5-Year Clock Rules

LISTEN | YMYW Podcast #249: What’s the Break-Even on a Retirement Roth IRA Conversion?

LISTEN | YMYW Podcast #241: Answers to Your Top Roth Conversion Questions

Listen to today’s podcast episode on YouTube:



Right before the pandemic sent us all home, the YMYW email inbox was jammed full of Roth IRA conversion questions. Honestly, that’s not uncommon. Today on Your Money, Your Wealth®, we’re going back to the days when we could all be in the same room together, when Joe and Big Al answered a bunch of those questions and more. They break down the pro-rata rule on Roth conversions with an inherited IRA, contribution and conversion limits, Roth conversion tax bracket planning to account for the loss of a spouse, and the state income tax impact on conversions. The fellas also discuss what to do about earnings on a reversed excess IRA contribution, the effect of dollar cost averaging on the first in, first out or FIFO rules for long term and short term capital gains tax, zero coupon bonds, whether to use the brokerage option in your 401(k) and more. I’m producer Andi Last, and here are the hosts of Your Money, Your Wealth®, Joe Anderson, CFP®, and Big Al Clopine, CPA.

What Do I Do About the Earnings on a Reversed Excess Contribution to My IRA?

Joe: Dave writes in with no location given. So next time he writes in-

Al: I thought you’re gonna say fail.

Joe: He did fail. But it’s interesting because he goes “Hello YMYW team.” He’s got to be a listener. He goes YMYW. Your Money, Your Wealth®. But he doesn’t give a location. So interesting. “I love the show and all the great info. Keep it up. This question is for Big Al as it is tax related.” Apparently I know nothing about taxes.

Al: So I guess I better listen to it.

Joe: “So I inadvertently had an excess contribution to my IRA in May 2019. I reversed it in January 2020 such that it was before the tax filing deadline. As a result, I have a small amount of income, $120 that was also reversed out of my IRA calculated by my brokerage that was earned in 2019. During the time that the funds were in the IRA the brokerage told me that they will not issue a 1099R for 2019 inclusive of the additional income. But that they will issue a 1099R for the 2020 tax year in January 2021. How should I handle this additional income? Can I just recognize the income on tax year 2020 without incurring any penalties such that I am consistent with how the brokerage reports to the IRS? Or should I add it to my 2019 tax year’s miscellaneous income?” So Dave put money into an IRA. He must have put money into a Roth IRA.

Al: No not necessarily. Maybe he put too much into the regular IRA. Maybe he’s with periodic withdrawals and it just overdid?

Joe; “I inadvertently had an excess contribution to my IRA in 2019”.

Al: It could be Roth too.

Joe: So he reversed it. Did he reverse the whole thing? Is that what you’re getting here?

Al: No. He just- he would have reversed the excess.

Joe: There was $120 of earnings on the excess pro-rata of whatever earnings that he had on the excess contribution.

Al: It’s kind of a crazy calculation. Because the calculation is what are the earnings that you would have earned on that excess part?

Joe: So let’s say it was $100 excess contribution. And so they’re gonna say here you add-

Al: Well they’re going to look at the-

Joe: $.12 of earnings on $100?

Al: When the contribution came in or if there are multiple contributions it gets pretty complicated. Have your brokerage house help you with this calculation first of all. But what they’re trying to get at is how much extra earnings you had in your IRA or Roth IRA as a result of contributing too much.

Joe: So the limit is $7000. Dave put in $7000 plus. And he took out the excess on top of the annual allowable amount. And it showed up that there was $120 of earnings on that excess contribution. So the excess contribution went back to his brokerage account along with $120 of earnings. Brokerage house says we’re not going to issue a 1099R for the year that it happened, we’ll just issue it the following year. So Dave’s like what the hell do I now?

Al: That’s a good question.

Joe: Dave, it’s $120, who cares?

Al: Well it’s a good question.

Joe: Am I gonna get penalized? Yes. $.02.

Al: Right. So I’m going to give you two different answers. First of all, the official answer and then what I would do. You like that?

Joe: Yep.

Al: So here’s the official answer. And that is anytime you put too much money into an IRA or a Roth IRA and you find out after the fact that that’s true. In general, there’s this 6% excise tax that you have to pay each and every year that you have excess IRA contributions or Roth contributions. But if you take that money out by the due date of the return the following year, which is April 15th or October 15th if you extend your return, then you can avoid that 6% penalty. But you do have to take the earnings out that are attributed to that excess contribution out as well. But if you’re under 59 and a half, you may have to pay a 10% penalty on the earnings part. So just remember that as well as ordinary income. So here it’s only $100some dollars. So it’s not that big a deal, but it’s a little bit of a quandary because you’re supposed to report that in the same tax year. In fact, if you filed your return you’re supposed to amend your tax return and put it in the year before his tax return. But that brokerage house sends a 1099 for the following year.

Joe: Because that’s when you did the reversal.

Al: Because their cash basis and that’s when you received the reversal. So in my view even though what I just told you is the correct answer, I would follow that 1099s and record it next year. Because otherwise, you may get a notice from the IRS saying you underreported your income.

Joe: What is this? You have no proof of it because there’s no 1099 reported to the IRS.

Al: Now on the other hand if you want to be exactly correct you go ahead and put it in 2019’s tax return. And then in 2020 you put it again but then you back it out with an explanation. It’s just sloppy. I think. I think $120 I would just do it the way the 1099’s came out.

Joe: I would just throw it away.

Al: You would just spend it. Forget about it. Let ’em catch me, right?

Joe: I’m kidding.

Andi: He could feel my eyes on him.

Joe: IRS people out there.

Al: His name is Joseph Denis Anderson.

Joe: Thank you.

Al: You’re welcome.

Backdoor Roth IRA Strategy: What’s the Conversion Limit?

Joe: We got PV. That’s a name? Initial? Or is that a location?

Andi: That’s how the email was signed.

Joe: OK.

Andi: Love, PV. No. It didn’t say that.

Al: Pat Valentine.

Joe: “Hello everyone. I am 35 yo-“

Al: I do love the yo.

Joe: Is that the way they write it? Or is that-

Andi: That’s how they write it. Yeah.

Joe: “I’m a 35 yo-”

Al: I’d say “35 yo-“

Joe: “- and file jointly with my wife. I make $170,000. My wife makes $100,000. I have one traditional IRA with nothing in it. I opened it with the sole purpose of doing a Backdoor IRA. I’m contributing after-tax dollars from my paycheck and make too much money to contribute directly to a Roth IRA. What is the limit that I can put into an IRA and then convert it into my Roth IRA? My plan is to do $1000 every month. Is that legal? Thank you for doing what you do. I enjoy the podcast a lot and I tend to sit down after and try to follow the complex episode math.” All right, PV.

Andi: That’s just confusion, PV.

Joe: No. That is definitely not legal. Did you like the double, triple negative I think I did in that sentence?

Al: I’m not following you. Because I mean it’s-

Andi: No. Definitely not-

Joe: No. You cannot do that. It is illegal to do $1000- well it’s not illegal. It’s just an excess contribution. $7000 is the max depending- how old is he? Oh, he’s 35 yo.

Al: 35 yo. So 35 years old. I beg to differ. I think that’s totally legal. I think you do $1000 a month for yourself. And then after six months do $1000 a month for your wife. There ya go. Totally legal.

Joe: Oh. Okay. There ya go. So yes, you could do it for you and your wife. You would have to do-

Andi: So confused.

Al: So that would be $12,000 over the course of a year and at 35 years old you can only put $6000 into an IRA. But husband and wife can each put $6000.

Joe: So he’s looking to do a Backdoor Roth IRA. He’s maxing out his 401(k). But he wants to do more. So he’s doing after-tax dollars from his paycheck into an IRA. And then he’s going to convert that to a Roth. Right?

Andi: Ok. Yeah.

Joe:  You can put $6000 into a Roth IRA.

Al: So he gets to June 30th and he’s got to stop that part.

Joe: If he started in January.

Al: Yeah right.

Joe: And then he can still put another $1000 a month; not in his but his wife’s.

Andi: Ok. All right.

Al: Then she gets another $6000 starting July through December. I think it’s brilliant.

Joe: Anyone can fund it too PV. So if you want to give your wife a nice little…

Al: PV’s gonna do the complex math so he’ll do the $1000 for each month added up, $6000- yeah that works.

Is an Inherited IRA Included in Pro-Rata Rule for Roth Conversions?

Joe: We got John. He writes in from South Carolina. “Great show. Thanks for the information.” Thanks John from South Carolina. I want to get to South Carolina one of these days.

Al: I do too. I’ve never been.

Joe: I want to play some golf there.

Al: I’ve been to Florida. Hilton Head’s in South Carolina right?

Joe: I believe it is. “Wife has an inherited IRA presently taking RMDs on her life expectancy. She also has a spousal IRA, Traditional with non-deductible contributions. Basis, approximately half the value of the account. If she wishes to start doing Roth conversions, does the inherited IRA factor into the calculations for the pro-rata rule?” Wow. All right John. Been doing some reading. Throwing out some big words. A little pro-rata rule.

Al: Lotta of big words and a small question. I like it.

Joe: Very condensed. Thank you John. Usually I have to read for like 25 minutes to get to the meat.

Al: It’s like this is right to the point. I like it.

Joe: I do. So let’s talk about the pro-rata rule. The pro-rata rule is that if you have basis in an IRA- so he says he’s got one IRA, half of it is basis so he put in, let’s call it $10,000 of after tax contributions. The IRS is not going to re- tax those contributions because they’ve already been taxed.

Al: So that’s when you contribute to an IRA, but you cannot deduct those contributions.

Joe: And the balance now is $20,000. So he says if I want to do a conversion, 50% is basis, 50% is pre-tax, or earnings. So if he converted let’s say $20,000, he would pay tax on $10,000.

Al: I agree.

Joe: Because the other $10,000 is basis. So that’s the pro-rata rule; 50%; 50% is basis, 50% is not.

Al: So if you convert something less than $20,000, like half of it, then $5000 would be tax free and $5000 would be taxable. Pro-rata rule.

Joe: Pro-rata rule. So now he’s thinking my wife, she just inherited an IRA. Does that IRA now join the party? Is that included in the pro-rata rule? So the IRS will look at certain IRAs or certain retirement accounts and say this is included in the pro-rata rule. This may not be included in the pro-rata rule. An inherited IRA is included.

Al: A spousal inherited IRA when it’s put in the spouse’s name. Right? Which is what it looks like.

Joe: “Wife has an inherited IRA presently taking our RMDs-” It’s a inherited IRA.

Andi: We don’t know that it’s spousal though, do we?

Joe: It’s not a spousal, it’s an inherited IRA.

Al:  I heard that wrong. I was thinking spousal is on the next line.

Joe: “She also has a spousal IRA-”

Al: Never mind. Inherited IRA is a separate thing.

Joe: Correct. Is it included in the pro-rata rules? Is what I’m asking you.

Al: No.

Joe: You don’t think it’s included in the pro-rata rule?

Al: No. It’s not.

Joe: An inherited IRA.

Al: I don’t think so. Now you’re making me wonder. I’d say that’s my final answer.

Joe: Final answer is not included.

Al: Correct. You don’t know do you?

Joe: I thought it was included.

Al: I don’t think so. We got a difference of opinion. Perhaps. Why would it be? It’s not even in your name.

Joe: It’s in the deceased’s name. And you’re just the beneficiary. You may have to take the RMD’s. Now with the SECURE Act-

Al: You gonna rethink your answer?

Joe: Yes. I am. Now I’m thinking it through. Sometimes I was jump the gun. I was excited.

Al: You’re trying to jump all over me.

Joe: I know. See, that’s how I ask questions. It makes other people think that they’re wrong. Even though I’m dead wrong.

Al: You’re really good at that.

Andi: I did look it up and least according to IRAhelp.com they are not included.

Al: I knew that answer but you- see you’re really good at this. It’s like what’s your mom’s name? Betsy. Is that really your mom’s name? I think so. What do you know?

Joe: But if it was a SEP IRA, a Simple IRA-

Al: It would be-

Joe: – it would be included.

Al: I agree with that.

Joe: But you’re right, an inherited IRA, a spousal IRA is also included.

Al:  But actually, let’s answer it the way I did. Which is an incorrect assumption. But what if she inherited an IRA from her former spouse?

Joe: That would be included.

Al: If it were put in her name.

Joe: If it were put it in her name. But if it kept in the decedent’s name it would not.

Al: Because she would have a choice. Keep it in the descendant’s name or put it in her own name and if he put it she put it in her own name, that would be included. We got there.

Joe: We got there.

As this was recorded after the SECURE Act was signed and before the CARES Act Coronavirus Aid, Relief and Economic Security stimulus package went into effect, the rules for required minimum distributions have changed for this year, and there are new provisions for retirement account withdrawals, small business loans, stimulus payments and much more. Find out how the absolute latest information affects you: download the CARES Act Guide from the podcast show notes at YourMoneyYourWealth.com and watch our latest weekly market update with Pure Financial Advisors’ Director of Research, Brian Perry, CFP®, CFA and special guest Apollo Lupescu, Vice President of Dimensional Fund Advisors. Click the link in the description of today’s episode in your podcast app to access these resources in the show notes, or just visit YourMoneyYourWealth.com and click “Listen to Podcasts” to get to the show notes for every YMYW episode.

Loss of Spouse: Roth Conversion Tax Bracket Planning

Joe: This is from Andy. Cincinnati, Ohio. “Folks. Great show. Plain speak. Honest answers.” I mean that’s a tag line, right there Al.

Al: I think that’s our new tag line, Andy, thank you.

Joe: “We hear a lot about what one expects as future tax brackets. However the tax bracket review only works if one situation remains constant. A married couple with a loss of spouse immediately jumps to a single bracket. In most cases this would increase taxes dramatically regardless of government. Converting some money to a Roth decreases RMDs, would be an advantage both to the remaining spouse but also in positioning moneys for the next generation. I think this follows your rules of having money in tax deferred, tax free, taxable accounts almost like the old three-legged stool. Then one could decide on their bond or stock allocation, large, mid, small etc. within the assets with some thought as to where certain funds are best positioned. A short course or webinar on this would help. Thanks again for your sage advice presented in a comfortable conversational format.”

Joe: He must be like marketing.

Al: Yeah. That’s smooth, right?

Joe: Yes. It’s like plain speak-

Al: We got the tag line. Sage advice and-

Joe: – honest answers.

Andi: It just reminded me we did get another comment from somebody who said “you make it fun to learn this boring crap.”

Joe: Because we’re just having a lot of fun. Vodka. Vodka helps.

Al: We do like this stuff.

Joe: Oh my god, Alan. Yes we do.

Al: It’s just what I live for. (laughs)

Joe: So what does he want? I don’t even know what the hell the question was.

Andi: It’s a comment.

Joe: Oh. It’s a comment.

Al: I agree with the comment.

Joe: So he wants a webinar or a class based on asset location?

Al: No. Based upon the tax brackets will change for a surviving spouse. And that’s absolutely right because the married brackets- if they’re actually the same tax levels 10%, 12%, 224%, 24%. But when you’re single you actually hit those higher brackets twice as quickly. So in other words, you get to the higher brackets more quickly. So here’s what happens with a married couple is they’re going along in their tax bracket thinking this is where we are for life. And then one passes away and the survivor all of a sudden is now filing single and now they’re in actually higher tax brackets with similar income. So it is a true statement. I’ll tell you Andy why we don’t bring it up too much is I always hate to talk about tax strategies where you’re losing a spouse. But your comment is absolutely right. And sometimes and certainly in cases where maybe one spouse has more impaired life expectancy, this is kind of a huge strategy. Go ahead and do the conversions while you’re in the married brackets and in certain cases we’ll have a- like we have actually a couple of clients right now, where unfortunately they lost their spouse in this current year. And so we’re doing bigger conversions-

Joe: Because they can still file married.

Al: Because they can still file married in the year that the spouse passes away. And by the way, if you’re married and a spouse passes away and you have minor children, you can actually file married in the year and then two more following years after that. So that is a good time to do Roth conversions.

Joe: Minor children definition-

Al: Below the age of 19.

Joe: How about if they’re in college? Still 19?

Al: I think it’s 19. But don’t quote me on that.

Joe: Because didn’t they change that? It’s like if they’re in college it’s 21….

Al: But that’s for independency.

Joe: Is that for for health insurance?

Al: I could be wrong on that but anyway that’s the idea. That’s absolutely right. If you do Roth conversions in a married bracket and later one of you obviously would be in a single bracket with a survivor then you’ll be happy that you did the conversions while in the lower married brackets. So thats’s just a comment to a comment.

Joe: We could do a short course or webinar on all sorts of different things. All of you give us your comments on what you would like and that. We have a TV studio that we’re building in our office.

Al: We need content for shows.

Joe: So we can do all sorts of things. I’m sure Marcus will send us some stuff.

State Income Tax Impact on Roth Conversions

Joe: We got Greg from Florida. “Dear Andi, Big Al, and Chip.” What the hell does he call me Chip for?

Andi: Because we’d had a segment where you talked about how cool it was that somebody was named Chip and that you wanted to be called that.

Joe: Oh that’s awesome.

Andi: People listen and they stick with this stuff.

Joe: All right call me Chip.

Al: We have to remember our own dialogue.

Joe: I know.

Andi: Exactly.

Joe: I got a new name. Maverick.

Al: I don’t think so.

Andi: I don’t think you’re allowed to just take that one, Joe.

Al: You can’t just make up your name. Somebody else has to.

Andi: And yours is Chip.

Joe: All right. Chip.

Al: I think Chip works.

Joe: I love it. Thanks, Greg. “I stumbled upon your podcast several weeks ago and the level of detail on the topics makes it the best financial podcast by far.” Yes. “I know you guys are big fans of Roth conversions but I haven’t heard you comment on the impact of state income tax on potential conversions. Currently, my wife and I are moving from Colorado to Florida. We sold our Colorado home and paid off a $900,000 California investment home which we plan on moving into in 3 years.” If I follow Greg here, he’s Colorado, he’s moving to Florida-

Al: I guess for 3 years.

Joe: – paying off a home in California. And he’s moving to California in 3 years.

Al: That’s what I’m getting too.

Joe: Are we all on the same page?

Al: Yep. And he’s 56 and he’s got a job in Florida.

Joe: Got it. “I’m 56 and my Florida job will have an income of $290,000 for the next 3 years. My wife and I have the following in retirement savings: $1,100,000 in 401(k) plans; $160,000 403(b); $40,000 in a 457; $140,000 Roth IRAs. He’s got $750,000 in commercial real estate; $38,000 annual taxable pension starts at 59; $15,000 current annual non-taxable pension. And $300,000 taxable equities and bonds, and $150,000 in cash.” You’ve done very well Greg.

Al: That’s right. That’s a lot of money. I would be fun if just once someone would write us with a big long question and say I have $18 in a 401(k), I got $4 in a  money market.

Joe: “We will delay Social Security until age 70 with an income of $67,000 a year. We’re planning on working part-time from age 60 to 65 for a combined income of $100,000 to help with expenses in retirement. We would like to live on $125,000 a year. I was looking at starting Roth IRA conversions next year to the top of the 24% tax bracket which isn’t much. I was wondering if we should be more aggressive in converting to the 32% tax bracket, since Florida has no income tax, for the next 3 years. And then he’s moving to California with high federal and state income taxes. He’s also talking about the increase in taxes in 2025 if nothing is going to prevent it. I started getting a headache figuring this out and thought I’d just call the California experts to deal with it. Thanks so much. Keep up the good work.” So let’s see here, he is 56 years old, he’s going to retire- he’s gonna work-

Al: At 59, 60.

Joe: Work part-time from 65. He’s going to probably- Let’ see, he’s got a pension that’s going to be paid out. Wants to live on $125,000. So there’s not going to be a lot of drawdown from the overall accounts is what it sounds like. Because from 60 to 65 he’s still going to work part-time but he’s got a pension coming in. And then so he’s got $1,100,000, 1,200,000, $1,300,000, call it $1,300,000 in retirement accounts. So in the next 10 years, 56 to 66- he’s going to wait until age 70, so that’s 15 years until  he might need a draw from this. I don’t know. That could be about-

Al/Joe: $3,000,000?

Al: Plus maybe?

Joe: And then he’s going to take an RMD. The 4%-

Al: $120,000?

Joe: $120,000 plus $70,000 plus the other pension. So that’s a $200,000.

Al: Minus the standard deduction which probably by then he’ll probably be-

Joe: $30,000?

Al: Yeah probably. I’m going to say at that time we’re going back to the old brackets. I’m going to say 25% bracket.

Joe: 25% plus state is 10%, 35%.

Al: 35%. Yep. So if you’re converting a 32% that could be a good deal.

Joe: You get the time value money. I would absolutely convert to the 32% this year.

Al: The other thing too is-

Joe: – well it depends on when you’re listening to this Greg. Markets are down 30%. You convert to the top of- or convert to the 32% tax bracket, pay the tax, you’re not paying any state tax and then now that 30% loss, I’d keep it in equities. And then by the time you retire in 5 years, do you think that the markets are going to be higher or lower?  So you’re able to take advantage of these crazy volatile markets by getting yourself in the right position tax wise.

Al: The other thing I would say when ages 60 to 65 where they’re making $100,000 working part-time plus the pension of $39,000, call it $41,000, $40,000. So between federal and state that probably be and I guess currently 22% to plus 9%, probably 31%. So you can be doing conversions at that time as well. So yeah we’re big believers in conversions and particularly for you Greg, because you get so much money deferred.

Joe: And it sounds like a good saver. He’s probably going to continue to save. But take advantage of the volatility. At 32%, I think if I was sitting in your shoes- I’m not giving you advice, Greg. We’re just couple of kids having a couple cocktails talking about taxes.

Al: Yeah that’s fair. Because I mean to do this right. We would need to do full projections, which is why you’re getting a headache and I understand that.

If you still have questions about Roth IRA conversions, I’ve posted plenty of resources for you in the podcast show notes at YourMoneyYourWealth.com. Click the Ask Joe and Al On Air banner right at the top of the podcast show notes to send in your money questions as a voice message or an email, and the fellas will answer here on the podcast just as soon as they can. Click the link in the description of today’s episode in your podcast app to go to the show notes, and don’t forget to share YMYW with everyone you know who should care about their financial future – which should be, of course, everyone!

Should I Use My 401(k) Brokerage Option?

Joe: So we got- This is Tyke?

Al/Andi: Tyche.

Joe: Tyche.

Al: It’s a made up name.

Joe: Got it. From New York.

Andi: Well it is actually a Greek goddess.

Joe: It’s a Greek goddess of fortune and prosperity. “Hello Joe, Al and Andi.” You know what? By the way, with Josh’s video-

Al: You’re back on that?

Joe: He’s like Big Al and Joe, how did you get first billing there?

Al: Because he wanted to critique me first about my lack of tax knowledge. He just thought you were a jackass.

Joe: True.

Andi: If the shoe fits.

Joe: You know what? I’m OK with that. “Hello Joe, Al and Andi. I love your show. Just discovered it and listened a bunch of shows. I’m 46. My 401(k) plan has an option for brokerage account to access funds not in the plan. Is investing this way good? What are the pros and cons? I want to get a REIT fund, but the 21 funds the plan does offer does not have a REIT index fund. Also the funds my plan does not have I don’t find much information about them in Google. They seem to be custom to the plan. What are these special funds? My plan is with Fidelity. Thanks for your show in educating us on stuff. I have really learned a lot. If I lived in California I would definitely hire your firm as my advisor.” Wow. That’s-

Al: That’s sweet. Tyche. Name withheld.

Joe: “Please don’t use my name on the air.”

Al: So we don’t really know her real name.

Joe: Okay Rebecca Smith at 4452.

Al: Main Street. There probably is such a thing.

Joe: So she wants to go into the brokerage account in the 401(k) plan.

Al: What do you think?

Joe: I’d just kind of keep it simple. But you can- there is a brokerage link and you have access to thousands of different investments.

All: See, that’s the pros. You’re not limited to the 21 funds in your plan. You can invest in virtually anything that that brokerage account has, which is usually just about everything.

Joe: So she’s got- her plan’s through Fidelity. And I’m not sure where she works but you know some of the larger plans have plan-specific funds that are very large and very low cost. And so you probably- they’re institutional style funds. So that doesn’t necessarily mean they’re bad when you’re trying to look them up on Google. You probably just need a little bit different software to define the funds. But looking here, you’ve got U.S. Equity Index, Global Bond Fund. You’ve got Fidelity- what, GR? What is that, probably growth?

Al: I think it’s growth company pooled fund.

Joe: Maybe that’s just a company pooled fund of her employer.

Al: We are so good at this.

Andi: No wonder Josh is upset.

Al: Josh. Help us out.

Joe: No idea. Zero. I don’t know. So 46 years old, got a 401(k) plan at a brokerage house, she wants to buy a REIT.  Well you want a lot more than that. You want all sorts of different asset classes. But you could do very well with just three funds, like total U.S. stock market fund; you have total international fund, or global fund and then a bond fund.

Al: Yeah I agree. Those are kind of the three main categories and usually with those three you’ve got small companies, mid-sized, large companies. You’ve got value and growth, domestic and international.

Joe: So I would try to keep it as simple as possible until you probably get- I don’t know. I don’t think you got to- keep it. I don’t think you got to get too creative with this- getting a brokerage link and- unless you want to-

Al: But I will say some people really like investing in real estate. And a real estate investment trust, a publicly traded real estate investment trust fund that has daily liquidity, that’s not necessarily a bad idea. And you probably can’t do that in many 401(k)s. So the brokerage link would allow you to do that. So we’re not against it but we also don’t really want you to get so complicated that this gets out of control.

What Do You Think of My $6M Retirement Investment Strategy?

Joe: We got someone from Flint Michigan.

Andi: Kutty.

Joe: Kutty.”If a person has $12,000,000 Alan, in tax deferred account and is able to live on about $6,000,000 should he invest in Total Stock Market Index ETF with a stop order of $6,000,000? Will this be a sound strategy for retirement? The person is 79; his wife, 75 plus plus plus plus.” What do you think of that strategy Al?

Al: I don’t like it.

Joe: I hate it.

Al: Figure out if you need $6,000,000, what’s your income that you need? You can make that super conservative just so- regardless of what else you got going.

Joe: So he’s able to live on about $6,000,000. They’re 80 years and 75 plus plus plus.

Al: So basically what he’s saying-

Joe: They need $240,000 to live off of, roughly?

Al: Yeah, at a 4% distribution.

Joe: Something like that?

Al: Yeah. So I got $12,000,000. I put all in the stock market. And with a stop loss at $6,000,000, so if the stock market goes down 50% at least I stop my losses.

Joe: Why don’t you just go in all fixed income?

Al: Right?

Joe: Be conservative. What are you trying to do? Are you trying to make the $12,000,000, $24,000,000? Is that the goal? And if that’s the goal, then you can take a look at maybe a little bit more unique hedging strategies. But if you’re just looking at a couple that is 79 and 75 years old, why on earth would you do something like this especially in a tax deferred account when you got $12,000,000 in a tax deferred account? I don’t know if this is an IRA. Or if it’s a variable or if it’s an annuity. If it’s in an IRA, your RMDs are through the roof. So if they can’t live off of that and they have to take more, why are you doing stop losses and trying- it would completely blow this thing wide open.

Al: I think that what you said is right. I mean it depends upon what their goals are. If they have children, they want to grow this, then there’s one sort of investment strategy. If they don’t particularly care about beneficiaries, maybe they don’t have kids, meant then they can be real safe. Why not just be real safe on the whole thing?

Joe: It’s like I can afford to lose $6,000,000, let’s blow this thing up.

Al: Because why not? Right?

Joe: Let’s roll the dice. Let’s do an exchange and buy an apartment building in Las Vegas.

Al: I guarantee you when the $12,000,000 goes down to $6,000,000-

Joe: He’s going to be pissed.

Al: -you’re going to be pissed. You guys said it was okay. No we didn’t.

Joe: Is this a pretty good idea? Kutty, no. It’s the stupidest thing I’ve ever heard in my life. Don’t do it. What do you think? Fair enough? Did that cover us from compliance.

Al: I think so.

Joe: OK.

Does Dollar Cost Averaging Affect FIFO Rules for Long Term and Short Term Capital Gains Taxation?

Joe: So we got- what are we got here? “Hello. This is Marcus from.

Al: Period.

Joe: Marcus.

Al: Space. No-well we know already know it’s Tennessee or Alabama.

Joe: It’s Alabama/Tennessee. 

Al: We’re still not clear on which one.

Joe: I think he lived in Alabama. Then he goes to Tennessee.

Andi: Yeah.

Joe: He commutes.

Al: But maybe by this point he’s moved back to Alabama.

Joe: I don’t know. We got the other guy that lives in Alabama but roots for LSU.

Al: It’s very confusing.

Joe: Marcus has gotta go talk to that guy and straighten him out.

Al: I wonder who Marcus roots for.

Joe: Oh Crimson-

Al: Crimson Tide?

Joe: I can’t even say it because I’m a Florida gator.

Al: You can’t. You’re not allowed to say it.

Joe: I know. I get choked up. Verklempt.

Andi: It’s like the Fonz. He couldn’t say I love you.

Joe: That stuff too.  The Fonz.  Good reference. I don’t even know who the hell that is.

Andi: Oh, come on.

Joe: Because I’m so young. “First I want to give a huge shout out for those listeners that have requested more YMYW episodes a week. Thank you for answering the call. Keep the questions or requests coming in. Now to the questions.” All right Marcus. What do you got today? “Could you go over FIFO rules as it relates to long term and short term capital gains taxation? Does dollar-cost averaging affect this in any way?” Alan, FIFO, First In First Out.

Al: First in first out. So Marcus, you’re talking about investments in your non-qualified account. So let’s say you invest-

Joe:- non-retirement.

Al: – non retirement. Yep. Thank you. Let’s say you invest $100 a month into a Vanguard index fund. And you do it each and every month, each and every month. And of course, every time you invest it’s a different stock price. And so when you actually sell some of those shares then the brokerage house will, unless you say otherwise, will do the average cost method which means they take all your shares and all your costs and divide one by the other and figure that’s your cost. But you actually can elect to do FIFO or actually direct costs but FIFO is first in first out which just simply means if you put $100 in each month. And you sell let’s say a couple of years from now $300 worth. So it takes the first investment you did in month one. The second investment you did a month two, the third investment in month three. And whatever you paid for those three investments, that’s your cost basis. So that’s one way to do it. Another way to do it is specific identification, which just says I don’t want to use average cost or FIFO but-

Joe: I want to sell this one.

Al: I want to sell the one I bought in month 14. Because that was in-

Joe: -March when it crashed-

Al: -yeah, when it crashed or maybe the opposite. And I want to do a high one so I don’t have a lot of taxable gain. You can actually pick which one you sell. Because you need X number of dollars and you want to pay the least amount of tax. So you can do that too. It’s basically how you’ve elected it.

Joe: So anytime you sell something, you can elect either direct block, FIFO or average.

Al: I think there’s a default. I think if you want to do anything other than the default you have to let the brokerage house know. Now when it’s an individual security then it’s a little easier because now it’s usually- I suppose you could be buying a little bit each month and I suppose you could potentially do the same thing, but usually when people buy securities they use either FIFO or direct a specific method.

Joe: When you say- they’re all securities. Would it be like a-?

Al: Like a stock.

Joe: – like an individual stock?

Al: Thank you.  Like Apple.  You buy Apple. Shares in Apple.

Joe: Yes. Because a Vanguard index fund is technically a security.

Al: Yes. Thank you. Josh.

Pros and Cons of Individual Vs. Joint Brokerage Account for Beneficiaries

Joe: Wow. Fighting words. “What are the pros and cons for beneficiaries of an individual brokerage account versus a joint brokerage account when it comes to cost basis once owner dies? I vaguely remember Big Al saying ages ago that having a parent and child joint brokerage account can be more harm than good tax-wise upon death of the parent owner. Can you provide more details around this?”

Al: Certainly. It all comes into effect on if a parent passes away, what your cost basis is. So if it’s a joint account it could be argued that there’s really no step-up in basis or maybe it’s a 50% step-up in basis. Because you own half the shares, your parent owns half the shares. If your parent owns it outright and they pass away, then it’s a full step-up in basis meaning that let’s say you spent $10 a share to buy Apple and now it’s $80 a share which I have no idea what it is. I just made up an example. So now when your parent passes away and it’s worth $80 a share, that is your new cost basis, $80 a share. So if you sell it the next day for $80 a share there’s no gain or loss. If it’s in a joint account, in most cases the way it works is you get a 50% step-up so only half of it steps up. Your part, your 50% ownership doesn’t step-up. There’s also potential issues on it if it was your parents’ account and they put it in your name. That could be a gift tax consequence and your parent would have to file a gift tax return. I’m less concerned about that these days with the high exemption on estate taxes because gift taxes and estate taxes are tied together. I got like super-advanced on that one but I just threw that in just for fun. Now those that wanna do a fact check and find out what I was really talking about.

Joe: I’d totally ignored it. But I was like-

Al: I know you did. It was like really, he’s going there?

Joe: When your voice stopped, I knew to step in.

Al: That’s how you do it?

Joe: Yep.

Al: That’s how you normally do it. It’s like- when there’s a pause.

Joe: I hear a little of a pause.

Al: When there’s a pause. Oh, I guess I need to talk. I don’t know what he said, he could be right. If it’s wrong, Josh will tell us.

Zero-Coupon Bond vs. a Regular Bond: What’s the Purpose of a Zero-Coupon Bond?

Joe: “Lastly, Joe what is the purpose or benefit of a zero-coupon bond? This bond has come up a lot lately on YMYW, especially during Joe’s world famous insurance rant.”

Al: It did come up then. I do remember.

Joe: “What is the advantage of owning a zero-coupon bond compared to a regular bond? Thank you for your answers.” I’m gonna just be real brief here. Is that a zero-coupon bond- is that you’re purchasing- it’s like a EE bond or I bond is that I’m purchasing a bond let’s say for $50, knowing that it’s going to mature in a year at $100. So a lot of corporations use these if they have debt liabilities, pensions and things like that. So they’re saying I’m gonna buy this at $50 and it’s going to mature. There’s no way I would do that because that’s a huge rate of return but I was giving you an illustration.

Al: 100% interest rate? That’d be-

Joe: That’d be pretty good.

Al: What do they call that? Usury  or-?

Andi: Usury.

Al: Usury. Thank you. I can never pronounce that.

Joe: Yes. OOsury.

Al: Usury.

Joe: Or maybe you buy for $50 today, in 30 years it’ll be worth $100. So basically you had the guaranteed payment of $100. You’re only purchasing- only out-of-pocket today is $50.

Al: So you pay $30 today.

Joe: $50 or $20.

Al: Whatever it is. So when it matures, you get your $100.

Joe: Correct.

Al: So the advantage to the issuer is they don’t have to pay you, currently. They like that.

Joe: Right. And then you look at it and you say I don’t need the money. I have a debt obligation or something like that or I have a retirement or I have a college fund or I have something that I need to pay for. And I would like $100 then. So I’m only out-of-pocket today and it’s guaranteed by the issuer that I only have to pay $30 that I know that I’m going to receive $100 in that time period. There’s no coupon payment if you will. So like when you usually buy a bond, there’s a coupon so an interest payment that people live off of. But even though interest rates now I think are almost negative. Just about. Where this is that- but it’s still phantom income. So I’m not going to get too much in the weeds here but it’s for- you pay $30 or $50 over time. You’re going to get the matured amount of whatever the bond is.

Al: I know we’re out of time but the problem is you have to pay taxes on it as you go even though you’re not receiving the money. But what’s the advantage?

Joe: The phantom income. What’s the advantage of phantom income?

Al: No, what’s the advantage of a zero-coupon bond? It’s like all negatives. That’s what he asked. What’s the advantage?

Joe: That is the – I just explained the advantage. You weren’t listening.

Andi: Touché’.

Joe: Right?

Al: Right, because I don’t listen to you talk. I just wait for the pause.

Joe: You pay $30 and it’s worth $100 dollars down the road.

Al: But wouldn’t you rather get the money as you go? I don’t get why that’s an advantage, having to wait for your money.

Joe: Okay. Because if I’m gonna buy a bond let’s say at a face value of $100. Then I get coupon payments along the way. I’m paying $100 for the bond versus $30. Also, let’s say depending on the bond it could be callable. It gets called away. I mean there’s all sorts of different things. There’s a little bit of pros and cons.

Al:  Well we got it. We’re done with this topic anyway.

Joe: You want me to read the PS?

Andi: Yeah.

Joe: “I have a couple more questions. But since you all only do one episode a week, I don’t want to take up your time. So I’ll save them for later. Andi, I find it funny that Joe and Al didn’t know about the Derails.”

Andi: Because they don’t listen, Marcus. I’m glad somebody does.

Al: We don’t have to listen to our nonsense.

Joe: Yes. To be honest I have no idea what the pros and cons are, Al. The show’s called Your Money, Your Wealth®.


Marcus, for you and the rest or the YMYW community that enjoy them, we do have a quick Derail at the end of today’s episode. Thank you all for listening and sharing the podcast, and please keep sending in your thoughts, comments, and questions.

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