Stretch IRAs and The Business of Family

Kiplinger’s Retirement Report editor Rachel Sheedy tells Joe Anderson, CFP® and Big Al Clopine, CPA how to inherit a retirement account without paying a boatload of taxes all at once. Family, Inc. author Doug McCormick talks about how to use sound business principles to make the most of your family’s money, and the fellas answer emails about retirement contribution limits, taxation on stock dividends and splits, and the voodoo of overfunding life insurance. They also discuss Social Security and Medicare changes in 2017, and the do’s – and dont’s – of saving for retirement.

Andi: How to inherit a retirement account without paying a boatload of taxes all at once, how to use sound business principles to make the most of your family’s money, and why you might be able to buy an extra beer this year courtesy of the Social Security Administration! This is Your Money Your Wealth.

Today on Your Money, Your Wealth, Rachel Sheedy, the editor of Kiplinger’s Retirement Report, tells Joe and Big Al some of the rules and reasons a non-spouse beneficiary might use a stretch IRA when inheriting retirement money. Family, Inc author Doug McCormick talks to Joe and Al about the Army Navy Game – oh, and about treating your family finances like a successful business too!

Also coming up, the fellas answer emails about retirement contribution limits, taxation on stock dividends and splits, and the voodoo of overfunding life insurance. They’ll also talk about Social Security and Medicare changes in 2017, and the do’s – and dont’s – of saving. Here are Certified Financial Planner Joe Anderson and Big Al Clopine, CPA.

00:00 – Intro
01:00 – 2016 Market Recap
07:39 – The Stretch IRA Explained, with Rachel Sheedy from Kiplinger
23:51 – 5 Ways to Become an Extreme Saver
30:20 – 2017 Social Security Changes
36:03 – Family, Inc. With Doug McCormick
47:16 – Answers to Money Questions
48:03 – I am currently contributing a company sponsored 401k plan. Can I also contribute to a Roth IRA?
50:52 – Are stock dividends and stock splits taxed?
56:06 – I’ve heard I can use life insurance like a Roth. How do I do this? And is it a good idea?

2016 Market Recap

JA: Thanks so much for joining us. Happy 2017. Starting out the year hot today. Hot, Al.

AC: Hot, why do you say that?

JA: I don’t know. Cause it’s a new year, fresh.

AC: 2017, I know we’re gonna have a great year this year. I can feel it.

JA: What, a great year personally? Professionally? Market-wise?

AC: Both. I think I think our listeners can too.

JA: I think so too.

AC: This is going to be THE year.

JA: For what I don’t know. (laughs) You know, I been reading a little bit more about individuals wanting to retire in their 40s and 50s. Because it’s unheard of. Right? Because people in their 40s and 50s haven’t saved. But then you got the millennials, it’s like all right well, here. You know I had this job I’m going to live off of ramen noodles for 10 years. And you know, save everything I have. Which I find fascinating because if you take a look at most younger people, where are they saving their money? They’re not putting money in the stock market.

AC: Right. They’re putting in the bank.

JA: Right. Because it’s like all right well here I experienced the Great Recession and my parents lost a house or lost a bunch of money and all the stress that it caused, so I don’t want to do that. But on the other side, well if you can retire at 40, you may need you need a ton of money!

AC: For 40 years, and it’s not growing…

JA: Yeah, inflation.

AC: Every 30 years, maybe 25-30 years, costa double? Something like that?

JA: Right. You know… so, I don’t know. I just lost my train of thought, but that’ll probably happen a couple of different times today. Nothing new. (laughs)

AC: All right. So what do you want to start this show with Joseph Anderson?

JA: Well let me just kind of recap a little bit of 2016. I have a little year end report here. We had a rocky start of course in the beginning of the year, and we talked a little bit about this last week.

AC: I mean the market went way down, what, the first month, I think, in January, that was the worst January in the history of the stock market.

JA: Right. Well we got off what 2016. What 10% in the first two weeks. Right? The worst start since the year 1930. And then the markets bottomed out in mid February and then they became a little slow recovery. But then, guess what happened, we had that setback with the UK deciding to leave the Eurozone. So we had another hard bump, then we ended up… the Dow ended the year at 19762. And, if I’m not mistaken, Mr. Clopine, I think we’re at 20,000, right? Dow 20000?

AC: I didn’t check on Friday, let’s see if I can while we’re live on this show, that’s when we do our best research on we’re live on the show.

JA: Because the pressure’s on. These guys are like, “you idiots.“ (laughs)

It’s pretty close. Give or take a couple of points.

AC: Right. So you don’t have an exact number?

JA: Well it’s 20,000. Let’s just call it. I think it’s very close to that. People will be listening, “did it really hit 20,000?” No, it’s 19,980.

AC: So yeah, it’s it’s within 25 points I used like to say dollars in the old days. And then I get I got booed off the air. I had to go back and hit the books and study up a little bit more.

JA: Fourth quarter. So, Wilshire 5000 that’s kind of the broadest measure of U.S. stocks was up 4 and a half% in the fourth quarter of 2016. Ending the year up 13%. 13.37%. So if I look at the Russell 3000 index, gained 4.21% in the fourth quarter and it finished up at close to 13%. 12.74 for for the year. Large cap stocks were up as well. The Wilshire U.S. large cap index gained 4.14% the fourth quarter and finished the year at 12.5%. The Russell 1000 large cap index closed up 4% again for the fourth quarter and finished year at 12.05. The S&P 500, that’s what most people kind of take a look at, large company stocks was up 3.25 in the fourth corner, finishing up 9.5% for the calendar year of 2016. So the fourth quarter crushed. But here’s the problem. With the election going on? How many people do you think stayed in the market?

AC: A lot of people got out. They were so worried about the Trump effect, when the Trump effect turned out to be pretty good.

JA: Right. Either side, it didn’t matter. “If a Democrat gets in or Republican gets in, I don’t know, it’s just so much uncertainty I want to get the heck out of the market.” And all of the gains, the huge gains, almost half the gains happened in just a few weeks. So that’s why timing markets is so incredibly difficult. No one guessed this. If you looked at the polls, if you looked at everything else. Right?

AC: Everyone was saying “well everyone knows the market’s going to go down if Trump wins.” And it went up.

JA: Here’s the numbers: Wilshire US midcap index gained 5% in the fourth quarter. Finishing up 17%. Russell midcap index gained 3% in the fourth quarter up 13.8. I can go on. What, smallcap index 8% gain, Clopine. For the last three months of the year, total return of 22%. So, that’s why timing markets is… you got to be fully diversified and making sure that you have the right risks at the right times, given your specific goals. So I know I just jotted off a bunch of numbers, I guess, to wrap up 2016. It was a heck of a wild ride, there was a lot of different things that happened, but at the end of the year if you stayed true to your investment strategy you probably ended up with a decent year.

What is 2017 going to hold? No one knows.

AC: Well we’ll have a conversation in a year from now.

JA: If you listen to the pundits, “well, you know, Trump’s in with the growth effect.” All right, so pro-companies, less taxes. It’s going to be a screaming year. Just the opposite could happen. Because the anticipation is that’s going to happen, but let’s say he gets in office and then a little bit of a leg to try to do all these major changes that he wants to do. Guess what’s going to happen to the market? It’s going to pull back.

AC: Yeah it may. And that’s that’s why these things are impossible to decipher because we don’t know until it actually happens. It’s funny, when when it happens it seems like “Yeah of course we knew that.” But you don’t. You don’t know until it actually happens.

The Stretch IRA Explained, with Rachel Sheedy from Kiplinger

07:39 – We just talked a little bit of a recap of some of the numbers of the overall markets that 2016 gave us and there’s a lot of uncertainty when it comes to markets when you try to forecast. But there’s another thing that’s kind of difficult when it’s time to forecast, is what tax law. So there’s a lot of proposals that Trump is bringing to the table. And then there’s also some strategies when it comes to retirement planning. That’s also on the table such as the stretch IRA and the stretch IRA basically works like this. If you were to pass away with a retirement account, and if you’re not married, and it goes to a non-spouse beneficiary, that individual has the opportunity to stretch out that tax over their lifetime which is a huge huge benefit for that beneficiary.

AC: Yeah it sure is. Because now you can take an IRA, let’s say you’ve got a parent that has a big IRA, a million bucks let’s say, and your an only beneficiary? So you can take that million dollars slowly over your lifetime. That’s what a stretch IRA does. So you’re 20 years old, you’re supposed to live till 80. Just a quick simple example, 60 years. So 1/60th of the account has to come out each year. Now if the stretch goes away, then you’ve got to take that money out in five years, and can you imagine a million dollars divide over five years? That’s $200,000 a year. It’s going to push you up into an enormous tax brackets.

JA: Right, because all of that is ordinary income. It will just add on top of whatever wages that the non-spouse beneficiary has. So if you have large IRAs you might want to take a look at some different strategies. But I read this article in Kiplinger’s. Rachel Sheedy, she’s the editor of the Retirement Report. So I thought hey what the heck let’s get her on the show and kind of dive in a little bit more on the details of what the stretch actually is.

09:20 – JA: Rachel welcome.

RS: Thank you very much for having me. Appreciate it.

JA: There’s trillions of dollars in retirement accounts, and I think the baby boomer age, we’re getting a little bit older, and there’s some things that people need to take a look at, especially at death in regards to a retirement account, because it’s a totally different account versus if they just inherit stocks or real estate or anything outside of that shelter retirement account. What are some things that you’re writing about or talking about that people should be aware of?

RS: Yeah there are definitely some some key points that heirs really need to be aware of that can really maximize an inherited IRA if they are aware of these and there are certain dates that are attached too, there are some deadlines they need to know about. So a big key is there are different rules for spousal beneficiaries of an IRA versus non-spouse beneficiaries. Spousal beneficiaries have a lot of leeway, they can essentially take the account as their own, if they would like to. Non-spouse beneficiaries can’t do that. They’ve got more rules that they need to pay attention to. Something to be aware of. And one of the big key things they need to know is that they need to retitle the account. They can’t make it their own, they have to retitle it as an inherited IRA. They need to make sure that their name and the decedent’s name is listed when they retitle it and they need to make sure it’s clear who is who. So that’s step number one that they need to be aware of.

JA: Right, because they might take a look and say “hey mom or dad have $500,000 in a retirement account, they also had a home for $500,000, well I sold the home, I can take the cash and I might as well just roll their retirement account into my own.” I mean, that seems like common sense but it’s the exact opposite. It has to stay in the decedent’s name or it could really blow up on them.

RS: It would completely blow up. That’s definitely a move people should not make, they should not roll that inherited account over into their own if they’re a non-spouse beneficiary. They need to retitle. That’s a big key step to know.

JA: When it comes to spouses, what would you talk about in regards to keeping it, let’s say in the decedent’s name, or rolling the decedent spouse’s into their own?

RS: Well one of the big things is whether the surviving spouse is younger than 59 and a half. If they’re younger than 59 and a half and if they need that money, if they keep the account as a beneficiary, they can tap it without having to pay an early withdrawal penalty. And that’s true for any beneficiary who is tapping an inherited traditional IRA. So they need to think about that, if they want to keep the money as a beneficiary for a while, and then once they pass 59 and a half the surviving spouse can then turn the account into their own and then it basically just follows the same rule as if they were the original owner of the account. So there’s a lot of flexibility that spousal beneficiaries have.

JA: What are some key deadlines that people should be aware of?

RS: So a couple key deadlines for IRAs, and even Roth IRAs, inherited Roth IRAs, non-spouse heirs must take required distributions if they want to do the stretch IRA, which can really maximize keeping the money in the retirement filter. So if they want to do that they need to start taking distributions no later than by the end of the year after the year the original owner died. And in some cases there might be multiple beneficiaries of an IRA. In that case, you want to consider splitting the IRA. If you don’t split the IRA, then distributions would have to be taken based on the oldest beneficiary’s life expectancy. So if there’s a big difference in ages, say you’ve got a 60 year old son and a 22 year old granddaughter, that 22 year old granddaughter wants to be able to use her own longer life expectancy. So they need to split the IRA and they need to do that no later than December 31st of the year after the original owner died. So that’s another key date to know. And then also if there’s been a charity that’s named as one of the beneficiaries. That share can be paid out and if it’s paid out no later than September 30th of the year following the owner’s death, then the the non-spouse heir can again stretch the IRA over their own lifetime. So there’s a charity involved you want to take care of that share, get that paid out.

JA: So all right, let’s say that someone passes away with a large IRA they have three beneficiaries one is a charity and one is their child and one’s the grandchild. So I pass away and then they have until September 30th to distribute the money out to the charity outright, there would be no tax deal because it’s going to a charity, and then they have until December 31st the year after I pass away, so that it gives them plenty of time then to potentially split the IRAs and they would want to split the IRAs because then they can stretch the tax liability out over their specific life expectancy.

RS: Exactly. And they can also, you know, once they get split, they each own their own piece of the IRA, they can devise their own personal investment strategy, and they can name their own beneficiaries. So it’s really advantageous in a number of ways to split that inherited IRA up.

JA: What do you see the pros and cons of potentially having a trust as the beneficiary?

RS: It can be done. It is possible, you need to make sure it’s set up properly so that if you want to be able to stretch the IRA, so that it can be done. So, it’s a matter of, you know, getting an expert involved. It’s a little bit more complicated, but you can do it.

AC: Rachel, this is Al. It’s interesting. The rules are so complicated when it comes to IRAs, and so there’s rules if you’re a spouse. There’s one thing where you can keep it in the decedent’s name, or put it in your own account. If it’s a non spouse since I want to be really clear. So if you’re not the spouse, if you’re a kid, grand kid, brother, sister, or whatever, that’s a non spousal IRA. So then you’ve got to start taking required minimum distributions and a lot of people don’t realize that even if you’re 20 years old you’ve got to start taking a required minimum distribution.

RS: Exactly. Is a key point if you want to be able to keep that IRA alive. You want to be able to stretch it out for potentially decades, if you’re a very young heir. You need to start taking required distributions. You can also take out more if you wanted to, but if you take out that minimum amount you can keep that IRA going.

AC: Yeah. And that’s also true for Roth IRAs, because of the account owner doesn’t have to take a required distribution, but a non spousal beneficiary does, although it’s tax free.

RS: Right exactly so that’s the big difference. A couple of big differences there definitely. Roth IRA heirs need to realize that they’ve got to take distributions even though the owner didn’t, but those distributions will be tax free. They are taxable income. If it’s a traditional IRA. So that’s one advantage that you have to take distributions from an inherited Roth IRA.

JA: Rachel, this is great information. Where can our listeners get more information about you and read up on what you’re currently doing.

RS: Kiplinger.com is a great resource if you go to the retirement section. Our coverage shows up there and you can search by different topics IRA security that kind of thing.

Segment 3

16:06 – AC: Joe, I’ve got an unfortunate statistic right now and that is somewhere around 30% of Americans 55 years and older have neither a pension plan nor a dime saved for retirement. Almost a third.

JA: One third of people 55 and older do not have a pension plan or a dime saved, so 100% of their retirement income comes from Social Security.

AC: And this is not a, you know, back of the envelope study, this is the U.S. Government Accountability Office, it’s their study. And so we know that a lot of folks that are getting close to retirement are ill prepared. And Joe, I would say at this time of the year particularly after the beginning of the year, New Year’s resolutions. There’s some mistakes that you want to avoid. And this is certainly true if you’re right near retirement. But this is really true for everybody. But you know these are mistakes that we see those 55 years and older making, and Mistake #1 is underestimating longevity, because right now people are living a lot longer. A lot of folks, I mean, how many times do we have people come into our office that say, “I’m going to live probably until 75.” “And where do you get that?” “Well that’s when my dad died or when my mom died.” And it’s like, well that was a generation ago. You can almost add five to 10 years to that. I mean as an average.

JA: And then if you take a look at their balance sheet, people that say that, do you think they have a lot of money, or very little?

AC: Usually not enough.

JA: Right, because they’re just conning themselves.

AC: It’s like, “I don’t have to save because I know I’m going to die early.”

JA: “I’m going to die in my 70s so I don’t need to save.” And then the people that have actually done a good job saving, it’s like, “you know what, I want this thing the last till I’m a hundred.”

AC: Yeah exactly. And so just look at the stats. 65 year old individual. So, male? The average or the midpoint, they live till 84. Female It’s like 88. You know give or take. That’s the midpoint, which means half pass earlier, but half live longer. So now I honestly think if you’re not planning out to age 95 or more, you’re missing the whole point here because we are living longer. And guess what. By the time you get there chances are we’re going to have more medical advances and we’re going to live even longer. So if you think you’re going to live till 72. I had actually had a case this was like three weeks ago. A lady said “yeah I’m going to live till about 72.” And she was whatever 68. Four years. Yeah. And why? “Sisters, mothers, they passed away, so that’s when I’m going.”

JA: Now how could you live like that. I’ve got four more years. It’s like, come on, really?

AC: But I guess the point of this is you may be living a long time in retirement which is actually a good thing. But the flip side of that is you’re going to be living a long time in retirement. So you need to have the resources to be able to cover your lifestyle. Save save. You’ve got to save.

The second mistake, Joe, is overestimating your wage earning years, and they’re talking about Social Security. Saving for retirement is hard because it always involves forgoing instant gratification. Current spending is changed for accessing those funds at a future date. Right? But when you look at the 2015 survey from Voya Financial, they found three out of five workers were unexpectedly forced to retire early. And we’ve talked about this before, and you think well how does that happen? Well, there’s so many reasons – it could be your own health, but it may be your parents or your spouse’s health. You’ve got to take care of them, or maybe the job has passed you by. And younger people are taking over or maybe your company downsizes or goes out of business.

JA: You’re depressing me Al. I mean that’s the truth. It’s scary. And everything else. I mean we’re not trying to put fear, we just want you to wake up and say you know what? Hey, do I have enough capital? Should I start saving? 2017 is a good time to start this.

AC: Right. And other one, of course, is saving too late, and we get this all the time it’s like, “well, wait, I’m 64 years old, I don’t have anything.” So what should they do. Well, it would have been better to start earlier. But the truth is, you can improve anyone’s situation and the situation can be improved by starting today. But certainly, if you can start earlier it makes a lot of difference for you.

JA: But you and I have done studies Alan with people that don’t have anything saved in their 60s. And they still have a very comfortable retirement because it’s like OK now it’s time to save. You’ve got to work longer than you probably anticipated. Right. That pushes out your Social Security. It’s never ever too late to start. Because I think a lot of times they feel this sense of hopelessness. So like “well I’m going to work until I drop and then that’s it.”

AC: So they don’t think about it. And the truth is if you find it impossible to save start at least small, just get the ball rolling. And if that’s 3% of your salary start there, and then gradually increase that. Now this works better if you’re younger, but even if you’re older. Go ahead and start doing this right now to put yourself in a better position.

So here’s another mistake is putting your kids above yourself. How many times have you seen that? Happens all the time and I think there’s there’s two key ways this happens. One is the parents pay for all the college, all these student loans, and they’re paying student loans off in their retirement. The second way is the kids move back home and they never get off the payroll. Right? And so what you’re doing is you’re funding their lifestyle to the detriment of your own retirement which means that you’re going to have to work a lot longer or you’re going to really have to have a much lower lifestyle in retirement.

JA: I’m just going off of memory but there was a study of how much the parents were paying for sports, right? A couple of thousand dollars a month. And when they looked at the people that were paying the most, they had nothing saved for their college, and zero saved or very little saved for retirement. Because junior’s going to be the next Derek Jeter. Right. The guy can’t hit a ball to save his life but he or she is going to have a full scholarship to go pro and take care of me.

AC: So that doesn’t that doesn’t always happen in fact rarely. And the fifth one Joe is not diversifying. So you got some savings, but you put the whole thing in the bank. And in a CD you’re making .4%. It’s not going to get you anywhere in terms of growth. And inflation has been tame lately but if you look at the last hundred years inflation certainly over 3% closer probably to about 3.5%. And it’s coming back at some point and if you got your money in just savings accounts not earning anything, and you’re going to live a longer time in retirement. This isn’t going to work out.

JA: I think the flip side of that coin is that, you and I see this more with higher wage earners that don’t have a lot of money saved, then they’ll roll the dice on one stock or one investment idea. It’s like “well here I need a lot larger rate of return than 6%. So I’m trying to go for broke just to try to catch up that way and they’re taking out way too much risk. So there’s risks on either side of the spectrum and just figuring out, well here, what’s a reasonable expectation of return, and then constructing that overall portfolio to meet your goals and needs. I mean it’s that simple I know it sounds simple but it’s not easy to execute because you’ve got to be a little bit of work.

5 Ways to Become an Extreme Saver

23:51 – JA: This year we got tax chat with Big Al coming up, it’s gonna air at 2:00 in the morning.

AC: Because it will put you to sleep guaranteed.

JA: You like the lists when you get your research for the show.

AC: I do. I just type in “list.” “Retirement list” and see what pops up. (laughs)

JA: What’s the next list we got?

AC: You want another list?

JA: Yeah because they’re so depressing. Here’s the five things that you’ve got to do. People are broke. They’re living longer. All their money is going to go to long term care.

AC: Well I can tell you I can tell you how to become an extreme saver in 2017.

JA: All right extreme. Spend less than what you make.

AC: Yes and save more. Done. (laughs)

JA: What’s extreme that got your eye?

AC: It did get my eye. There’s all kinds of tips here. So here’s number one. And these are kind of basic, obvious, but I think they’re they’re worth repeating, which is treat your savings funds like any other bill. In other words you pay your mortgage, you pay your utility bill. Make sure that you pay yourself in your savings account each and every month. Be as serious about your savings as your mortgage payment. Pay yourself first. So we’ve said that before. It’s a good thing.

JA: Some people need to have these analogies, or you know, to be put in that mindset. Well for most of us we’re not not going to pay our mortgage payment, because there are severe consequences that happen there. You’ll be homeless.

AC: And if you don’t pay your utility bill the electricity is shut off the water bill and so forth, cable, you don’t want to miss your TV shows, right?

JA: Oh my God. I was just remembering this couple, hypothetically, that and I was sitting down with and this individual made a ton – $400,000 bucks a year, spends everything. And we’ve seen that before. Oh they have very little savings, mortgaged up to the hilt. Right. And he blew up his retirement account trading options OK he took distributions are paid the tax treats him like he totally didn’t know what the heck he was doing right. Didn’t tell the spouse. Right. So we’re going through it and was like OK well here you make 400000. This is workable. You can do this right. Right. And then we’re going through their expenses. Right.

[00:26:16] Joe: And then we’re going through their expenses. Right. So they’re not extreme savers. They’re extreme spenders. Yes. And she’s like, well, yeah, well, you got that Pandora extra.

[00:26:26] Al: And I was like, are you kidding me? Cash an extra 30 a year. It

[00:26:29] Joe: was like, what? That’s like six bucks. No, that’s not, that’s not putting you over the edge there, honey. Oh

[00:26:39] Al: boy, you know what it is, yeah, then it becomes marriage counseling, doesn’t it?

[00:26:43] Joe: That was all that was. It was like, I’m not licensed for this.

[00:26:47] Al: I’ll try my best, but I’m, yeah, that shouldn’t be our job. Here’s another one, automate your savings program. Have you heard about 401k, 403b? Boy, do the, automatically, comes out of your pay, you don’t even miss it. Yep. Now, a lot of companies don’t have 401ks, or organizations don’t have 403b’s, so just do it yourself.

Have an auto withdrawal from your checking account into a savings account that you don’t have a debit card for. Right. So it’s hard to get the money out. That’s the point,

[00:27:14] Joe: right? It just pauses you when you want to try to have an impulse buy. Right. You know, uh, the, the, the invention of the four one case is such a great thing and you know, all this BS I hear too, but all right, well, this 401k has, you know, this, fees and we’re going to sue and this and that or whatever.

It’s like if you have a 401k that has a little bit higher fee than another 401k, trust me, that’s not your biggest worry because you have a plan that you can put money in out of sight out of mind that’s pre tax or after tax if you have a Roth plan, right? That will give you automatic savings. Right, Alan, two people, two individuals, one person worked for a company for 35 years making let’s say 70, 000 was the peak earning years, but worked for a company for 35 years that had a 401k.

[00:28:00] Al: Sure.

[00:28:01] Joe: Let’s say you have another individual that made 200, 000 a year at another company. Right? Sure. But did not have a 401k. 35 years later, who do you think has more money saved? Yeah, likely

[00:28:12] Al: the one with the 401k.

[00:28:13] Joe: Absolutely! Every single time, because it’s out of sight, out of mind. It’s, so, yeah, I mean, then you can get in the nitty gritty about, all right, well, this has 25 bases higher fee than this one.

I mean, that’s a lot of money.

[00:28:25] Al: I mean, I think it’s going overboard a little bit. It is. You got to save in the first place. So here’s one that would, maybe it applies to you. Marry well.

[00:28:32] Joe: Yeah.

[00:28:32] Al: Very well. I’m going to try

[00:28:34] Joe: to.

[00:28:35] Al: Still out there. Sure. Uh, it helps to marry someone well off, but no, that’s not what we’re talking about here.

We’re talking about make sure your spouse or future spouse feels the same way about saving as you do, right? You’re a saver. You married someone that. Isn’t. That might not be. Or maybe if you’re a spender, maybe you want to marry a saver. Maybe you want to have someone different. Give you some discipline.

Yeah, they will blow each other out. Like, uh, Cat Stevens, looking for a hard headed woman.

[00:29:02] Cat: (music plays) I’m looking for a hard headed woman.

[00:29:04] Al: Yeah, that’s what, if you’re a spender, maybe that’s what you gotta do. Or a gal with a guy, whatever, doesn’t matter.

[00:29:12] Joe: Cat Stevens. I’ve thrown out a little vintage Cat Stevens.

[00:29:14] Al: Yeah. Start saving small amounts. We actually talked about this last segment. Maybe it’s, it’s hard for you to save 15 percent of your salary. Which, by the way, is what we would recommend. That, that would be a goal. But you’re not there. You’re, you’re 31 years old. You’re 40 years old, whatever. You’re not saving anything.

Start with 3%. Next year, bump it up to 4 or 5%. Then 6 and then 8. 8, 10%, get to that point. But the thing is, you got to start. And if you don’t start, it will never happen, right? And if you, if you do that 3%, all of a sudden you won’t really miss it. It’s amazing if it’s not in the checking account, you, you’ll still eat, you’ll still pay your bills, you’ll figure it out, right?

Absolutely. And, uh, so anyway,

[00:29:56] Joe: I think people will, you know, if, if they, Lost their job. People aren’t survivors. You know what I mean? And especially people that make a ton of money that don’t have anything saved. That’s who I worry about. It’s like, all right, you’ve been living high on the hog here. We have professional athletes that are, right, just trying to figure out the budget.

[00:30:16] Al: Right. Right? It’s, it’s crazy.

2017 Social Security Changes

[00:30:20] Joe: Um, hey, Social Security’s got, what, a couple of different tweaks, huh?

[00:30:21] Al: Well, every year they, they, they have some changes, and I guess if you look at updates for this year, Joe, there is an increase, uh, but. Speaking of sexy, that’s from, Mary Beth Franklin. That’s right, huh? It is from Mary Beth. How’d you know?

[00:30:38] Al: So, our increase, Joseph, uh, is 3 percent, uh, which, to put in, um, in dollar terms, the average retirement worker will get a 5 monthly benefit increase. Killed it. Five. Five dollars. There you

[00:30:52] Joe: go. PBR me. A C B.

[00:30:55] Al: PBR.

[00:30:56] Joe: PBR.

[00:30:57] Al: That’ll buy you a case, right? Yeah. A month? At least a can. At least a can.

But here’s the problem. The Medicare premium for the average went up about 4 a month. Solid. So you’re only getting a buck. Yeah. So you might not even get a can of PBR. Yeah. Right? Maybe a six ounce draft

[00:31:15] Joe: at the local drug store. Dive bar.

[00:31:19] Al: Maybe. Maybe. I think you get a sip. Like on a Sunday from 1030 to 11. Special. Super special. You gotta hurry up and get there. Oh, we

[00:31:30] Joe: did that. So I worked at a bar in Gainesville, Florida. I went to the University of Florida. Yeah. And so we did Sunday

[00:31:35] Al: morning church

[00:31:36] Joe: special? We had, well, NASCAR. Big NASCAR people back in Gainesville.

Okay. So yeah, we would sell these Molson, Molson Ice. Yeah, I mean, it was just awful beer. Wow. I’m sorry. I don’t mean to offend anyone that enjoys Molson

[00:31:50] Al: ice. All our listeners. What are you talking about? What are you talking about? Molson

[00:31:53] Joe: ice. Oh, it’s cheap. It just stunk. You know? And it was like six bucks for like this little six ounce drafts.

Okay. Place is packed. Packed. And I’m just by the, just pouring six ounce drafts all day long.

[00:32:08] Al: Six ounces.

[00:32:09] Joe: Okay. And I probably poured 10, 000 of them. Yeah. Made eight bucks.

[00:32:14] Al: So, hence, you decided to go into financial planning. Yeah. Right. And start your career.

[00:32:19] Joe: Six ounces for, I think it was, yeah, for a buck. For a buck.

[00:32:22] Al: Well, see, there you go. Yeah. So, you go back to Gainesville and get that. There you go. Watch, you can be on NASCAR. With that buck that you get. Yeah. 1130 to, 1030 to 11 special. Now, what they’re saying is this is the smallest annual increase since the automatic cost of living adjustments began in 1975, although there was actually three years where there was no increase.

So I guess you really have to count those. 2010, 2011, 2016, there was no increase whatsoever. Well, because there’s no

[00:32:49] Joe: inflation.

[00:32:50] Al: Right. That’s exact. Because it’s calculated based upon inflation. Well,

[00:32:52] Joe: I’m going to get an email from that. What? You don’t think there’s inflation? Well, do what you’re According to what the CPI index.

[00:33:01] Al: Yeah, that the Social Security Administration uses. And you can argue it’s not a true reflection. And I would

[00:33:07] Joe: agree with that. Yeah.

[00:33:08] Al: We could, yeah. Me too, actually. But anyway, that’s how they do it. So how about this? The, uh, for high income workers, Joseph, the, uh, the FICA tax wage base went From 118, 500 to 127, 200, went up about 8, 700.

So that means that, like, let’s say you make 150, 000. Last year, your Social Security was only withheld on the first 118, 500, and then there is no Social Security after that. Now it’s 127, 200. So in other words, more of your money, more of your wages, are going to go to the Social Security Administration as a high wage earner.

[00:33:49] Al: ell yeah, that increase was, what’s the percentage? That’s a pretty large percentage. That’s about a 7 percent increase, give or take, 6 maybe. Anyway, um, now I will say the Medicare part of Social Security. So Social Security, by the way, that’s 6. 2 percent of your wages. So if you make 100, 000, 6, 200 is withheld for Social Security.

The Medicare part is 1.45%, so make a hundred thousand dollars, that’s $1,450. Now there is no cap on Medicare, so I don’t, you know, you’re an athlete and you make, you got this big contract, 10 million bucks, you gotta pay the 1.45% on that whole $10 million. Although the 6.2 social security part, that only goes now to the 1 27 2.

[00:34:36] Joe: Well, with the Affordable Care Act too, isn’t there another increased premium on that?

[00:34:40] Al: That’s right. And so for a single taxpayer, over 200, 000, you got to pay an extra 0. 9%. And for Call it one. Yeah, call it one. Okay, good. I like how you round. Yeah. And then a married couple, that’s, it’s over 250, 000.

So yeah, you got those amounts as well. Um, 2017, uh, social security beneficiaries that are under under for retirement age, there’s a certain limit as to how much earned income they could have.

[00:35:10] Joe: So 62 to 66, let’s say, if you take it early, you take that permanent haircut, but also if you have earned income, they’re also going to reduce that

[00:35:18] Al: threshold.

That’s right. And so For 2017, it’s one, it’s 16, 920.

[00:35:24] Joe: So 17 grand versus

[00:35:26] Al: 15. That’s

[00:35:26] Joe: right.

[00:35:26] Al: It went up about 1, 200 last year. So in other words, you can now earned income. Let’s explain that. That’s if you have salary, that’s a job. That’s if you have a business that you’re involved with, the self employment that’s earned income.

Now you can be 62 and make a million bucks, but it’s from investments or whatever, then that’s not necessarily earned income. You still get your full social security. But. If you are working, you’re 63 years old, and you’ve got a job where you’re making 50 grand a year, well, you don’t need to take your social security because you don’t get any anyway.

Family, Inc. With Doug McCormick

[00:36:03] Joe: Hey, got a great guest, big Al. We got Douglas McCormick on the line.  Family Inc.

[00:36:04] Al: Family Inc. Great book. It is a great book. It’s all about families and what they ought to be doing with their finances. I mean,

[00:36:10] Joe: it’s just looking at it maybe with a different lens when it comes to a family CFO. I mean, you’ve been a CFO of many companies.

I have and of course

[00:36:18] Al: that’s why I can relate to the book because I have been a CFO and I think the CFO function is, is critical.

[00:36:24] Joe: Douglas, welcome to the show my friend. Hey,

[00:36:27] Doug: thanks very much. Glad to be here.

[00:36:28] Joe: Hey, well, tell us a little bit about yourself and what made you write the book Family, Inc

[00:36:35] Doug: Well, I think in many cases my life experiences is a product of why I think a framework like family needs to exist So, you know, I’m a undergrad from West Point I was an active duty army officer for five years and after that time decided that You know, a military career was not for me and so I went back to business school at Harvard and I graduated with a master’s degree in finance and then, um, worked, um, on Wall Street for a couple of years.

And, you know, really, in spite of all that great experience, never had, um, what I consider to be a good kind of foundation in, in personal finance. And so I think, uh, today, it’s one of the biggest problems in America is financial literacy. And our Traditional education system is not doing a good job of of teaching these principles And so for me the family inc, uh kind of framework if you will is an elegant way to help people think about All the competing choices that they have out there with um, their their assets and their their finances,

[00:37:32] Joe: you know There’s probably At last count and personal finance books.

There’s so many of them out there It’s like if I wanted to get an exercise book or fitness book. I mean, that’s a trillion dollar industry instead of Still, we have an obesity problem and there’s billions of books out there when it comes to personal finance and we still have a, you know, financial literacy problem. Why is your book different?

[00:37:53] Doug: Well, I think, my objective is not to give you answers, but to teach people how to think so they can get their own answers. And you know, the, the, I think the, what is unique about Family Inc is the fact that it provides people a framework and essentially just to, to, for the listener’s benefit.

The premise of the book is that, um, All families could look at themselves like a business, and each family has predominantly two big assets. They have their labor assets, and they have their financial assets. And the name of the game is to manage those assets, to, you know, do all the things you want to do in life, and when it comes time to retire, to have kids.

You know, capital to support your consumption. And I think the great thing about that framework is, you know, businesses have been dealing with these kind of decisions, um, for many years. There’s all kinds of good established best practices. And when you look at the family that way, it really allows you to borrow many of those tools and best practices that have been kind of time tested in business.

[00:38:48] Al: Doug, uh, give us, give us a sample of some of the things that families ought to be looking for or looking to do. Okay.

[00:38:54] Doug: Well, um, let me give you some of the big, big mistakes in my mind. First of all, I think you can’t really talk about financial independence or financial security if you’re not thinking about how to maximize your labor potential.

And you know, when’s the last time financial advisors, uh, proactively talked to clients about, are they managing their career? Are they making good investments in things like education or entrepreneurship? Um, I think another thing the book does a good job of is helping people focus on the right timeframe.

So for example, when you think about Um, how your career is going, or you think about your investment returns. Everybody wants to talk about this year or next year or last year. And the reality is, um, that game is a many, many year game. And so to think about your performance, not, um, in terms of how you got paid this year, but in terms of lifetime compensation, I think that’s a very important change in time horizon.

[00:39:47] Al: Yeah. I think it’s also about, uh, decisions that you’re making as you go along. Sometimes little decisions can make a big difference. Yeah.

[00:39:54] Doug: Absolutely. Um, and you know, I think one of the things I really preach in the book is a family CFO’s job is much, much broader than simply how you manage your investments or how you budget.

You know, it’s things like managing your risk. It’s things like training the next generation in the family to be good stewards of your capital. And it’s things like investments in education and, and entrepreneurship.

[00:40:17] Joe: You know, how you calculate net worth, you’re taking a look at You know, the value of their labor, you know, that’s a pretty interesting way to look at, you know, someone’s overall net worth.

By doing that, what changes do you think people would make?

[00:40:32] Doug: Well, I think first of all, it highlights, um, a really interesting circumstance for many Americans, which is your largest asset is likely your labor. And for you to really accumulate wealth, um, you’re likely to do it because you’re making good decisions about your labor.

Um, and I think, you know, the other thing that’s interesting about that. That paradigm is, it demonstrates that for, um, young people who have the least financial capital, in many cases they have the most wealth because they’ve got more time, you know, kind of available to make decisions about, um, their careers.

[00:41:04] Joe: You know, when you look at it, Alan, I see many, many people, and it’s like we ask them, it’s like, well, what do you think your biggest asset is? You know, we live in Southern California, and nine times out of ten, what do you think people tell us? It’s their home, right? But it’s their ability to earn an income.

It’s the 200, 000 income that they have, and they don’t necessarily look at it as an asset in what that potential asset can do for them in regards to wealth. So I think if people looked at that a little bit differently. Um, maybe the, you know, the financial crisis is that we’re going to see people approaching retirement with barely a nickel to their name.

Um, we might be in a little bit better spot.

[00:41:46] Doug: Yeah. I think the other thing it, it does is it helps you, um, I think more rigorously think about. Um, what the right asset allocation is and what the right risk profile is. So in, in the way I look at net worth, it’s not only, um, your labor value, but I include things like your health, obviously, but also your expected social security.

And we can debate the value of your labor. We can debate the benefits of social security, but I think in aggregate, we can all agree those are real assets for the family. And so, you know, one of the byproducts of the framework for me is I, I generally recommend folks embrace more equity exposure than, uh, traditional.

Advisors would suggest and I think that’s because when you look at all those assets, labor and social security behave much more like fixed income or or an annuity than they do an equity. And they really are assets that I think the family gets to use over the course of that.

[00:42:38] Joe: You know, I would, I would agree with you a hundred percent.

How, how would you calculate that? So for our listeners is saying, all right, well here, maybe I shouldn’t be, you know, now that I’m retired collecting my fixed income. Maybe I have a small pension, social security, but I’m also maybe heavily weighted in, in debt. In, in fixed income bonds, cash CDs, how would they look at that?

Maybe a little bit differently from a numbers perspective is say, all right, well, here I have a certain dollar figure when it comes to my social security. How would you do that calculation to see what would be the appropriate asset mix in regards to equities?

[00:43:11] Doug: Yeah. So, um, you know, both social security and labor, you can roughly calculate similarly, which is you kind of make assumptions about either how long your working career is or, um, how long you’re likely to live based on, you know, some kind of published life expectancy table.

And then you project, you know, what is your either your future income and some kind of growth rate and some kind of tax rate. Or in Social Security, you project what your future benefit is, and you essentially discount that back, um, with some adjustment for inflation. Uh, and so what I would tell you is, um, First of all, on FamilyInc.

com, there’s calculators for both your labor and your social security, so I’ve tried to make that relatively easy. The second is, I promise you, the estimate you come up with will be wrong, and it’s less about projecting a specific number, and more about thinking about that asset in the context of your overall plan, because it’s going to be directionally right.

[00:44:05] Joe: Great. And, um, one last thing. West Point. Go on a little Army Navy game?

[00:44:13] Doug: Oh man, I tell you what, um, I, it was a long time coming, and I’m very happy for the win. Having said that, I’m going to do my best to be humble because we are 1 15, and so, um, I’m going to take my win and hope that we’re on a good trendline.

[00:44:27] Joe: It was a phenomenal game, man. That was, um, yeah, I was definitely, um, rooting for, you know, we’re in San Diego, so we’re a big Navy town.

[00:44:35] Doug: Yeah, sure, sure. You know, but a big military

[00:44:38] Joe: town, I would say. It was

[00:44:39] Doug: a great game, and I’ll tell you, I think the thing that’s even better than the game is the school spirit and the way these young men and women, um, you know, really, um, embrace what is best about our country.

[00:44:51] Joe: One last thing, I guess, is that we have a lot of military that, um, You know, that live here in San Diego. And when you look at that, um, and of course you went, um, you served our country, which thank you very much for doing that, but I think military individuals have a little bit tougher time when it comes to, um, you know, when it comes to financial planning and financial literacy in a sense, because they might be traveling and then maybe they’re married and maybe the spouse can’t work because they’re constantly moving.

I mean, I mean, what’s, what advice would you give our service men and women here?

[00:45:26] Doug: Yeah. Well, first of all, thanks for asking. One of my primary objectives for doing the book is, uh, to support the military community, um, and the veteran community with, um, a good framework to help think about navigating transition.

And I think first of all, the big thing I’d say for the military community is you have to acknowledge that your circumstances are different from mainstream America. And so your plan must be different. And you mentioned some of those, some of those differences, you know, 83 percent of veterans will transition, uh, pre retirement with no retirement benefit.

Um, most veterans, uh, start a family slightly earlier. They have a less professionally developed network because of frequent moves given the military. Uh, and in many cases, the spouses are unemployed or underemployed. And so understanding all those things As well as the unique assets that veterans have, like this tremendous experience in the G.I. Bill, um, you know, they, they can have, you know, what I believe to be, um, really good economic prospects, but it really starts with understanding those differences. I think the family work framework, um, can also be applied to their circumstances.

[00:46:29] Joe: Um, here’s what I want to do. Anyone that has served our country, um, and call our number.

I will buy you personally a book of Family Inc. Uh, here’s the number, 888 994 6257. Call that number, um, and then Alan will buy that book. Oh, it’s got iTunes. For anyone that has served our country. It’s a great read, and it’s so logical. Doug, thank you so much for your service. Thank you so much for writing this book, and thank you so much for your time today.

[00:47:02] Doug: Hey, thank you for the kind words and the very generous offer for our veteran community. Appreciate it.

Answers to Money Questions

[00:47:08] Andi: Joe and Big Al are always willing to answer your financial questions. Email info at purefinancial. com

[00:47:16] Joe: Favorite part of the program is that we’re about to take some email questions from a little site called Investopedia.

You ever check it out? I mean, it’s a pretty good site. they send me questions, they say, Hey, some people submitted a bunch of questions. Can you answer them? I say, sure. We say it on the air. And then we have a little talk because some of these questions are kind of funny.

[00:47:39] Al: They are funny. And some are, some are, I’d say in most cases we don’t quite have enough information, but we do our best with what we have.

Yeah. So we can stretch these things out. Or you can just switch the station right now.

[00:47:52] Joe: Sure. But I think most people love this stuff, Al, because they might have a similar question.

[00:47:55] Al: Well, you’re right about that. And they, maybe they’re afraid to ask.

[00:48:00] Joe: All right, let’s, uh, let’s get to this.

[00:48:02] Al: Okay. What do you got?

[00:48:03] Joe: All right. I am currently contributing a company sponsored 401k plan.

[00:48:09] Al: Okay.

[00:48:09] Joe: I contribute 8%, annual salary of 60K.

[00:48:13] Al: Okay.

[00:48:14] Joe: Uh, which comes out to 4, 800 per year.

[00:48:16] Al: Okay.

[00:48:17] Joe: Can I also set up and contribute to a Roth IRA? If so, what can I contribute?

[00:48:22] Al: Okay. The Roth IRA, that’s the, the answer’s. Absolutely yes. So Roth, IRA, you can contribute $5,500, uh, per year.

Now if you’re 50 and older, you get a $1,000 catch up. So you can do $6,500. You know what though, Joe? Your 401k there, his, his, his or her 401k may have a Roth option on it. Right? Right. And then in that case, you can contribute if you’re under 50. 18, 000 total. You already got 4, 800 in, let’s call it 5, 000, just easy math.

So you can do it about another 13, 000 in the Roth side of your 401k. If it has that option,

[00:48:57] Joe: like 60 grand.

[00:48:59] Al: I know, but maybe, maybe everything that you make, maybe you listen to the extreme savings segments ago, anyone that asks you a question, he’s going. He’s going, yeah, big L. I want to do extreme savings.

Where

[00:49:15] Joe: should I put it? Let’s do this. Uh, he’s at 8 percent and then he wants to go Roth IRA. I think that’s good. But here, I guess the point of this is if you fully fund a 401k, you can fully fund a Roth IRA if you’re under the income limits.

[00:49:30] Al: Correct.

[00:49:30] Joe: All right. So there’s qualifications for the Roth IRA.

2017, Al, do you know the

[00:49:36] Al: numbers? Uh, no, but it’s, it’s, it’s about 118, 000, I think is where it starts phasing out. Probably

[00:49:42] Joe: 118, 000, 134, 000 for single? Yeah,

[00:49:44] Al: I think that’s the phase out for single. For married, it’s probably 185, 000 They probably increased it a buck. We know last year, so we’re adding a thousand to it.

[00:49:52] Joe: Yeah. Yeah. All right. All right. So, um. So that’s a good point is both plans can be funded. Also,

[00:50:02] Joe: spousal plans. So let’s say this is that you have one spouse working one that is not working, right? You contribute to your 401k. You can also contribute to a Roth IRA. Your spouse that’s not working. Could also contribute to a Roth IRA, even though that that spouse doesn’t have earned income.

[00:50:20] Al: Yeah. Yeah. You can use the spousal income. So in this example, let’s say he or she is under 50. So that’s 18, 000 into the 401k, 5, 500 into a, his or her, uh, Roth IRA. And then the spouse could do 5, 500. So man, now we’re up to about 29, 000 bucks. If you want to into retirement accounts.

[00:50:42] Joe: Are stock dividends and stock splits taxed?

[00:50:45] Al: Okay. Uh, that’s the question. That is the question. Stock dividends are taxed. Uh, and I, they may be referring to, I got a, I got a dividend in a stock, but I’m reinvesting it. Maybe that’s what they’re thinking. And so when that happens is it’s as if you receive the cash and then put it back and bought shares.

That’s how this works with stock dividends. So yes, those are taxable. And, uh, What was the second part? Stock splits. Stock splits. Stock splits. No. There’s no taxation on stock splits. Because

[00:51:13] Joe: nothing really happens.

[00:51:14] Al: Yeah. What, your stock price changes. So, so let’s say you got 10, 000 shares, uh, and it’s a dollar share, 10, 000 bucks, it splits.

Now you got 20, 000 shares, but now it’s 50 cents a share, right? So that’s, that’s how it just changes the amount of shares that you have, what they’re worth and your cost basis per share. Everything just changes. Pro rata.

[00:51:34] Joe: Right. The dollar figure doesn’t change, so there would not be a taxable event.

Correct. Because, as Al said, let’s say if it’s a dollar share, 10, 000 shares, that’s 10, 000. Well, it splits. Now it’s 50 cents a share, and you got 20, 000 shares, you still have 10, 000 of value.

[00:51:52] Joe: Yeah. Right. Exactly. There’s, yeah, there’s no taxable consequence there. But yeah, the good point with stock dividends is that they don’t necessarily, most people don’t realize it until they get that 1099, right?

From the custodian or the company until the, it’s just like, well, I didn’t receive any income.

[00:52:05] Al: Yeah. Why do I have to pay tax? Why do I have to pay

[00:52:06] Joe: tax?

[00:52:07] Al: And so those, those stock dividends. Yeah. And, and so here’s, what’s interesting. People don’t realize this when you’re, when you’re reinvesting. It’s like you’re, you’re taking that income and buying back into that same investment.

And so then when you sell it, your cost basis is going up because you’re investing in it each and every quarter, let’s say, as you receive those dividends. So I’m

[00:52:26] Joe: just going to say, so you

[00:52:27] Al: bought an investment for 10, 000 bucks and, and five years later you sell it. Well, maybe your tax basis is 11, 000 or 12, 000 because of all these stock dividends. So

[00:52:38] Joe: Yes, it’s taxed, but it also increases your tax basis.

[00:52:41] Al: Yeah, yeah, which is kind of a weird term, but that’s true. So it means when you do sell that investment, you’ll have less gain. Right, because you already paid some tax on it. You

[00:52:50] Joe: kind of pay tax along the way. As

[00:52:51] Al: you go. A

[00:52:52] Joe: couple of things, too, with dividends. It depends on what the portfolio looks like. Because you’re only taxed on dividends if it’s outside of a retirement account.

[00:53:01] Al: True.

[00:53:01] Joe: If it’s inside your IRA, 401k, and there’s dividends that are distributed, and then you reinvest those dividends, it’s a tax deferred account. You’re not going to pay taxes on that until you distribute money from the account, then you’re taxed at full, I mean, ordinary income.

If you have qualified dividends, now you have a special capital gains rate. Okay. Yeah. Versus non qualified dividends.

[00:53:22] Al: That is true. And that’s a fairly new concept, Joe. Maybe, I don’t know, a decade ago we qualified dividends came. It was during President Bush, George W. Bush. This new concept, maybe it was 15 years ago, I don’t know, where a dividend that you receive from a U. company gets preferential treatment, gets preferential capital gain treatment, which is a lower tax rate. Tax rate for capital gains for most people is 15%. Some people pay 20% if they’re in a high bracket. Some people actually pay nothing if they’re in a low enough tax bracket, but that’s a lot better than the regular tax rates that currently go up to 39.6%, so, so to get that preferential treatment is great.

Now, that’s if it’s outside of retirement account. If it’s inside of your retirement account, there’s no preferential treatment. When you take money outta your IRA or 401k, it’s taxed as ordinary income. In all cases, unless I should, shouldn’t say all, unless you have basis. In other words, maybe you open up an IRA where you, where you were not allowed to take a tax deduction so that when you pull money out of that IRA, not all of it’s taxable because you didn’t get some benefit when you put the money in.

[00:54:27] Joe: There’s another case too. Okay. If I have company stock inside my 401k plan.

[00:54:33] Al: Oh, that’s true.

[00:54:34] Joe: And you, Hey, you want to go there? I

[00:54:35] Al: guess

[00:54:35] Joe: so. What the hell? So in two minutes or less. Yeah. But, uh, yeah, so let’s say if you have company stock inside your 401k plan, another strategy that you could do is you could take that stock, right, out of the 401k plan, put it into a brokerage account, you pay tax on the basis, so whatever you paid for, let’s say you paid a dollar share, And now it’s trading at 10 a share.

Well, if you move the share out, you pay a tax on a dollar, but there’s still 9 of appreciation because now the stock is worth 10 a share. So you pay tax on the buck, but then that 9 of appreciation now is taxed at capital gains rate versus ordinary income coming out of the retirement account. So net unrealized appreciation is another phenomenal strategy to get that tax diversification that people need, in regards to creating that income in retirement.

[00:55:24] Al: Yeah, Joe. And, and that’s. That has to be a 401k only. It can’t be company stock in your IRA. And if you roll over your 401k to an IRA, that strategy is lost. So if you are near retirement and have company stock, net unrealized depreciation is something that you absolutely want to think about.

[00:55:40] Joe: I have an interesting one here.

Okay. Can I use life insurance like a Roth IRA? Alright, I make too much money to contribute to a Roth IRA. However, I would like to save more in a tax saver manner. The

[00:55:56] Al: spelling’s not that great. Tax efficient manner I think is what they meant. We’ll go with tax saving manner.

[00:56:04] Joe: Sabor. Sabor.

[00:56:06] Al: Sabor.

[00:56:06] Joe: Yeah. I’ve heard I can use life insurance like a Roth. How do I do this? And is it a good idea?

[00:56:11] Al: Oh, that’s a great question. Well, uh, I’ll start with the answer is yes, you can, and then Joe, you can say why it may or may not be a good idea. So, so certain life insurance policies allow you to put more money into them than the actual life insurance premium. So you start building up a cash surrender value and you can, in many cases, invest that How you see fit, it grows inside that life insurance policy.

There is no current taxation. And then you get to a point where you retire. It’s if it’s a big enough balance, you can actually borrow against that. Uh, and that’s tax free. So it’s kind of in essence, like a Roth IRA. And you do hear a lot of life insurance agents talking about this, but there’s some, there’s some issues there.

Yeah.

[00:56:53] Joe: I mean, there’s pros and cons to any type of strategy that you take a look at. So if you look at it on the surface, it’s like Alan, he, you know, I don’t know if you listened to a couple episodes ago, but the big wallet on big Al,

[00:57:06] Al: well, that’s what you inferred. Cause I did a 15 year mortgage and I said, and I’m fully funding my 401k.

401k, backdoor Roth IRAs are just jamming

[00:57:15] Joe: all this money everywhere. Wow, look at the big wall and the big owl. So alright, so big owl, right? He makes a lot of money. And he’s already fully funding his 401k plan. He’s jamming a bunch of money towards mortgage. He’s going to be debt free before you know it.

It’s like, all right, well, where else can I save some money? I really like tax free. So, all right, well here, how about you do this? You can take X amount of dollars after tax, just like a Roth. It can go into an account, it will grow tax deferred. And when you pull it out, it will be tax free. But with this particular strategy, there’s no 59 and a half percent, you know, 10 percent penalty if you pull it out prior to 59 and a half, there’s no.

Limits to your income you can make as much as you want you could fund it with you know There’s no fifty five hundred dollar limit You could put ten thousand twenty thousand thirty fifty hundred thousand dollars a year Into this particular product all of that grows tax free and then when you pull it out you get a tax free income for life Okay, so it sounds great, right?

Yeah, but there’s a cost to this It’s a called the cost of insurance and it’s not as glamorous as it might seem Sound as I just explain it because you have to really dive into the details here. All right, because a first of all It’s an after tax contribution. So if you’re in a high tax bracket, you have to put that into effect If you have other retirement accounts, why don’t you do that and do a Roth conversion?

Right. Because you’re paying tax to get into a tax free vehicle with no cost of insurance. A, then you get into the cost and fees and the structure of the, you know, those policies. They’re very, very expensive. like just the mutual fund charges and the type of investments. Oh, unless you get into like an.

indexed UL or whatever. just a full, disclosure, Alan and I do not sell life insurance, we’re not licensed insurance people, we’re just very knowledgeable about all sorts of different financial planning strategies. There you go.

[00:59:03] Al: Compliance. Compliance. Good job.

[00:59:05] Joe: So, yes, so I think it sold like that. It was like, okay, well here, it’s like a super Roth IRA.

I’ve heard terms like that. Right. Or, you know, they call it, I forget under what section of the IRS code that life insurance death benefit is tax free. So they say, well, what about an HR 147 plan or whatever the code is.

[00:59:26] Al: Is it 419 or 412? The

[00:59:28] Joe: 412Is and the 419s, all those blew up too, right?

[00:59:31] Al: Yeah, you’re right. Yeah.

[00:59:32] Joe: And this is very, common in the, I, I think in the financial planning life insurance world of using these particular products. Sure. You could use a variable universal life and index universal life. I’m not saying that sometimes it may work. I would say 90 percent of the policies that Alan and I have seen with a strategy like that, they didn’t fund them correctly.

exaggerated in regards to, right, how much that that policy would actually earn in form of rate of return.

[01:00:05] Al: Right, because when you get the policy, you get what’s called an illustration that assumes that you are going to earn 8 percent or whatever the number is that the agent put in there for you. And you’re thinking, oh, I’m going to earn 8%.

And you’re right. You’re right, Joe. These, these, uh, life insurance products generally have some fairly high costs, and it’s part of it’s the cost of life insurance. Right, because as

[01:00:25] Joe: I, as I age.

[01:00:26] Al: Right. So

[01:00:27] Joe: the cost of insurance increases because I’m closer to my life expectancy.

[01:00:31] Al: Right. And so, yeah, you, you don’t realize that.

So now you’re 70 ready to start pulling money out. But the cost of life insurance to keep this policy in force goes up each and every year. And so that’s honestly what we’ve seen is, is more often than not. It’s, you know. Quite get the benefit that you thought you were going to get

[01:00:46] Joe: right because a, it might have been illustrated to say, Hey, this thing is going to earn 10 percent gross, but then net of all fees, it’s only like five,

[01:00:57] Al: right?

[01:00:58] Joe: And then they don’t fully fund it, right? Because the illustration shows he, you have to fund this thing by, you know, 40, 000 for the next 20 years. Right. And then guess what? After two years, they stopped doing it. And then they keep that 80, 000 into the overall policy. They got a million to, you know, a couple million dollar death benefit.

So there’s, I would say there’s more cons than pros. I would highly suggest you talk to a independent, like fiduciary that doesn’t sell life insurance because If you go to another life insurance agent to say, Hey, does this make sense? They’re going to say, yeah, but this policy stinks by this one.

[01:01:35] Al: Yeah.

I got a better one. I got a better one. Yeah. I think, is it fair to say that, that most fiduciary fee only financial planners would probably not recommend this? I would say

[01:01:44] Joe: that is equivocally a hundred percent that they would never recommend that strategy.

[01:01:48] Al: Yes, I, I would agree with you, and we are fee only, it’s, because, in other words, there’s no commission to be earned. If someone has a commission Because I can,

[01:01:56] Joe: I, I, I tell you what, Al, is that to, to look at what that individual’s trying to do, there’s better ways to create that income. Plus, let’s say if I have a non qualified account, all right, so the taxation on exchange traded funds, or institutional type shares, or even individual securities, the taxation on that is very, very low.

If you have actively managed loaded funds, right, which I’m sure a life insurance agent might also recommend to you, they have a high turnover and then the taxation on those outside of retirement accounts cause unnecessary tax and it puts a weight down on the overall portfolio. So they’ll say, no, you can shelter it, it’ll grow tax deferred for you, so all that growth will continue to go in the policy.

But nowadays, I mean, you could be extremely tax efficient in your brokerage account by tax lost, harvesting tax gain, harvesting, using different investment vehicles that don’t create that tax. And then, then you look at, all right, well here, do I have a large IRA or 401k or four or three B or TSP balance?

I can convert that into a Roth IRA. And have that grow 100 percent tax free. It will give you the same impact without the huge cost of insurance and all the internal cost and fees.

[01:03:03] Al: Right, because you’re paying for that insurance even if you don’t really want it.

[01:03:05] Joe: Right, you’re trying to create tax free income.

Well, yes, the life insurance contract will do that. But if there’s no need for the insurance, absolutely don’t do this. But if you do need the insurance, it may work for you. May. May. Can I stretch that thing out? May work.

[01:03:23] Al: May work. That’s, that’s right. So,

[01:03:27] Joe: you know, never say never.

[01:03:28] Al: Yeah, that’s true. And, and I’m sure it has worked from time to time.

Our experience is it doesn’t generally work as promised. Yes.

[01:03:35] Joe: I would agree with that statement. Wow, we spent ten minutes on life insurance.

[01:03:39] Al: Yeah, we did. Alright. Didn’t expect to hear what we did.

[01:03:41] Joe: Hey, hopefully you enjoyed the program. Al and I surely enjoy doing it every week. Well, every other week, usually.

We’re having a little energy today. Next week will probably be awful. We’re upset with each other. Yeah, something. Something like that.

[01:03:57] Joe: All right, we gotta go. Uh, time’s up. Hey, have a wonderful weekend. We’ll see you next week. Uh, we got more great guests lined up. Uh, for Big Al Clopine, I’m Joe Anderson. Check out PureFinancial.com for more information about us, and we’ll see you next week.

[01:04:12] Andi: So to recap today’s show, you might want to take Cat Stevens lead and get yourself a hard headed partner when it comes to money. If you’re retirement age, give a big thanks to the folks at Social Security for that extra five bucks a month.

Have And if you want to know all about life insurance from someone who doesn’t sell it, just ask Joe and Big Al. Special thanks to Rachel Sheedy from Kiplinger’s, who taught us about stretch IRAs. And Family Inc. author Doug McCormick, who gave us tips for running our families like businesses. Listen next week for more Your Money, Your Wealth, presented by Pure Financial Advisors, 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.

*Your Money Your Wealth Opening song, Motown Gold by Karl James Pestka, is licensed under a  Creative Commons Attribution 3.0 Unported License.

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