David Carlson (author, Student Loan Solution) discusses the student loan debt crisis and President Donald Trump’s plan to fix it, and Joe and Big Al answer listener questions about contributing to a retirement plan without an employer match, doing in-plan Roth conversions, changing retirement accounts to protect investment properties, and more.
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- (01:03) David Carlson on the Student Loan Debt Crisis & President Trump’s Proposals
- (18:40) Should I Transfer Money from My Traditional IRA and Solo 401(k) into my Company 401(k)?
- (25:55) Should I Contribute to My Company Retirement Plan Even Without an Employer Match? (video)
- (33:43) My Company is Adding a Roth 457(b). Can I Do In-Plan Roth Conversions?
- (40:06) Should I Move to All Cash Before My Company Changes 401(k) Custodians?
- (41:41) Should We Convert 401(k) to IRA or Roth IRA for Better Protection of Our Investment Properties?
The President has a plan to fix the student loan debt crisis, which it isn’t just affecting young people. According to the Consumer Financial Protection Bureau (CFPB), as of 2015, 2.8 million people over the age of 60 have student loan debt. And if you default on a federal loan, your Social Security benefits can be garnished! Will the president’s latest proposals to limit student loan borrowing, simplify repayment and provide loan forgiveness for all help with this crisis? David Carlson is the author of Student Loan Solution: 5 Steps to Take Control of your Student Loans and Financial Life, and he joins us today to discuss it. Plus, this week YMYW listeners have many questions about their company retirement plans and what they should do with them, including contributing to a retirement plan without an employer match, doing in-plan Roth conversions, and changing retirement accounts to protect investment properties. First, let’s talk about student loans. I’m producer Andi Last, and here are the hosts of Your Money, Your Wealth®, Joe Anderson, CFP® and Big Al Clopine, CPA.
1:03 – David Carlson on the Student Loan Debt Crisis & President Trump’s Proposals
Joe: Alan, student loan debt.
Al: Yeah, and that’s a tough one. If you think about it this way, a lot of people that get into student debt are younger. They don’t really know the impact of this debt, how it’s going to kind of play out over perhaps decades of their lives, and they sort of go into it blindly and it’s relatively easy to get student loans, and it’s a big problem, because people end up with big debts that they really have no ability to pay.
Joe: I took out student loans. I went to the University of Florida and I thought the process was I think maybe a little bit too easy to get the cash because there was a couple of student loans that went to Key West with me. (laughs) You know, spring break? It’s like OK well I could buy some books here but maybe…
Al: A little beer money? (laughs)
Joe: …I could wait to buy some books later. But you have some experience I would imagine, having a couple of kids going to school, yourself, went to a fine institution – did you just cash flow it or did you have a student loan?
Al: Yeah. In my case, fortunately, with my grandparents, my parents, and my own earnings, I paid for that. In the case of my kids, one we cash flowed, and the other one we had to dip into a little bit of student loans, and it wasn’t a terrible experience, and we didn’t really do much. It was probably, over the course of four years, it was about $20,000, total. So I mean it wasn’t like in some cases a couple hundred thousand or more, so with my son’s case, it wasn’t a big deal. But I’ll tell you, you and I see people all the time – and in some extreme cases, like we saw a dentist and a physician, and the combined student loans between the two of them were $500,000, $600,000.
Joe: And then he bought the practice and then it was over a million?
Al: Yeah, total debt was $1.2 million.
Joe: With no mortgage! They were renting!
Al: Right. They are renting and they were just getting their businesses starting. It’s like, “how do you pay this off?”
Joe: Exactly. I mean the whole cash flow of the business was going to pay back the dental practice that he purchased, plus the student loan debt and it’s like, wow, they’re just living off of… And they have really good educations, really good jobs. But it’s gonna be a 10-year time frame until they just get out from underwater.
Al: And then you combine this, Joe, with the fact that, obviously, nobody wants to declare bankruptcy, but sometimes there’s really no other solution in certain cases. And most debts can be forgiven in bankruptcy except for student loans – federal student loans, they stay on the books and so it’s like you can’t get rid of them.
Joe: So I don’t know the answer to this. How about if I refinance to a private loan and then file B.K.?
Al: Yeah that’s a good question. I suspect that they might go away because they’re a private loan, but I don’t know that for sure.
Joe: We’re going gonna talk to David Carlson. He’s got a website called YoungAdultMoney.com. He wrote a couple of different books, one was Hustle Away Debt and then what we’re going to talk to him about is Student Loan Solutions: 5 Steps to Take Control of Your Student Loan and Financial Life. Did you see Trump came out with some proposal of changing the student loan repayment plans and things like that?
Al: Yes I did see that.
Joe: A couple of things, they want to limit student loan borrowing. The price of college is – you went to UCSD, right?
Al: I did, yeah.
Joe: What was the cost of UCSD? University of California at San Diego?
Al: Yeah well, when I went, it was a while ago. (laughs)
Joe: Was it 40 cents?
Al: $4.60 (laughs) If I recall, I think it was when I went, this was in the 70s, I think it was like $250 per course, Something like that. I think by the time you did your course load and room and board, I think it was somewhere around $10,000, $12,000, something like that.
Joe: No wonder why you were able to cash flow it. (laughs)
David: Hey thanks for having me. Excited to be here.
Joe: Hey, talk to me a little bit because you wrote a book about student loans, so I’m going to take that you know a lot more about this than I do. We hear about the student loan crisis and that there’s so much debt out there when it comes to student loans. Can you talk about the magnitude of what is really out there? What’s legit, what’s not, and how big of a crisis is this?
David: Yeah, so currently there’s $1.5 trillion of outstanding student loans which has been a big increase, I believe 350% since 2003. So really, the past couple of decades, we’ve seen it just continuing to rise. There’s quite a bit of debt that’s past due or people are late on payments, so recently the Federal Reserve announced $166 billion is seriously delinquent, which means debt that is 90 plus days late or debt that’s in default. So I mean, there really is a big issue, it’s affecting 40 plus million people, that’s how many borrowers we have currently. And I think that even a bigger issue is that there’s not really any indication that it’s going to slow down anytime soon.
Joe: People equate this almost to the housing crisis in a sense that everyone needs a college education, so let’s make the student loans available to everyone, and then the universities kind of took advantage of that by raising college tuition prices and so more and more people got into larger and larger debt, and then now it’s kind of snowballing, and some of these individuals that have the debt don’t necessarily have the jobs yet to pay off the loan. So what gave you this, the mission, of saying this is what I want to do, I want to help people get the hell out of this rathole that they’re in?
David: Yeah, I think going all the way back to when my wife and I graduated college, we both went to private universities in the Twin Cities area. So we graduated, newly fresh grads, we owed, on the standard 10-year repayment plan, about $1,000 a month minimum, which, as fresh college grads, that’s a sizable amount of money. You’re making probably the least you’re gonna make in your career. And that really kind of stuck with me and is kind of why I wrote the first book, and then the second book was specifically focused on student loan debt. So strategies to pay it down, options available to borrowers that they might not be aware of. It’s a big issue and I think that’s what motivated me to actually spend the past year writing this book and putting it together because I do think there’s just so many people who need more information, need to understand their options, and just kind of have those resources to be able to confront their student loan debt.
Joe: Where did you go to school, St. Thomas?
David: I did go to St. Thomas, yep.
Joe: I know you were a bright kid. I’m from Minneapolis myself. Are you still in the Twin Cities?
David: I am.
Joe: Are you gonna hit March Madness? Are you going to go watch some games?
David: I don’t have tickets, I believe the cheapest ones are more than a thousand apiece, so… (laughs) I won’t be able to make it to the final four.
Joe: All ya gotta do is go in debt. All right David, here’s what you do… don’t pay your student loan, go out there, get a ticket, and have a good few hours, have a couple of pops, and then just catch up next month. (laughs)
Al: And then you’ll regret it for years.
David: (laughs) I’m sure a few people do that.
Joe: Talk to me a little bit about the mistakes that people make, because I don’t want to necessarily give your book away. It’s a phenomenal book. I think everyone should buy it. But I think there are some mistakes that people make because it gets confusing. You’ve got federal loans, you’ve got private loans, then you get bombarded with let’s refinance, then people are looking, should I refinance? And then there are some programs out there and when it comes to your income-based. There are all sorts of different nuances when it comes to student loans. Can you just give me a little bit of the ABCs and some things that maybe people should look out for, like big red flags that they shouldn’t do I, guess?
David: Yeah, so let’s start with student loan defaults. So currently there are 8 million borrowers who are in default, which is a huge number. About a quarter million each quarter join that number. So I think, obviously, the biggest mistake is ignoring your student loan debt, because there are income-driven repayment options for that federal student loan debt. And you mentioned the housing crisis earlier, where this is a little bit unique is that student loans are very difficult to discharge in bankruptcy. And the obvious reason would be if people go into too much debt, they might just declare bankruptcy, have their slate wiped clean, and then, obviously, make money throughout the rest of their life that could have gone towards that debt. So it’s a little bit unique in that sense, where you’re gonna have to repay these loans. Your wages can be garnished, your Social Security can be garnished. So the biggest mistake is not confronting them, but some people, I mean, they open their bill when they graduate from college. They don’t really know what options are available to them and they laugh and say, “This is crazy, I can’t afford this, I’m not paying it.” And they just ignore it. So that’s definitely one of the biggest mistakes, and I think at any point if you’ve made that mistake you can correct it and start looking into, “OK, how do I get out of default? How do I get my loans current? What repayment plans are available to me?” That’s a big one. The second one I would say, you mentioned refinancing. One thing that does concern me right now is how much advertising there is around refinancing, and one thing that kind of bugs me is when companies say that refinancing is kind of a “solution,” it almost makes it sound like it eliminates your debt. But really, you’re getting a lower interest rate, which can save you hundreds or thousands of dollars, but if you would benefit from an income-driven repayment plan or some of the forgiveness opportunities that come with federal loans, refinancing with a private company can be a mistake because there’s no going back once you do that.
Joe: How does it work with the income repayment program? So I have $50,000 of student loans. How do I qualify? Do I say, “here’s my tax return. This is what I can afford,” and then they work with me? And then do the check up on me every couple of months or couple of years and see if I’m making any more money? How does that process work?
David: Yeah, so with the income-driven repayment plans, it’s capped at a percentage of your discretionary income. So, exactly, they take your tax return, your adjusted gross income, use that. And then there’s a family size and a geographic factor that’s used to calculate your poverty level for where you live, how many people are in your family, and then that’s used to calculate your discretionary income. And with these income-driven repayment plans, some of them do require you to have a low enough income where it would actually benefit you to take advantage of them. But there are some plans where they got rid of that hardship requirement. So it’s easier to jump into it. So really, they’re available to anybody with federal student loans, and they can be beneficial, especially – and I don’t know if you want to go down this rabbit hole, but with public service loan forgiveness, where, if you have a federal direct loans and you work for a 501(c)3 non-profit or government employer and you’re on a qualified income-driven repayment plan, if you make payments for 10 years, so 120 monthly payments, they don’t have to be consecutive, you do get tax-free loan forgiveness. So that’s really a big benefit. But also, even if you’re working for a for-profit and you can’t afford your student loans, it’s better to jump on the income-driven repayment plan. It doesn’t mean you have to stay in it forever, and you can make extra payments toward your debt even while you’re on that income-driven plan.
Joe: So I have to work for a non-profit for 10 years, and then after that 10 years is done then they’ll forgive the loan?
David: Yeah, and I think one thing I didn’t address in my previous answer – you do have to re-certify your income annually, so once a year, so that the government knows how much money you’re making. And the easiest way to do that is just using your tax return because it’s verified, it’s something simple that can be referenced. If you do lose your job or you have a drop in income you can submit earlier than that annual re-certification and provide documentation of that to lower your payment. But for most people, using your tax return, annually re-certifying, is the way to go. And if you don’t do that, you do potentially get booted off of the income-driven plans and put back on that standard 10-year repayment plan.
Joe: There is a proposal by our president, talking about changing a little bit of student loans and how the payment process is going to work. And there are a few things in here that I find a little bit interesting, I was curious on what your take is. He’s talking about maybe eliminating public service loan forgiveness. So I guess if I have a student loan and if I go into public service, similar to what we were talking about, then if I work there, then they will forgive the loan. But he’s saying, “hey, let’s get rid of that and maybe have loan forgiveness for all.” Is that accurate?
David: Yeah. That sums it up, obviously with this topic, it’s pretty complicated quickly, but currently, there is loan forgiveness even if you’re not in public service. But it does take 20 years with undergrad debt, and in most cases, 25 years if you have any graduate debt, but that isn’t tax-free. So the way I interpreted the White House’s proposal is, get rid of public service loan forgiveness, and honestly, I think a big part of that is the fact that it’s tax-free because with this new plan they’re going to up the percentage of your income. Because right now there are income-driven plans where it factors in about 10% is pretty common. But they want to make it universally 12.5%. And then, again, this is interpretation, because they didn’t put out a ton of detail about these proposals. But after 15 years, it doesn’t matter who your employer is, who you’ve been working for, but you will have loan forgiveness at that point if you have only undergrad. The issue with that is that, if it is taxed, let’s think of somebody who has very low income but high debt. Eventually, they get to this 15 years and they get this big forgiveness amount, but they’re also going to get a big tax bill that goes with it. And I think there will be many instances where that individual won’t be able to afford it. And there’s also another aspect to this, in a sense that, if you have any graduate debt, I believe the proposal is 30 years until you can get forgiveness. Again, for some of those lower-paid employees, they’re going to have interest that’s accruing over that 30 years, and they might get this huge loan forgiveness amount of say let’s just use $300K as an example, but they’re gonna have to pay that as if they had made $300K that year, so unless they’ve been planning for three decades for that big tax bill, I think we’re gonna have some big issues with that.
Joe: (laughs) Of course they will be planning.
Andi: Isn’t that how everybody plans?
Joe: One last thought I have, Al and I see a lot of people that are approaching retirement or in retirement, and some of the staggering statistics that come across our desk is that a lot more people that are claiming Social Security benefits are having some of their Social Security benefits withheld because of their student loan debt. So they’ve been helping their kids out, or maybe they went back to school. So your book is not necessarily only for individuals that are right out of school. I think it’s universal, if you’re 65 years old and you still have student loan debt, or if you’re 22 years old and just graduating.
David: Yeah exactly. I mean, it’s an unfortunate trend, but really across every generation, we’re seeing higher and higher levels of student loan debt. And the book really just lays out the options, regardless of what type of that you have, or how much, what your age is, really just digging into it and learning about your options and opportunities is important.
Joe: We’re talking to David Carlson, YoungAdultMoney.com is his website, his latest book, Student Loan Solution: 5 Steps to Take Control of Your Student Loans and Financial Life. David, one last question, with Hustle Away Debt, what’s your favorite side hustle?
David: This is going to be kind of your typical answer, but I’d say blogging, just because both of these books have come out of blogging. I’ve been able to make a decent side income doing that. So it’s not easy, but if you enjoy writing and kind of building a small business, blogging can be a great side hustle.
Joe: David, hey, great work. Appreciate what you’re doing. A lot of people need your help, so check him out at YoungAdultMoney.com, that’s David Carlson. Thank you very much. I really appreciate you taking the time.
David: Yeah, thanks for having me.
Read the transcript of this interview and find links to David’s website YoungAdultMoney.com and his books, Student Loan Solution and Hustle Away Debt, in the show notes for today’s podcast episode at YourMoneyYourWealth.com. Next week on the podcast, we’re talking about ATM fraud – because I was a victim! We’ll talk about how it happens, what to do when it does, and how to avoid it in the future. If you haven’t subscribed to YMYW, what are you waiting for? It’s free, and you can listen to the podcast whenever you want. Links to subscribe and share are at YourMoneyYourWealth.com too, along with the all-important “Ask Joe and Al On Air” button – you’ll have to scroll down the page to find it, then click it and send your money questions or comments to the fellas as a voice message or an email, and they’ll respond here on Your Money, Your Wealth®. Their answers might even be helpful!
18:40 – Should I Transfer Money from My Traditional IRA and Solo 401(k) into my Company 401(k)?
Joe: Got Tracy from Chicago. She says, “I’m 48 and my spouse is 50. I recently returned to work and our combined income will be about $200,000,” so the spouse, the 50-year-old, “has a pension and $185,000 in a 401(k) plan with 45% pre-tax, 25% post-tax. I have to $225,000 in a traditional IRA and $35,000 in a traditional solo 401(k). We would like to retire in about 10 years.” This year, Alan, here’s what they’re going to do. “We’re going to max out our traditional 401(k)s, spouse does catch-up contributions $19,000 and $25,000 with our lower AGI and tax savings including AOC.” Any idea?
Al: Um… no.
Joe: Okay. “We will also max out our Roth IRA, $6,000 and $7,000, and contribute an additional $13K for retirement. I know how you feel about Roth versus traditional, but most scenarios assume you’ll spend the tax savings, not invest it in a Roth IRA as we are doing. Please discuss.” Tracy, I don’t know what you’re asking.
Al: Well, let me just – one thing right off the bat. 75% pre-tax, 25% post-tax. You’ve got those numbers wrong.
Joe: 75% pre-tax 25% post-tax?
Al: You said 45% pre-tax. Just in case we have accountants out there wondering what the heck?
Joe: I think he’s losing his hearing.
Al: (laughs) We’ll have to go back on the tape.
Joe: It is recorded.
Andi: I just wanted to say real quick, I checked the AOC: American Opportunity Tax Credit? A qualified education expense paid for…
Joe: American Opportunity Credit? So they get kids that they’re putting through school.
Al: Okay. That makes sense. Thanks, Andi. Well, I guess first of all…
Joe: I’ve never seen it as A.O.C. before.
Al: Me neither.
Andi: No, when I looked it up it actually comes up as AOTC, so…
Al: Oh. Close enough. So the fact that you and your spouse are maxing out 401(k)s, bravo, the fact that it gets your AGI down low enough to do Roth contributions, fantastic. This is great. Our job is done, almost, Joe, except she wants us to discuss, we talk about putting money into a Roth IRA and she says, “I know how you feel about Roth IRAs, but most scenarios assume you will spend the tax savings, not invest it in the Roth IRA as we are doing. Please discuss.”
Joe: Okay. Yeah, I guess what we’ve talked about before is that – again, this is when people get kind of half the information a little bit? The purpose of saying, “spending the tax savings” is that let’s say if you have a traditional IRA, I have a Roth IRA and we put the same amount of dollars in, you have the tax savings, I don’t have the tax savings. The assumption is that, let’s say if you saved a few thousand dollars in tax a year by putting them in the 401(k), most people spend that tax savings because their paycheck is larger because they got it pre-tax, and it’s like okay, instead of having a lower paycheck, because I didn’t get the tax savings on each paycheck that I put my contributions into the Roth, and you went pre-tax, and you’ve got a little bit, that check is still gone. I saved into my 401(k), I paid myself first, and then I spent everything else. I’m doing the same thing but what I’m doing is I’m foregoing the tax deduction. I’m just spending less money than Alan because I have a lower paycheck because I didn’t get the tax deduction going into the Roth. And then if you fast forward 10, 20, 30 years, all of my money is sitting in a Roth IRA. Alan’s money is now sitting in a 401(k) plan. When I pull my dollars out, I pay it tax-free. I’m not remembering that “oh my gosh, my paycheck was a little bit lower each week or each month or each biweekly, whatever I get paid, because I forego the tax deduction in that given year or the previous years because I spent what my paycheck was.” You, on the other hand, are going to feel it a lot more than me, because now when you take your dollars out, you’re going to be paying tax. You’ve got a million dollars in a 401(k) plan. You don’t have a million dollars, because you have to pay tax on the money coming out. I have a million dollars in my Roth account, it’s 100% mine. That’s the difference.
Al: Right. I think what she’s getting at though, and we do say this, we say, go Roth if you can because most people spend their savings on what they save tax-wise, and she’s saying, “well, we don’t, we wouldn’t really spend it. So does that still apply to us?” And the answer is yes, it still applies to you because you have money in a Roth IRA that’s going to grow tax-free which you’re going to really appreciate down the road.
Joe: So number two, “I believe my employer will allow reverse rollover from my traditional IRA and solo 401(k) into my employee 401(k). I am just learning about this possibility and would love to hear your thoughts.” Sure, I mean if you want to consolidate and just put everything into your own employer-sponsored plan, I don’t see why that’s an issue. Let’s say if you were above the AGI limits where you could not contribute to Roth IRAs, we would highly recommend that you do that, because then you could do a non-deductible IRA and then convert that directly into a Roth IRA and avoid the pro-rata and aggregation rules when it comes to the backdoor Roth contributions.
Al: Yeah I would agree, that’s the reason most people do that, is so that they can get rid of their IRAs because their income is too high to qualify for a Roth IRA contribution. So the workaround is to, if you don’t have any IRAs and 401(k)s, do not count in this calculation. If you don’t have any IRAs, you can do a non-deductible IRA and then convert that. It’s the same impact as a Roth contribution. It’s just kind of a backdoor way to do it.
Joe: Yeah it’s just a roundabout way. I like these terminologies we’re getting – reverse rollover. 20 years, never heard that one.
Al: Yeah, it’s good though. I think I got that one.
Joe: No I did, I understood what she was saying. Reverse rollover. Yeah. So go for Tracy, by all means. If you like your 401(k) plan and you want to have one statement. But you know, of course, you’ve just got to check out the fees and costs, you’re gonna check out the limitations of the plan, you want to see all sorts of things. Would I do it personally? Probably not. Our employer plan is through a company and my investments are at a different company. I mean I can keep track of it the same way, but…
Al: I think in general you have more investment opportunities – investment choices, in an IRA than 401(k). That’s not always the case, some 401(k)s have brokerage features where it’s kind of unlimited, but most of the plan sponsor administrator will pick 20 to 40 different investments and you gotta pick one of those.
25:55 – Should I Contribute to My Company Retirement Plan Even Without an Employer Match?
Joe: We’ve got Scott from New York City – it doesn’t say New York City, it just says New York. “Good day.” Maybe he’s from Australia? “Good day. Thanks for the podcast.” All right. “My question is, do you still advise contributing to a company 401(k) or 457 even if the company does not provide any matching funds? Since I work for a state agency there is no matching, however, I have a pension that I contribute to, which amounts to about 5% of my income each year. Would you suggest contributing some funds to the 401(k) or 457, or some funds to an IRA, or some combination? I like the tax deductibility, but I would also like the free money. But seems you can’t have both working for the state. Thanks for your time.” All right so he’s asking, he’s got a 401(k)/457 plan through the good state of New York. They’re not matching any funds, but he will have a state pension that he’s contributing into. So I would say absolutely. You want to take advantage of all savings plans that you have available to you because even if they don’t match, I mean, a lot of companies don’t match.
Al: Yeah and a lot of companies don’t even have plans at all. So I would agree with you, Joe. And furthermore, like a lot of 401(k) plans have Roth options… so think of this alternative: either not contributing at all or contributing to a Roth. It’s the same tax consequence, but now you’ve got a whole bunch of money in a Roth IRA, a Roth 401(k), that will be tax-free in the future – so that seems like a no brainer. It depends upon your tax bracket and a whole bunch of things, it depends how much you’ve already saved and things of that sort. But just a general answer is yes. Take advantage of the savings vehicles that you have as long as you can afford them.
Joe: Yeah. Out of sight out of mind is really good. There are so many different statistics out there, for individuals that do have a 401(k), 457, 403(b), any type of employer-sponsored plan, as they approach retirement, they have much more in regards to wealth and liquid assets than someone that didn’t necessarily have it, even though they had the same income or the same salary.
Al: Yeah and that happens because of the fact that out of sight out of mind, and a lot of us – most of us – maybe not all, but most of us, we kind of get to whatever our paycheck is, it’s like we kind of know that’s in our checking account and we figure out ways to spend it. Maybe we save some, but it’s hard to be super-disciplined. And as you get raises, you tend to spend a little bit more. If you can autopilot that and have money go to the 401(k) or in this case the 457 or both, then out of sight out of mind and it’s safe.
Joe: Yeah I would look at a few things. I’m not familiar with the state of California – pff, state of California. If the state of New York does have a Roth option in the 401(k) plan. That’s something to look into, Scott. If they do, you probably want to beef up, I would say, it depends on what how many years to retirement – it sounds like there’s probably a few years here because he’s just kind of now investigating his retirement plans. But if he’s going to have a pension, what we’ve found is that people that have a decent-sized pension, they’re not necessarily good savers, because they’re like, “well here, I have a really good pension,” and then we find out that they just bank everything on the pension.
Al: Right, because they feel like they don’t have to save.
Joe: They don’t have to save, or they think that was their savings. “I’m putting 5% into my pension.” Well, are you still putting into Social Security? Sometimes when we see state plans, depending on the state, is that they don’t put into Social Security, they only put into the state pension. And so then they will get the state pension benefits, but they don’t get Social Security and then they’re thinking, “well wait a minute, I thought I was gonna get both?” So you need to do little bit more due diligence here, Scott. But if you have the excess capital or cash flow to do it, absolutely look into it. Do you want to do an IRA, like Al said? Yeah, Roth. Because if I have a larger pension, it’d be nice to supplement that income, potentially, with some tax-free income to go along with it. So even though you’ve got no free money, there is no free lunch, Scott.
Andi: I’ve got a quick question here. Normally with the order of savings, we talk about pay off debt, then contribute to the company match, and then Roth IRA, and then go back to the 401(k) or whatever the company plan is. What would be the order of events if there is no match involved?
Joe: Well, it depends on what’s his income? If there’s no match involved, and if he has a Roth 401(k) option, then it depends on his taxable income. Because it’s so much easier to put the money into a 401(k) plan or 457 plan versus to establish a Roth IRA through Fidelity, Vanguard, TD Ameritrade, Charles Schwab. And then if someone thinks of that, they’re like, “oh, I don’t want to do that, whatever, I’ll do it next year, next year whatver.” I would, in this case maybe you go to the 401(k) first, see what the income is, and then if they’re savvy enough, then open up the Roth.
Al: Yeah I agree with that, and here’s why – it’s because when you try to open up a Roth IRA, let’s say before April 15th of the following year, so this this year, 2019 it’s $6,000, and then it’s like to write a check for $6,000 s a lot more difficult than to have $1000 or $200 withdrawn from each paycheck. You hardly miss it, you don’t really see it. And I think, to piggyback Joe on one of your comments, I think a lot of people that we see that have pension plans, and they they have good pension plans, and so they have a lot of ordinary income that puts them in a higher tax bracket – those folks that have been able to put money into a Roth IRA, whether it is a Roth IRA or a Roth 401(k), are generally pretty happy because they have some tax diversification. It’s those folks that don’t have a pension plan where then they might want to have a little bit more balance. But those that have a larger pension plan, if they can favor the Roth, that’s often a good strategy.
Joe: Right, because how tax brackets work is that you fill up certain brackets with the income that you’re deriving from your investment sources. If I already have a fairly large pension, that might already put me up into let’s say the 22% tax bracket. Where if I have a 401(k) plan, I could say, you know what, I’m only going to pull from the 401(k) plan to the top of the 12% tax bracket, but any additional income that I need I’ll just take from other sources – cash, my taxable account, or my Roth account. So there’s more diversification there. But what we found is that, let’s say if I’m a really good saver and I also have a large pension. Now you’re stuck in a higher bracket and then all your dollars that you saved were in these retirement accounts, it’s going to be taxed at ordinary income rates. A lot of that money could be lost to tax unnecessarily.
Scott, check the podcast show notes at YourMoneyYourWealth.com for video of Joe and Big Al answering your question! Speaking of tax, April 15th is right around the corner, and your taxes are due, even if you’ve filed for an extension to file until October 15! Before you file, click Special Offer this week at YourMoneyYourWealth.com and download the 2018 Tax Checklist for a list of all the documentation you’ll need and some important things to consider before you file your taxes. Click Special Offer or find the download link in the podcast show notes for today’s episode at YourMoneyYourWealth.com. Now, more of your company retirement plan questions! If you’ve got money questions of any kind for the fellas, scroll down the page at YourMoneyYourWealth.com until you see the Ask Joe and Al On Air button – click that and send ‘em a voice message or an email.
33:43 – My Company is Adding a Roth 457b. Can I Do In-Plan Roth Conversions?
Joe: Now we got Todd from Chicago. He says, “Hi Joe and Al, I listen from the Chicago area, love the show.” I love Chicago, Todd. Maybe next time I’m there we can hook up. We’ll talk finance.
Al: (laughs) That would be fun.
Joe: There would be a lot of fun. Have a couple…. you know. “I’ve learned a lot.” Well maybe – are you sure you’re listening to this show?
Al: (laughs) He’s thinking of another show.
Joe: Gotta be. There’s gotta be a Joe and Al in Chicago somewhere. “My question is, I’m a firefighter, 46 years old, I have a 457 plan. We’re adding a Roth 457(b) option to the plan. Can I do a Roth ladder conversion within the plan? In other words, can I slowly convert my existing pre-tax 457(b) money into the Roth 457? My employer does not offer any kind of matching funds. I know I would create a taxable event and will be careful not to push myself into the next higher bracket. I just wasn’t sure if the IRS allows this type of in-plan conversion. Thanks.” Todd, I like your thought process there. Inter-plan conversions. I know that it was… what year? 2015? Where the law changed?
Al: Yes something like that.
Joe: Where you can now do inter-plan conversions. No it’s probably 2012 because what, 2010 was the start of conversions without the modified adjusted gross income of $100,000, right?
Al: That is correct.
Joe: And then a few years after that they said, “you can now convert inter-plan.”
Al: Yeah well I think they said that employers should start offering a Roth option in a plan and then part of that was you could convert in-plan.
Joe: Yeah. The Roth options of 401(k)s for 403(b)s and everything else was in the Pension Protection Act of ’06. TIPRA was actually signed in ’05 but none of this stuff happened like for 10 years later. Like the ability to do a Roth IRA conversion with a modified adjusted gross income of over $100,000 was actually signed in a bill in ’05 but didn’t come into effect until 2010. There are still, I don’t know, so many different employers that do not have a Roth 401(k) plan option or Roth provision in their 401(k) plan, when the law was passed in 2006 to allow plans to do this, and then in 2012 it allowed plans then to convert inter-plan. Because the laws changed quite a bit now with retirement plans. Before you could do a conversion, move money from an IRA to a Roth or 401(k) to a Roth, it had to touch an IRA. So if I had a 401(k), I could not directly convert a 401(k) to a Roth IRA. It would have to go IRA, and then IRA to Roth IRA. And then they changed that law and they said, “OK, now all plans can directly get converted into a Roth IRA.” So if I had a 457, 401(k), 403(b), I could take the 401(k) plan, convert it directly to a Roth IRA. Then they said, “all right well, instead of going, if you have a Roth provision inside your plan, we’ll make it really easy on you – you can convert inside your plan.” So the law stated, “I have a 401(k) plan that’s pre-tax. I have a Roth 401(k) plan. Can I do an inter-plan conversion? Can I take money from that plan, convert it into the Roth component?” But the law stated then that it was irrevocable. So if you did that conversion, there was no re-characterizations. Then now, the law keeps progressing on us. And then just with the Tax Cuts and Jobs Act that was signed what, a year and a half ago, they said no more re-characterizations of any of any type.
Al: Right. Except for contributions.
Joe: Except for – yeah. Because if you make too much income and then they don’t want the money in the Roth.
Al: Yes. So Todd, the answer is, the IRS allows it. And I’d say most plans, but not all, not all plans allow it. So you’re gonna have to check with your plan to see if they allow that kind of thing. But we do encourage you. It’s a good idea.
Joe: So let’s dive deeper into that though Al, because here’s what is another confusing fact when it comes to retirement accounts is that the IRS will say one thing, but the plan document supersedes what the IRS says.
Al: That is correct. And so the IRS says you can do this, but it’s plan specific. So the plan itself is going to designate what can or can’t be done, and the plan needs to follow the IRS regulations and rules. They can’t come up with, like a new, separate rule and say, “oh, now you can convert to a Roth and not pay tax.” They can’t do that. But they don’t necessarily have to put in the plan, everything that the IRS allows. And that’s where there can be a problem.
Joe: And the reason for that probably is that because the law changes often and they would have to restate all the time, they would have to continue to go to their third party administrator and pay a bunch of fees to say, “hey, we want to comply with this law, we want to comply with that law.” So they would constantly have to be changing their overall plan.
Al: Right. That’s probably true.
Joe: That’s a guess but I would see why they wouldn’t. But yeah, Todd, I’m not familiar with 457 plans in Chicago. So what I would do is talk to the plan administrator and just give them a buzz and say, “Hey, can I do the conversion?” By law you can. The law was – I forget the name of the Act, but it was 2012, I believe. But for sure you can do it by law. But it’s up to the plan. And if they don’t, I would say, “hey, let’s do this.” Because now all plans with the whole fiduciary rule and everything else, I think if enough people said something, they would probably act. And so, appreciate you – Chicago Fire here!
Al: Yeah right.
Joe: It’s one of my favorite shows. Todd’s out there making things happen in Chicago, appreciate your service out there, fighting fires saving lives. 46 year old, he’s probably only got, what, maybe nine more years then he’s retired He’s got a nice pension, and then he’s going to have a big fat Roth IRA from Your Money, Your Wealth®.
40:06 – Should I Move to All Cash Before My Company Changes 401(k) Custodians?
Joe: All right. Christine writes in, she goes, “Hello, my employer is changing the company that handles our 401(k) investments from Prudential to Fidelity. In the past when they have changed companies, they move our investments to like investments in new company. Sometimes I was happy with choices, in some cases changed them.” I’m just reading how she wrote it, brother.
Al: (laughs) Is this how you speak?
Joe: “Should I be moving all into cash in my plan now and then direct money when it is moved into new company? Thanks in advance for your advice.”
Al: My opinion Christine is no, just stick with what you have right now and they’ll, if they move you into something similar, great. Then at least you’re invested in something similar. Then if you don’t like it, change it at that point. If you go into cash right now you might miss a market move and completely regret that.
Joe: And so what Christine is referring to is that her money is at Prudential. And let’s say she’s in Prudential mutual funds or there’s funds in that Prudential plan that, when Fidelity takes over the plan, they don’t have those same mutual funds within it the other plan.
Al: So they’ve got to put it in a substitute investment.
Joe: Yes. So they’re going to say, “we’re going to sell this large cap growth fund that you have in the Prudential plan and we’re going to buy something similar within the Fidelity plan.” And so she’s thinking, “hey, should I just go into cash so when it goes to the new plan it just goes from cash to cash, then I can reinvest.” I agree with you wholeheartedly Al, just keep it fully invested. They do a pretty good job of matching up the funds within the same asset classes, then yeah, if you don’t like the choices, then change it as you see fit.
41:41 – Should We Convert 401(k) to IRA or Roth IRA for Better Protection of Our Investment Properties?
Joe: We got River. I wonder if she is named after River Phoenix?
Al: (laughs) Could be. We don’t know where River is from.
Joe: Yeah. I don’t know.
Andi: Yeah. She didn’t give us that information.
Joe: You know where River Phoenix was from?
Joe: Gainesville, Florida. I almost kicked Joaquin Phoenix out of the bar that I worked at.
Al: Got it. Okay.
Joe: He came in at like 2 o’clock in the morning, looked homeless. And I was like, “Hey buddy, I’m sorry, we can’t serve you. We were closing. So I gave him a sweet tea to go. You ever had sweet tea? Tea with like…
Andi: 10 pounds of sugar. It’s a very popular thing in the south.
Al: Is it? I guess not.
Joe: All right. “Hello Joe and Big Al, I love the podcast, it’s both educational and fun. I can’t wait to listen to it every week.” Well thank you, River. That’s very kind of you. “Keep up the good work and thank you for sharing your knowledge. I appreciate it very much. My husband has an old 401(k) and I’m not sure if we should convert it to an IRA for more choice, funds ETFs etc. We have several rental properties which are properly insured and maintained and tenants are required to purchase renters insurance. We also have an umbrella policy of about a million bucks to cover the properties. I heard that in case we get sued (not likely) then the funds in a 401(k) is better protected than an IRA. How about a Roth IRA? Is there better protection in Roth? We plan to retire in two to three years and wanted to convert as much money as possible to Roth after the retirement when the W-2 income is gone. I’d love to hear your thoughts. Thank you.” River, she’s on it. Yeah you are absolutely right, there is more creditor protection in a 401(k) because it’s under ERISA than an IRA. However, there is the protection that will still carry over from a 401(k) if you do roll it into an IRA for certain things in certain states. Since I don’t know where River is calling from, or emailing from, it’s hard, we can’t really give her the exact answer.
Al: That’s true, but we can say if she’s in California, then I don’t know the exact figure, but it’s around $1.2 million, $1.3 million, something like that. So probably one million to one and a half actually, somewhere in that range. You can actually roll from a 401(k) to an IRA and get the same protection. This is relatively new. I mean, this is just a few years ago where this came into being. And then the Roth IRA, it depends, because it depends whether it was originally 401(k) or a Roth.
Joe: Right. But you have to look at the statute of, is it creditor protection? Is it criminal? If you do something and all of a sudden you get sued because of criminal activity, that’s something different than if someone, a creditor was looking to get at some of the capital. And each state is a little bit different. But I guess in general terms, if you believe that you could get sued I guess for rentals? But you have a lot of rentals, Al. Would that exclude you from moving money into a Roth IRA?
Al: It would not. What I would do instead is I would put my rentals in LLCs. I like the umbrella, but I would take that extra coverage – not coverage, but that extra step of putting maybe a property into an LLC or maybe a couple properties into an LLC, so if something goes terribly wrong with a property then the lawsuit is limited to the assets inside that LLC. And we’re not attorneys, so we’re just doing our best here. But that’s what I would do – I wouldn’t worry too much about the protections of the 401(k) personally, but if I was concerned about liabilit,y I would open up some LLCs. And in California, you have to pay $800 per year per LLC. So it’s not cheap, but it might be worth it for protection.
Joe: Yeah. So if you’re looking to slowly convert money from a 401(k) into the Roth and you’re worried about getting sued, yeah, I think that’s a great idea. You just kind of limit the liability to the overall limited liability company that owns that property. And it’s a flow through, so everything’s kind of the same except for you got a little bit of a fee to pay to the state. And another tax return.
Al: Yeah. Although if it’s a single member LLC you don’t even file a federal return and it’s like a three page state return, just so you can pay your $800 is what it’s for.
Joe: Yeah. When would you have to file a full return for the LLC?
Al: If you had another partner that wasn’t you and your spouse.
Joe: Got it. That has no bearing on income or anything like that?
Al: No, it is just a single member versus multi-member, I guess.
Joe: All right. Hopefully that answers your question. For Big Al Clopine, I’m Joe Anderson, the show is called Your Money, Your Wealth®. Thanks a lot for listening.
Special thanks to today’s guest, David Carlson. For more information about David and his latest book, Student Loan Solution, find links in the podcast show notes at YourMoneyYourWealth.com, where you’ll also find links to share and subscribe to the podcast on Google Podcasts, Apple Podcasts, Spotify, listen on YouTube or find it on your favorite podcast app. Click to subscribe to the podcast on any of the following apps:
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Side note, I got a chance to meet millennial millionaire Grant Sabatier last weekend when his Financial Freedom book tour hit San Diego – I posted a photo on Twitter, check it out @andipodcast or @ymywshow