ABOUT HOSTS

Joe Anderson
ABOUT Joseph

As President of Pure Financial Advisors, Joe Anderson has led the company to achieve over $2 billion in assets under management and has grown their client base to over 2,160 in just ten years of the firm opening. When Joe began working with Pure Financial in 2008, they had almost no clients, negative revenue and no [...]

Alan Clopine
ABOUT Alan

Alan Clopine is the CEO & CFO of Pure Financial Advisors. He currently leads Pure Financial Advisors along with Michael Fenison and Joe Anderson. Alan joined the firm about one year after it was established. At that time the company had less than 100 clients and approximately $50 million of assets under management. As of [...]

Published On
April 17, 2017

Show Notes

  • Investor Optimism, Emerging Markets and the Trump Effect (:36)
  • If you have a personal relationship with your portfolio, it may serve you better (10:47)
  • 6 Basic Retirement Questions Most Americans Don’t Get Right (19:57)
  • Your email questions answered (39:32)
    • Can I gift my entire Roth IRA account to a grandchild, and roll all of the tax-free accumulation over to them?
    • I bought a stock in 2013. It is nothing but a total loser. It’s down 70%, and I see no solution, other than to sell it for income tax purposes and deduct my losses. I bought it for $100,000 it’s now worth $35,000. Is selling a good idea?”
    • I understand that IRAs do not receive a basis step-up upon death, but rather the beneficiary will pay ordinary income tax on the distributions at their rate. My question therefore is…What section of the code says this? I’ve already looked in 1014, and I’m basically out of ideas.
    • What happens when I roll over my 401(k)? Can I still contribute to my Roth up to the $6,500 for the year, or do I have to stop for the year, due to adding the money into the new retirement account?

Transcription

Why emerging markets are such a big deal, and what the heck they are. How emotional investing may be a good thing, and basic retirement information you might be getting wrong. This is Your Money, Your Wealth.

Today on Your Money, Your Wealth, investor optimism is at a 17-year high with the Trump Effect and emerging markets, but what does that really mean? Joe explains how being emotionally invested in your portfolio may serve you better in the long run, and 6 basic retirement questions most Americans can’t get right. Now, here are Joe Anderson CFP, and Big Al Clopine, CPA.

:36 – Investor Optimism, Emerging Markets and the Trump Effect

JA: Yes we are back again. Thanks a lot for checking this out. Hey, investor optimism. Highest since the year 2000. Seventeen years, Alan.

AC: Okay, that’s interesting. And of course, we know that was right before the dot-com bust.

JA: 2000-2002 was the worst bear market we saw since the Great Depression. And then we saw 2008.

AC: And that was even worse.

JA: So right before that, so 2000, everyone’s super happy.

AC: Yeah, that’s when it was the new economy, and then the old metrics don’t work anymore, Warren Buffett’s all washed up, doesn’t know how the new market works, or the new economy works.

JA: Yeah, because he didn’t really like the tech bubble.

AC: Right. Turned out he was right.

JA: So 2000 through 2010, the U.S. markets, if you look at the S&P 500, was down around what, 9%. So you started with a million bucks. Ten years later, if you’re fully invested for that 10-year period, you had $900,000 – if you’re fully invested in the U.S. market in that 10-year period. So they called it the last decade.

AC: Right, which, I mean, that would be kind of a cool term to call it, because that’s what it seemed like.

JA: So right before the lost decade, that’s when optimism was at its best. And so we are once again…

AC: Are you predicting another lost decade?

JA: No I’m not, I’m not predicting anything at all. But I think I talked about this a little bit last week, is that there’s a lot of overconfidence right now, going on in the overall markets. And not necessarily the markets themselves, but people that are investing in the markets, just the average everyday Joe, and no pun intended there, but, because – well, let’s take a look at what the market did for the quarter last quarter.

Q1 2017

  • The U.S. stock market was up 5.74%
  • International developed stocks were up 6.8%
  • Emerging markets were up 11.4% in one-quarter, and then…
  • Global real estate was up 1.4

Speaking of best quarters. And I think we had this e-mail question last week, about an individual that was trying to get 40% rates of return. Yes. And unfortunately, it’s very difficult to do, 40%, but I guess if you invest in emerging market stocks, and they continue to do 11% per quarter, you’re over 40%. And I think that’s exactly what I said. I said if you want a really high octane portfolio Here’s what you do. You invest in emerging markets, value, small value.

AC: Yeah you’re right about that. And over the long term, it will likely, not guarantee, but will likely outperform other asset classes, and by long term I mean a decade. I mean this could take years for this to kind of show, but Joe, the problem with that is you could lose 50%, 70% in one year with an asset class like that.

JA: So if you break it down, because the highest was back in 2009, the best quarter ever for emerging markets was back in 2009. They were up 34.7% in a quarter. But also the worst quarter was Q4 of 2008. It was down 27.6% in the quarter.

AC: These are big numbers for a 3-month period.

JA: Huge swings. So if you break down emerging markets, if you really want to get technical here Al, because I know you’re really into these numbers. (laughs)

AC: (laughs) Well I am an accountant.

JA: Emerging markets is about 11% of the global market capitalization. 11%. About $5.1 trillion. So if you look at value stocks in emerging markets, was up 10%. Large cap growth was up 11%. But small was up 13%. So that kind of carried the flag there for emerging markets. How many people do you think know what an emerging market is?

AC: Probably not too many, Joe

JA: Well can you name a couple emerging markets?

AC: Yeah I would say India, Brazil, China, to name a few.

JA: India, Poland, Chile, Korea, Mexico, Taiwan, China, Brazil, Turkey, Malaysia, Thailand, Philippines, Czech Republic, you know things like that, Egypt, South Africa, Greece, Russia. Those are all emerging markets. I would think Russia would be a developed country, but it’s not.

AC: Well, because you know why. It’s because capitalism is new

JA: Ah, that’s it. See, that’s why you’re here buddy. Because they were what? Communists.

AC: Right, and that’s a little different system.

JA: This was something that was interesting, if you really want to get in the weeds here, guess what the top currency performer was, over the dollar, over the last quarter.

AC: Over the dollar. Let’s see….

JA: Yeah you’re not going to guess it. It’s our neighbor Mexico.

AC: Oh OK, I wouldn’t have guessed that.

JA: The peso was up. So all in all, it was a really good quarter. So again, the U.S. stock market was up about 6%. So that’s for the quarter. And we always talk about global diversification. And I think there’s a lot of home bias when it comes to someone constructing their overall portfolios.

AC: Yeah, because we live in America, we know more about America than other countries.

JA: Sure. But I think you’re missing out on a lot of return by not having a globally diversified portfolio, just as this last quarter shows. As international stocks were up almost 7%, and again emerging markets were up about 11 and a half. So a lot of things happen over the quarter. You know we had this Trump effect, you know, Donald Trump was now our new president. But everyone was still talking about the U.S., not necessarily what’s going on around the globe.

AC: True, good point, and I think going back to your story about the lost decade, you look at international stocks and emerging markets, over that same 10-year period, they did rather well. And if you had a globally diversified portfolio from 2000 to 2010, maybe 60% in stocks, you probably got 5 or 6% compounded, which is a lot better than losing 10%.

JA: Right. So I guess going back to this optimism in the overall markets. If we just take a look at, the total U.S. stock market for the past year is up 18%. Large cap is up 17%. Large cap values up 19%. Large cap growth up 15%. Small cap is up 26%. Small cap values up 29%. So these are huge returns that we’re seeing over the past year. So, I’m not saying that we’re going to see another lost decade. But you have to take a look at your overall portfolio, I think, and it might be a good time to kind of say, how much risk by actually taking on in the overall portfolio? Because no one loves diversification when the market goes up.

AC: Right. You don’t want to be in bonds from the market’s going up.

JA: Right, hate bonds, why would I ever want to invest in bonds. Look at this big track record. But how many of you would have been happy to have a good chunk of your money in bonds when the market dropped 20, 30, 40%? So you have to take a look at, kind of how the market works is that it goes down a lot quicker than it goes up. In a sense of getting your money back. You see gyrations just like emerging markets was down 27% a quarter, not two quarters later it was up 36%. And you would think, no big deal. I probably have my money back. Well, it doesn’t necessarily work that way because if you lose 50% of your money, you need a 100% rate of return.

AC: Yeah and that’s hard to grasp until you think of the math. You got $100,000 and it goes down 50% so now you’ve got $50,000. To get back to 100, you gotta get 100%. You’ve got to double your money from $50,000 back to $100,000.

JA: Right. So the lower volatility that you have, the recovery time is that much shorter. That’s a 50% drop, let’s say if you go to a 30% drop. So now I lost 30% of the overall portfolio because I’m 100% stocks. Well, that’s great. I don’t need a 60% rate of return if I lost 30, now I need a 44% rate of return. So if you lose 10%, you know you probably need 12% to get back. And so when you’re approaching retirement, you want to take a look at the volatility of the overall portfolio, because here’s what I can show you, Al. I can say I have two portfolios that you can invest in, portfolio A and portfolio B. And what do you think most people want to know about portfolio A and portfolio B?

AC: Well they want to know what’s the rate return.

JA: Absolutely. So let’s say portfolio A, over the last 10 years, did 8%. Portfolio B has done 6%.

AC: I want A.

JA: You want A, of course, you want A. But that’s only half the story. Because there is risk associated with getting that 8%. So you have to take a look at how much risk that you’re taking to get the 8%, versus how much risk that you’re taking to get the 6%. If you’re taking half the risk to get the 6% rate of return, now which is a more optimal portfolio to own?

AC: Yeah, especially when it’s your retirement nest egg.

JA: Yeah of course if you’re approaching retirement, but you have to take a look at the risk and return relationship because a lot of portfolios are not necessarily equipped or efficient. They’re taking on way too much risk, and for that risk, they should be achieving a lot higher expected return, but they’re not, because of how that portfolio is constructed.

10:47 – If you have a personal relationship with your portfolio, it may serve you better.

emotional investing

JA: Talking about investor optimism. It’s at its highest since 2000, which is good. I like optimism.

AC: Yeah I do too, I’m an optimistic person myself.

JA: Indexed gained 30 points this quarter to 126. The highest was 130. That was back in November of 2000. Right towards the end of the dot-com bust. I’m not saying that we’re going to receive another dot-com bust, but more information is better when you make investment decisions. And let’s say this, Al, we see people that are very emotional towards their investments, and then you see some people that are not very emotional towards their investments. And what would you say would be better?

AC: Well, from history, the ones that aren’t emotional actually do better, because they let the portfolios do what they’re supposed to do. Emotions tell you to do the wrong things.

JA: But I don’t actually believe that is true.

AC: OK. What do you believe?

JA: Because if you take a look at Dalbar studies? So let’s say I’m not emotional at all towards my investments, but the market produces X, and I’m going to produce Y, which is always going to be significantly less than the market. Would you agree with that statement?

AC: Yes, I do.

JA: So if I’m not emotional towards my investments, so what am I doing with my investments when the market goes up or down? I’m buying and selling at the wrong time.

AC: Well I think that’s when you are emotional.

JA: Okay, so how about more personal. Maybe I used the wrong word. Because we ran into an individual, and we run into a lot of individuals, that have individual stocks. And they have a very personal relationship with that individual stock. Would you agree with that?

AC: Yes, I sure do.

JA: So if you ask that person, hey you should probably sell this stock. What would they usually tell us?

AC: Almost always no. This has been such a great stock for me.

JA: So this individual bought this stock, I don’t know, probably for a couple of hundred thousand dollars. What, maybe 20 years ago? And it’s worth like almost three million dollars and you’ probably have a device that you use, that you call people with…

AC: The company starts with the letter A. (laughs)

JA: Yeah and it has a little bite out of the fruit. (laughs)

AC: Got it. Alright, I’m with you now. (laughs)

JA: So let’s say if someone works for their overall organization, we see that highly concentrated positions in their company that they work for. You see highly concentrated positions in maybe the area that they live in. Such as, you know, we live here in San Diego. We see a lot of individuals that had a large concentration in Qualcomm stock. If you go to Atlanta, you see a lot of people with large concentrations of Coca-Cola. So there’s this personal emotional relationship with that particular investment. And I don’t think that that’s a bad thing. If it wasn’t a concentrated position. If you talk about an index fund, you know Russell 2000. Woo! I’m really emotionally engaged with the Russell 2000. No, you’re not. You’re like, what the hell’s a Russell 2000? Or the S&P 500, people don’t really know what stocks are in the S&P 500. Or the Dow Jones, you hear these other terminologies and it’s like, the S&P is going down so I’m going to sell it, but if I have Apple, and I love Apple, and if it goes down am I going to sell it? Probably not.

AC: No, because you have a personal attachment to it.

JA: Exactly. And so going back to Dr. Crosby, Daniel Crosby, he’s a behavioral finance Ph.D…. I have two sides to this. If you come up with investments, and maybe you create, like, an exchange-traded fund, or a mutual fund, that someone has a passion around. Feeding the homeless let’s say. So then you can purchase all the stocks that companies that would be involved in doing something like this. The freight companies, the farmland, the list goes on and on of how your food gets to someone’s table. You can kind of back that up. Or women’s rights. Or whatever you’re passionate about. And all of a sudden they had an investment with that, that was diversified, if you will, do you think people would say, I can sell my investments that are engaged in women’s rights, or feeding the homeless, or whatever passion that you have, versus the Russell 2000?

AC: Yeah no, they’d stick with they’re passionate about.

JA: Sure. So I think there’s got to be a better way to educate individuals on what they’re actually holding, to get maybe more of a personal tie. Because we know, if someone has a diversified portfolio and they hold it for the long-term, they’re going to be significantly better off unless they have that emotion, the fear and the greed come into play.

AC: Yeah I think that’s right, and I think certainly we all know that if you buy into a stock or a company and it does rather well, you will beat the market. But the probabilities of that are – it’s difficult it’s to find that next Apple stock. That’s the problem. And especially, Joe, I would say this. When you get to retirement age and let’s just say you’ve made all your money in Apple stock. Great. But now at this point, do you want to still have your whole retirement hinged on a company? Who knows what Apple’s going to be doing 30 years from now?

JA: But if I love Apple, I’ll just ignore you. I don’t care what you’re saying, and I probably heard it, but you don’t know what the hell you’re talking about. You’re a CPA. (laughs) Because that’s such a tight personal relationship. Then you hear the other advisors and brokers and things like, oh well, you know, Enron. I mean how many times have you heard that stupid analogy?

AC: Yeah, all the time. And actually, I would never predict that Apple’s going to go away, but can it still keep performing at that same level for the next several decades? I don’t know.

JA: I don’t know either. I mean I guess that’s that’s the issue. I don’t know of one particular company is going to continue to perform at the level that they perform at. But I could probably have a higher probability guess, to say well 500 big large strong companies in the U.S., or internationally, or even emerging markets. As a collective whole, do I think that those companies are going to continue to perform? I think we both agree yes, we would have a stronger probability of that.

AC: I think that’s the key word, probabilities. And you know what, when you’re younger and you want to take some of your assets and go for a few stocks and try to make some money? If you want to go for it, but at least in my view, you get in your 50s and 60s and you’ve built a certain nest egg, you want to increase your probability that’s going to last over time.

JA: Yeah. It’s because we’re twice as fearful of losing money than we are to gain money. But the problem is right now, we’re so optimistic about what’s going to happen in the market because we’ve had such a huge bull run since 2009.

AC: Yes, so we get this overconfidence bias, which isn’t necessarily our friend, and sometimes, not always, sometimes we’ve seen where a young person makes a lot of money in the stock, and they think, well this is easy. And they’re overconfident. And then after that, they don’t do so well. It almost would have been better had they lost money upfront, and then it’s like OK there’s got to be a better way to do this.

JA: Exactly. Because the best investment you can possibly own is what? One individual stock. The worst investment you can possibly own is one individual stock. So the higher probability of success is really what we’re all about, we want to keep it boring. But we try to keep it light. But your investments should be boring.

AC: I think so too. I mean I got an article here, this is Leon Cooperman. He’s a billionaire hedge fund manager, and he’s defending his industry, which hedge funds have not done very well over the last several years. And he’s saying that passive management is not how famed investors have built their fortunes. And I would agree with that 100%. If you aspire to be a billionaire, you gotta take all kinds of crazy risks. Now for the rest of us, that want more predictability, I would take this statement and throw it in the garbage can. I think we want to make sure that our nest egg is going to be there for us.

JA: Right. True wealth is built by owning – and owning could be a fractional ownership of the company stock – but yeah, if you want to be a billionaire, the billionaires, they own their own companies. And then they own multiple companies.

AC: And they’re successful, and then they start investing as an angel investor, or a venture capitalist. It’s very risky. But some of that hit and they keep parlaying their future.

JA: Right. Because it’s like OK well that’s a very risky proposition you have. I want 70% of your company. So if it hits I’m going to the bank. If it doesn’t, well, I’m hedging my bets.

19:57 – 6 Basic Retirement Questions Most Americans Don’t Get Right

AC: Just for fun, I put our show, Your Money, Your Wealth, and and then the word podcast, I wanted to see if it appeared on anything. And you get a few financial planning top 10. We haven’t hit that yet. (laughs)

JA: Bottom 10.

AC: I did find, I found one that said top 120. And we were in it! And we’re up and coming.

JA: Hey, we are up and comers. Now we have to disclose exactly what was that list, and that means nothing about the performance of anything that we discussed, and the list does mean that Al and I know anything about what we’re talking about.

AC: Yes. Dani Martin, the compliance officer, we’re trying to do this right.

JA: Yeah, clean up your act there, Clopine.

AC: So I got a quiz for you, Joe. This is from the American College. And this is the Center for Retirement Income. And so there are six basic retirement questions, and most Americans cannot get these right. So let’s see how you do. If you had a well-diversified portfolio of 50 % stocks and 50% bonds that are worth $100,000, at retirement, based upon historical returns in the U.S., the most you could afford to withdraw each year is about X plus inflation each year, to have a 95% chance your assets will live for 30 years. And this is multiple choice. You a hundred thousand, can you draw $2,000, $4,000, $6,000, $8,000?

JA: Well you could pull out $2,000, you have probably 100%

AC: Yeah, that would be real safe.

JA: And then $4,000 is probably the correct answer – a 4% distribution rate.

AC: It is the correct answer, and of course that 4% distribution rate rule, 4% rule as they call it, has been around for decades. It’s not perfect, some people can do more, some people way less, depending upon your circumstances, but at least gives you an idea. And Joe, it’s interesting that a lot of the participants in this quiz thought that they could they could withdraw somewhere between 7 or 8% of their portfolio because the stock market has earned that or more. And the problem with that kind of thinking is, the stock market does not go up in a straight line. That’s one problem. The second problem is you’ve got to keep some money in there for growth, otherwise, you don’t keep up with inflation. If the market earns 5% and you pull out 5%, every single year you’re taking a pay cut, because goods and services are costing more.

JA: You know, I teach a lot of retirement planning courses. It’s adult education. And every time I go through that 4% distribution rule, I say you have a million dollars. And then I ask, how much do you think that you can pull out of a million dollars? Because of a million dollars, that means you’re rich. That means you are a one percenter. You get answers all over the board. $100,000, I don’t know, at least 90, 80. And then I say you don’t want to pull any more than $40,000, 40 is even pushing it. What?! You’re kidding me. No, you don’t know what the hell you’re talking about.

AC: I could live off $100,000 a year, stock markets earned 10% over the last 100 years.

JA: I got a million dollars, Joe. I’m going live on a hundred grand a year. Alright then, have a good 10 years. You’re done.

AC: (laughs) Maybe you get 15, but yeah, something like that. Here’s the next one. A 25% negative single year return. So, your portfolio goes down 25%, and your retirement portfolio would have the biggest impact on long-term retirement security if it occurs 15 years prior to retirement, at retirement, 15 years after retirement begins, or, the timing doesn’t matter.

JA: The timing absolutely does matter. And it would be right at retirement.

AC: You bet. Unfortunately, I guess there’s a bit of luck involved. If you retire and the market goes down 50. Let’s say you retired in, what, 2008, the market went down 50%-ish over an 18 month period. Then all of a sudden, you’re in a kind of a tough spot. And of course, that’s why we talk on this show all the time about, you want to have growth in your retirement portfolio, but you want to have a lot of safety because markets do correct and sometimes it’s rather violent and it’s quick.

JA: Right. If you’re pulling money out, so we used this earlier in the show if you lose 50% of your assets, and I hate using that because it’s like what’s the odds of someone losing 50%, unless they are in one individual security. If you’re in a globally diversified portfolio, it’s very, very unlikely to lose 50%, because you have some bonds, you have some stocks, international and so on. You know, the whole fear-selling drives me nuts too, when you hear some of these other radio shows and podcasts, they always go back to 2008, losing 50%, so no offense to you at Al, since you just used that reference. (laughs) But you lose 50%, you need 100% rate of return. But if you’re pulling money out, you’re going to need a lot more than that, because if you’re pulling the 4% out, now you’re down 54%.

AC: That’s right. And so, sequence the returns is what we call this risk, and so, make sure if you’re retiring, you have a portfolio that has some growth in it but has a lot of safety in it, so that you can weather these storms. This is a great question, and you’re going to have to think about it a little bit. So I’ll say it then I’ll come back. So which of the following strategies is least likely to improve retirement security? There are three things that can improve your retirement security, but one of these does the worst job.

JA: (sings) One of these kids is doing his own thing…

AC: Now here’s the first one. Saving an additional 3% of salary in the five years prior to retirement obviously is going to help. Or deferring Social Security…

JA: Who’s taking the quiz, Clopine?

AC: You.

JA: OK, yeah. Stop answering.

AC: Yeah. I’m just explaining it to you because I know you’ll say read it again. The second one is deferring Social Security benefits for two years longer than originally planned, or, working for two more years past the planned retirement date. So one of these is not as effective – saving 3%, extra 3% of your salary for five years prior to retirement, deferring Social Security benefits for two years, or working two years longer. Or the fourth one is “don’t know.”

JA: Well, let’s let’s map this out. So let’s say I’m saving money, I’m not sure how much money that I’m saving, or how much money that I have, but if I save an additional 3% for five years prior to my retirement date, then I retire and I start taking distributions. That’s one. But then, the second one is that I still have this retirement date, but now I’m not going to retire on that date. But I didn’t save that 3%, so I’m going to wait to take my Social Security for a couple of years. It depends on – is it full retirement age? Because at full retirement age, each year that you wait, you get an 8% delayed retirement credit. So does the two years of 8% delayed retirement credit match the 3% savings for the first five years, or the last one was, you delay your retirement altogether, you’re not going to save, but automatically, doesn’t that already include B? Or does it say I’m taking my Social Security?

AC: These are all meant to be mutually exclusive. But I’ll help you a little bit. So the 3% of salary, so that would be an extra 15% of salary that you saved. If you work two more years, you get 100% of salary for two years. So the math works way better that way.

JA: If I save, if I’m not taking money out.

AC: Even if you don’t save, you’re not taking money out of your portfolio. OK. And then the other one, working past Social Security, say you’re waiting on Social Security. Wel,l if it’s an 8%, or even if it’s before full retirement age, it’s a 6, 6.5% increase.

JA: I’m going to say all of the above.

AC: No, they all improve, but not but one is not as effective.

JA: Delaying your retirement.

AC: No, it’s the 3% salary because…

JA: No, because I’m delaying my retirement, I’m going to get both benefits.

AC: I know, but the question is which is least likely. (laughs)

JA: Such a stupid question.

AC: (laughs) I knew I was going to have to explain about 10 times.

JA: Alright, if I delay my retirement, I’m not taking money from my portfolio. This is good. And then I’m also increasing my Social Security by 8% per year, which is also good, I’m reducing my life expectancy by two years, which is also good. What else? I’m still saving into my 401(k) for those two years. That’s got to add up better than me just increasing my savings for five years!

AC: That’s what I said.

JA: Oh. So I misunderstood what the hell you were talking about.

AC: Yeah that’s right.

JA: Good thing I redeemed myself there.

AC: You got the right answer, er, you had the right thinking. (laughs)

JA: Yes. That’s my life. (laughs)

AC: Your logic was right, but you just have to listen to the question.

JA: I got it. It’s tough, Al, sometimes. You’re an accountant and I’m listening and it puts me to sleep. (laughs) You gotta get that tax chat going.

AC: I get that. I understand that. So, a single person who’s likely to live to age 90, is generally going to be better off claiming Social Security benefits at 62, 66, 70, or 75?

JA: 70. Don’t wait until after 70, that’s stupid.

AC: Why?

JA: Because you don’t get an increase in benefit.

AC: You’re just leaving benefits on the table. That’s right. Here’s another easy one: converting a portion of traditional IRA to a Roth IRA is a good idea, if… you with me so far? (laughs)

JA: Yes I’m with you.

AC: (laughs) …you have a big tax deduction, and your marginal tax rate is lower than normal. That sounds like a good one.

JA: Yeah that’s true.

AC: You have more taxable income than usual, and your marginal tax rate is higher.

JA: That would be false.

AC: Correct. The value of the assets and your IRA have remained the same for 10 years. That has nothing to do with anything. (laughs) And then D is don’t know.

JA: Did the person that wrote this pass this stupid thing? A.

AC: I don’t now. I just know that not a lot of Americans passed it, and they don’t really say how many they got right or wrong, but…

JA: We’re blowin’ up the clock here, bud.

AC: I know.

JA: But he doesn’t care. He’s a CPA. (laughs)

AC: I like the quiz.

31:28 – Joe Anderson, CFP®: The Most Successful Person from Annandale, MN

JA: Did I tell you that I got interviewed recently for all my successes?

AC: No, I hadn’t heard about this. By who, your mother? (laughs)

JA: No, it was my cousin. I was in the Annandale Gazette. I’m the most successful person she knows. And there are 208 people in this town.

AC: This is in Minnesota?

JA: Yeah. You got a 208 people population. (laughs) She’s graduating.

AC: That’s pretty good, you’re in the top half a percent.

JA: She’s like, you’re the most successful person, I need to write a little thesis on you. It’s like alright honey. So I talked about my career. Did you know my financial planning career started in low-income housing in Atlanta, Georgia?

AC: No I didn’t. I knew it was Atlanta, but I didn’t know it was low-income housing.

JA: Oh yeah I lived in low-income housing.

AC: Because you don’t make anything.

JA: Well no, I wasn’t even in the business.

AC: So you had no money, just got through college.

JA: Yeah. I’m originally from Minnesota. So for any of you that are from Minnesota or been to Minnesota, it’s a great place to be from. Not necessarily live.

AC: The good thing about that is you get those good Midwest values. And people appreciate this.

JA: They do.

AC: We hear that every week, don’t we? Joe, you’re a Midwesterner. I trust you.

JA: That’s right. So I was like, I got to get out of here. I got to get out of the cold. So I moved to Florida, and I got my finance degree from the University of Florida, and I graduated, I don’t even know – 1997, 1998? I forget what year it was, something like that. So I was dating my college sweetheart. She was the weather girl for the University of Florida. They had their own TV station. She was the weather girl.

AC: So she would say, “you know it might rain today. It is Florida.” (laughs)

JA: Yeah. It’s going to be a little bit muggy. (laughs) So she was really good at her job. I graduated a year before her. Er, not a year, a semester. And so she was from Florida, I’m from Minnesota, I’m like well, I’m not going to move back to Minnesota. And she’s like, well let’s move to Atlanta. I was like OK, let’s move to Atlanta. So I went up there first, you know, scope the land. And I don’t have a job. I just got out of college. I was a bartender in college, I paid my way through college, basically.

AC: That’s a great story right there.

JA: No student debt, I had about maybe ten thousand bucks? When I left Minnesota the folks were like, whoosh! Cut off! You should go to this nice state school.

AC: Didn’t your dad say if you leave Minnesota we’re not paying a dime?

JA: Yes, we’re not paying a dime. They wanted me to go to the Army, Navy, Air Force, I’d get these pamphlets all over the place.

AC: Very disappointing, Joe Anderson.

JA: Yeah, because I was from a military family. So I moved to Florida, then I was living in Atlanta. And I could only afford, it was like 300, 400 bucks a month, and I was in low-income housing. And I was the youngest person, probably by about 60 years. There was cribbage that happened down in the lobby, and everything else.

AC: So you probably learn how to play bridge?

JA: So, that was one of the favorites. So I was studying for my Series 7, right there, in this 300-square-foot apartment. I could open the door, open the fridge, flush the toilet, all laying in my bed. (laughs)

AC: That’s a nice feature. Didn’t have to move much. (laughs)

JA: So I was studying for the Series 7 right there. And so I went and probably knocked on every brokerage firm’s door. Because I’m an up-and-comer! Finance degree from the University of Florida! I don’t even know what the hell I was getting myself into, to be honest with you. I just knew my dad broke his back working hard manual labor, and I was like, I’m going to wear a suit. I’m not gonna do that.

AC: I’m not doing that.

JA: I want to wear a suit, I want to look good when I go to the office.

AC: You could have been an accountant.

JA: I could have. That was a little bit too boring.

AC: Yeah that’s right. It puts you in a box. That wouldn’t work.

JA: Yeah. My first experience in this business was god awful. It was so bad.

AC: What did you do?

JA: I just sat in a black room and just picked up the phone and bugged people all day long.

AC: I got this great product for you?

JA: Yeah. I was like, oh I want to help people. And then all I’m doing is bugging people. (laughs)

AC: Everyone’s pissed at you. (laughs)

JA: Well I’m wearing a sharp suit. It was like from Kohls.

AC: Sonny, why are you calling me again?

JA: Yeah now I had probably a couple of hundred dollars in my name, went to Kohl’s, got myself a nice $70 suit. Oh yeah. Two white shirts. Yeah. It was good times.

AC: I think when I started in the CPA world, I think had two suits, alternated every day. And then that’s when I had a better memory. And I could remember what suit I wore for what clients.

JA: Switch it out. Yeah. So my girlfriend moves to Atlanta, at the time, she was going to be an aspiring actress. So she goes on a couple auditions. And so now we’re living together in this 200-square-foot… she’s flushing the toilet, it’s like right there.

AC: That’s why you break up.

JA: It was really close quarters. It was awful, so we lasted maybe a month living together. So she’s going on these auditions to be this model. And so she’s like I don’t really know if I like Atlanta and I was like, thank God. ‘Cause I hate this place. No offense to anyone that lives in Atlanta.

AC: I’ve never been, but I’ve heard good things about the downtown area.

JA: Yeah. Buckhead, it was really cool. A lot of fun, a lot of bars I guess. If you could afford ’em. I got Schlitz! I’m laying in my bed drinking Schlitz! (laughs)

AC: Then you wouldn’t finish it, you’d drink the other half the next night.

JA: Exactly. So gross. So she went on this audition, she’s like, well they told me to kind of hike up my skirt and I was supposed to growl at this guy. I was like, was he wearing a shirt? What kind of audition was it? Well no, it was kind of in his apartment, he had a studio… So yeah, she left Atlanta, I moved back to Minnesota. Then I got a job with one of the largest financial planning firms in Minnesota. And then I was like, I’ve got to get the hell out of here.

AC: How long were you in Minnesota?

JA: I don’t know. This story is getting really long. My life story, Joe Anderson. So yeah, this is the paper, the dissertation that my little cousin wrote. (laughs)

AC: You just went through this. Just read, what, the Gazette?

JA: Yeah. The Annandale Gazette.

AC: Look it up on the internet, get Joe Anderson’s history.

JA: (laughs) That’s my little cousin. She’s graduating high school. But yeah, I was in Minnesota for maybe a year, and I got promoted to be a V.P. of one of the largest financial planning firms. And then I moved to Wisconsin, and then I realized about conflicts of interest with the big, large, Fortune 50 company. Everyone kind of knows their name, you probably have a credit card with their name on it. But there was a financial advisor unit of that company. I was like, I got to get the hell out of here. I was young, I was making good money, but it was like, I just had to recruit and teach these other guys to sell their stuff. And so I said enough of this.

Joe and Big Al are always willing to answer your money questions! Email info@purefinancial.com – or you can send your questions directly to joe.anderson@purefinancial.com, or alan.clopine@purefinancial.com

39:32 – JA: Couple of good ones here today. So let’s see here. How about this one: Can I gift my entire Roth IRA account to a grandchild, and roll all of the tax-free accumulation over to them? Or would I have to physically make qualifying and/or basis withdrawals to set up a new Roth account in the grandchild’s name?

AC: That’s interesting. Well, you don’t want to do that, because, first of all, you cannot gift a Roth IRA, because it’s, in the family of individual retirement accounts, a Roth is an individual retirement account that actually has a tax-free feature. So it’s your account, you can’t give it to anybody. Actually, the best thing to do in this case is to have the grandchild be the beneficiary, so that when you do pass away, the grandchild takes over your position in the Roth, and it’s still tax-free to him or her. That’s that’s the way to go.

JA: Right, because there is don’t required minimum distribution in Roth IRAs. So if you’re thinking, hey I have this Roth IRA, wanna give the account to my grandchild. Well, unless he’s looking to give them cash now, but it looks like he wants to take distributions and setting up a Roth IRA account for his grandchild, it will be the grandchild’s at one point, like Al said, if you named him or her the beneficiary of the account. And so let’s say you have another 20 years of life, that money is going to continue to compound tax-free. You don’t have to pull that money out. You name the grandchild the beneficiary of that account, and then the grandchild would be the beneficial owner or the inheritor of that account. So it’s called an inherited IRA. Maybe you’ve heard of the stretch IRA. So what that does is it allows, now, so it would still stay in that person’s name, whatever his name is, for the benefit of a grandchild. And then that grandchild then will have to take distributions out of that Roth IRA, even though there is not a required minimum distribution for the account holder, there would be a required minimum distribution for the beneficiary. Even though they’re the beneficial owner, but the deceased is still the owner of the account.

AC: Yeah and I think a lot of people don’t really realize that, with that Roth IRA, if it’s your own Roth, or if your spouse dies and you put it in your name, you don’t have to take the distributions. You can let it grow your whole life. But once the non-spouse beneficiary gets it, you have to take required distributions every year, regardless of your age. You could be under 10 years of age and still have to take a required distribution. Of course, it’s based upon your life expectancy. So the younger you are, the less it is.

JA: It’s a fraction of a percent.

AC: Right. So if you want to get this to the grandchild, clearly, you set up the beneficiary statement for the grandchild. If you want to get money to the grandchild and you don’t have any other sources, then you can pull it out of the Roth and give it to the child. Let’s say for college or something like that. But there’s really no way to put it in the grandchild’s name while you’re living.

JA: And another quick note here too. You need earned income to create a Roth IRA. So the grandchild would need to be working. W-2 wage, 1099, pay Social Security tax, up to $5,500. Then you could do a full contribution to the grandchild. So if the grandchild’s working… but there are all sorts of kind of funny webs in this question, because it’s like, well hopefully, if he’s giving this money to the grandchild, you would think he’s got other assets, or she’s got other assets. So it sounds like, well, do I have to take these tax-free withdrawals from my Roth to fund another Roth? So he’s thinking like, it has to go Roth to Roth for the grandchild. No. If the grandchild has earned income, keep your Roth in the Roth, and then, let’s say he’s got a paper route or something like that, or she does, that grandparent could contribute $5,500 into a Roth IRA. The grandparent could establish the grandchild a Roth account, and fund it for the grandchild, but the grandchild would need earned income. That’s the caveat.

AC: Yeah they would. And that’s dollar for dollar, so you can fund it up to $5,500. But the grandchild has to have $5,500 of earned income. If the grandchild just has a thousand bucks, then that’s the most you can put into a Roth for that year.

JA: So yes, for the holidays coming up, or the fourth of July this summer, those are good gifts to give to grandchildren. So if they don’t have a Roth IRA and if they’re working over the summer, maybe they’re in school, maybe they’re even in college. Most college kids have some sort of a part-time job. I don’t know. I see a full-time job. Well maybe not. I don’t know. I guess they don’t. Whatever. (laughs) But if they have any type of employment, you can establish a Roth IRA for them, and you can fund it. And then that would grow tax-free for the grandchild’s life. It’s a huge deal, it’s a great strategy for a lot of you that are listening. You can fund kids, grandkids, nieces, nephews, friends, family, whatever. The IRS doesn’t care where the money comes from. As long as they have earned income. They earned $5,500, they spend every last dime of it on comic books? You can still put the $5,500 into their account from your checking account. But I guess if they’re spending money on comic books…

AC: May not be the best. So here’s something, Joe. Let’s say the grandparent does this and starts funding the grandchild’s Roth with their own money because the grandchild has earned income. Great. So now, 10 years, 20 years, whatever, grandparent passes away, now the grandchild inherits the Roth. The tendency probably is, well I already got a Roth. Let me put Grandma’s or Grandpa’s money into my Roth. Simplification. But you can’t do that.

JA: You got to be very careful with that. We’ve seen this quite often. Because with any other asset – let’s say I inherit an IRA, a brokerage account, and a house. So grandpa died, grandma died. They left me a small IRA. They had some stocks in a brokerage account, and their primary residence, and I was the beneficiary of all three of those assets. So myself, I have a brokerage account. I have an IRA. And I also have a Roth IRA. And so you would say, OK, well, let’s distribute these assets. So let’s sell the house. House, cash. What do I do with that cash? I put it into my brokerage account, and I invest in my mutual funds. OK, so they have a brokerage account. You know what? Let’s just take those stocks that they already have, let’s just transfer those into my brokerage account. Everything’s great. I’m consolidating. Keeping this clean. Oh, and they got this IRA. Sounds great. Let’s take the IRA and move it right into my IRA. That’s where it blows up. You cannot do that. It’s an individual retirement account. And the reason why you can’t do that is the IRS wants their taxes. They either want it while you’re alive. They’re going to force the money out once you turn 70 and a half. And if you pass away with that, they still want to get their taxes, because it’s a tax-deferred account. And let’s say, if I’m 40-years-old and grandma dies, and I put that into my IRA, well I have 31 years, basically, to let all of that money still continue to grow tax-deferred until I turn 70 and a half? They’re not liking that. So they have to keep it in that decedent’s name to take those distributions out on the non-spouse beneficiary.

AC: It’s a good point. Think about it – so the grandparents is in a regular IRA or 401(k), forced to take the money out at 70 and a half, and all of a sudden they pass away, goes to a grandchild who’s 10-years-old, they’d have to wait another 60 years to get tax money. Well, they don’t allow that. So they want that 10-year-old to start taking distributions because grandma or grandpa was already taking distributions.

JA: Exactly. Or even if they pass prior to their distribution date, it doesn’t matter.

AC: Right, they still want the money. Yeah.

JA: So then it’s based on that grandchild’s life expectancy. So if it’s a 10-year-old, I guess the parents are actually going to be taking those distributions for that 10-year-old.

47:55 – Got a few more e-mails, Alan. And then we’ll pack this pony up and get the hell out of here. “I bought a stock in 2013. It is nothing but a total loser. It’s down 70%, and I see no solution, other than to sell it for income tax purposes and deduct my losses. I bought it for $100,000 it’s now worth $35,000. Is selling a good idea?”

AC: Well. (laughs) Certainly – now, a couple of things, from a tax standpoint, yes. Because you would generate a $65,000 capital loss. You can use that loss against any other capital gains. Hopefully, you bought a couple of stocks that went up. And if you want to sell some of those, that would net against those gains dollar for dollar. If you don’t have any other gains, then you get to take $3,000 per year, carries forward for the rest of your life. And when you do eventually have a stock sale gain, or mutual fund sale gain, you can use it against that. But I think from an investment standpoint, I think you’ve gotta sit there and say, “Would I buy this stock today for $35?” And if the answer is no, you should sell it. And then, of course, then you could take it another layer – do you really want to be investing in individual stocks? And we talked about this in the first hour. Individual stocks, you certainly can make the most money if you hit it right, but you also have the most risk. And here’s an example of the risk part. So, we are big believers in, as Joe sometimes says, kind of a boring approach to investment, that has higher probabilities, where you probably won’t go down 70%.

JA: You know why he let this thing go down 70%?

AC: Because he waiting to get his money back.

JA: It’s called anchoring. He anchored on his price that he bought it. So he was down 10%. He was like, “ooh, it’s going to get back up then I’m going to sell out. Oh! Down 20%. Now I’m going to wait because I know this thing is going to go back up. Now it’s up 30%, 40%, 50%, 60%!” Because people anchor on that stupid price. And it’s like there’s no way I’m going to sell this thing until it comes back. And then he finally writes into Investopedia and says, “do I write this thing off as a tax loss?”

AC: (laughs) So it is a tax loss. That does help. But, would you buy that stock today, $35,000 worth, and if so…

JA: Right, would you buy that stock price today if you had an extra $100,000? Would you put it on that stock?

AC: Yeah. If the answer is yes, maybe hold on. Why not.

51:04 – JA: If the answer is No. Well, you answered your question. (laughs) OK. Let’s see. Here’s an interesting one. There are two questions and the first one is quick and easy. The second one is common mistakes or misunderstandings that most of you might have. So let me go to the first one first. “I understand that IRAs do not receive a basis step-up upon death, but rather the beneficiary will pay ordinary income tax on the distributions at their rate. My question therefore is….” Therefore? “What section of the code says this? I’ve already looked in 1014, and I’m basically out of ideas.”

AC: (laughs) What Code Section says that?

JA: It’s publication 590.

AC: Yeah that’s true. That’s the one on IRAs. I don’t know what the code section would be. I don’t know why you’d really care that much about it….

JA: He doesn’t believe whoever told him.

AC: Apparently not, he wants to see it for himself.

JA: Just go to a pub 590 and it’ll tell you all about it. It’s issued by the IRS.

AC: See, well look at that. A tax question and you knew the answer.

JA: I am not a tax advisor. I do not have a tax license. I am not a CPA. Please do not take any of the things that I say, and take it with a grain of salt. This is not an advice show. This is for your entertainment purposes only.

AC: I think people already don’t take it seriously anyway. So. Is that it on that question?

JA: Yeah. He’s a stickler.

AC: He wants to know the code section. I know but I know a few code sections if you want to sell real estate and defer the gain, rental real estate, 1031 if you want to sell life insurance, if you want to get out of life insurance and into another one is 1035 exchange, without paying taxes.

JA: Wow. Look at the big brain on Big Al.

AC: There are a couple of code sections in there.

52:39 – JA: How about this one. “I’m leaving my job with an employer-sponsored 401(k) plan. I want to rollover to a traditional IRA without cashing out anything. I have approximately $160,000 in the 401(k). I already have a Roth IRA with about $17,000. What happens when I roll over my 401(k)? Can I still contribute to my Roth up to the $6,500 for the year, or do I have to stop for the year, due to adding the money into the new retirement account?”

AC: Great question. I’ll go two different directions. One is, if you take your 401(k) and you roll it into an IRA, well there’s no tax consequence. Of course, you can still make your Roth contribution, if you have earned income. And you’re below the income limitation rules, which what are they, Joe, if you’re single, you got to be below $113,000, or $117,000-$132,000 is the phase-out period, married, I think it’s $186,000-$196,000 if I’m not mistaken.

JA: It was 184-194 last year, so yeah.

AC: But the way he’s asking it, it almost sounds like he wants to take his 401(k) and put it in a Roth IRA.

JA: No, I didn’t see that.

AC: I did, as a possibility.

JA: I think you’re just stretching this question, Al.

AC: (laughs) And I don’t know that I’d do that, because now you’re creating $160,000 of extra income, over and above your salary, for whatever the salary is that year. If you were to do that though, interestingly enough, if you do a big Roth conversion, it doesn’t count against you for those income limitation rules. That’s where I want to go with that. And so, therefore, he made $100,000 of salaried, do $160,000 Roth conversion, you’re single, so your income is $260,000, but it doesn’t count for purposes of that income limitation, so you can still do a Roth contribution.

JA: Yeah, that’s a great fact that I think a lot of people don’t really know. So if you listen to the show maybe once or twice, you probably heard him say something about a Roth conversion. Imagine that. And then we get calls and e-mails, saying “hey, you know what Joe, Al. You guys don’t know what the hell you’re talking about. I did the Roth conversion but I still want to contribute to my Roth, so I did a $75,000 a Roth conversion, up to the top of my bracket. And so then I went to my CPA, and I made the Roth contribution, and the CPA told me, hey your income is too high. So then I had to back out my Roth contribution.” And I was like, no, fire your CPA. It’s modified adjusted gross income. It’s not it’s not included in your income. If you do a Roth IRA conversion, it doesn’t show up in the calculation to figure out if you qualify for the income limitations of your contributions. But what he was saying, in my opinion, was that “I put $160,000 into an IRA. So can I still put money into a Roth IRA?” And the answer is yes. Or this question comes about too, is that, let’s say my taxable income as a married couple is $50,000. The recommendation might be to say, you’re in the 15% tax bracket. Convert $25,000 to get to the top of that bracket, which is roughly 75 grand for a married couple. So you could convert $25,000. Oh, by the way, you can still make a contribution. And there’ll be like, “no, what are you talking about? How can I get $25,000 into a Roth? I thought that the limit was $5,500?” Yes, that’s for our contribution. This is a conversion.

AC: Different thing.

JA: Totally confused. “What do you mean? I thought it was 55. You’re telling me I’m $25,000. How big a penalty will I have?” There’s no penalty. No penalty. We’re out of here today, hopefully, next week it’s just not big AL and me, we might have a guest. We’ll see. So, for Big Al Clopine, I’m Joe Anderson. The show’s called Your Money, Your Wealth. We’ll see you next week.
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So, to recap today’s show: Emerging markets are the place to be if you want a high octane portfolio and don’t mind the really high risk. Investing in things that actually matter to you may serve your portfolio better in the long term. Big Roth conversions don’t count towards income limitations for Roth contributions. And Joe and I both hate Atlanta.

Subscribe to the podcast at YourMoneyYourWealth.com, through your favorite podcatcher or on iTunes, where you can also check out our ratings and reviews. And remember, this show is about you! If there’s something you’d like to hear on Your Money, Your Wealth, just email info@purefinancial.com. Listen next week for more Your Money, Your Wealth, presented by Pure Financial Advisors. For your free financial assessment, visit PureFinancial.com

Pure Financial Advisors is a registered investment advisor. This show does not intend to provide personalized investment advice through this broadcast and does not represent that the securities or services discussed are suitable for any investor. Investors are advised not to rely on any information contained in the broadcast in the process of making a full and informed investment decision.

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