ABOUT HOSTS

Joe Anderson
ABOUT Joseph

As CEO and President, Joe Anderson has created a unique, ambitious business model utilizing advanced service, training, sales, and marketing strategies to grow Pure Financial Advisors into the trustworthy, client-focused company it is today. Pure Financial, a Registered Investment Advisor (RIA), was ranked 15 out of 100 top ETF Power Users by RIA channel (2023), was [...]

Alan Clopine
ABOUT Alan

Alan Clopine is the Executive Chairman of Pure Financial Advisors, LLC (Pure). He has been an executive leader of the Company for over a decade, including CFO, CEO, and Chairman. Alan joined the firm in 2008, about one year after it was established. In his tenure at Pure, the firm has grown from approximately $50 [...]

Andi Last
ABOUT Andi

Andi Last brings over 30 years of broadcasting, media, and marketing experience to Pure Financial Advisors. She is the producer of the Your Money, Your Wealth® podcast, radio show, and TV show and manages the firm's YouTube channels. Prior to joining Pure, Andi was Media Operations Manager for a San Diego-based financial services firm with [...]

Published On
April 9, 2024

What is private credit and where does it fit in your investment portfolio? At age 60, Hope is tired of working and she’s hoping to retire in 2-3 years. Should she factor home equity into her retirement spending plan with a reverse mortgage? Which mortgage option for a Houston dream home is best for Nisa in San Jose’s early retirement goals Plus, Wayne in Phoenix needs to know how the section 121 tax exclusion works on a vacation home, and Jack and Jill in the UAE have questions about tax gain harvesting and the foreign earned income exclusion. Finally, are Joe and Big Al off their strategy game? A Spotify listener takes the fellas to task about the Affordable Care Act subsidy discussed in episode 472, and challenges their spitball for Duke and Daisy’s retirement spending plan in episode 475.

Follow the YMYW podcast Subscribe to the YMYW newsletter

Show Notes

  • (01:03) What Is Private Credit? (Janine, La Jolla, CA)
  • (08:07) Is a Reverse Mortgage Right for Me? (Hope)
  • (14:59) Which Mortgage Option is Best for Me in Early Retirement? (Nisa, San Jose, CA)
  • (24:04) Section 121 Tax Exclusion on a Vacation Home? (Wayne, Phoenix, AZ)
  • (27:39) Foreign Earned Income Exclusion: Can I Harvest Long-Term Capital Gains? (Jack & Jill, UAE)
  • (37:06) ACA Subsidy & Retirement Spitball: Are Joe and Big Al Off Their Strategy Game? (Spotify commenter)
  • (45:02) The Derails

Free financial resources:

LISTEN | YMYW PODCAST 117: Using Reverse Mortgages To Secure Retirement with Dr. Wade Pfau

WATCH YMYW TV | How Your Home Can Create Retirement Income

DOWNLOAD | Retirement Readiness Guide

DOWNLOAD | 2024 Tax Planning Guide

WATCH THE WEBINAR | What You Need to Know Before Filing Your Taxes in 2024

Free Financial Assessment

Listen to today’s podcast episode on YouTube

Transcription

Andi: At age 60, Hope is tired of working and she’s hoping to retire in 2-3 years. Should she factor home equity into her retirement spending plan with a reverse mortgage? Which mortgage option for a Houston dream home is best for Nisa in San Jose’s early retirement goals? That’s today on Your Money, Your Wealth® podcast number 476. Plus, Wayne in Phoenix needs to know how the section 121 tax exclusion works on a vacation home, and Jack and Jill in the UAE have questions about tax gain harvesting and the foreign earned income exclusion. Finally, are Joe and Big Al off their strategy game? A Spotify listener takes the fellas to task about the Affordable Care Act subsidy discussed in episode 472, and challenges their spitball for Duke and Daisy’s retirement spending plan in episode 475. But first, what is private credit and where does it fit in your investment portfolio? I’m producer Andi Last, and here are the hosts of Your Money, Your Wealth®, Joe Anderson, CFP® and Big Al Clopine, CPA.

What Is Private Credit? (Janine, La Jolla, CA)

Joe:  We got Janine from La Jolla, California. “Joe, Big Al, Andi love the show. I searched Apple podcast for Roth conversion  when I was trying to learn more about them.”  So we popped up Al.

Al: Apparently, like, apparently we talk about it once or twice a show.

Joe: “And there it was. YMYW and I’m hooked. I listen while chauffeuring around my dog, mutt named Jack, in a 2022 Tesla Model Y. Don’t drink often, but when I go out, I ask for a Foxy Clea-“

Andi: Cleopatra.

Joe: Oh, what the hell’s that?

Andi: Well, it says, sparkling wine, apple cider, cinnamon, and bitters.

Joe: Mmm.

Al: Never had that?

Joe: Never.

Andi: Sounds like it’s not up your alley, right?

Al: I never, never had that either, myself.

Joe: Sparkling wine, apple cider, little cinnamon. Cinnamon and bitters, sparkling wine. What is that? Is that white?

Al: That’s like champagne?

Joe: Champagne?

Andi: I think it’s only allowed to be called champagne if it’s actually from that region of France, so otherwise it’s sparkling wine.

Joe: Got it.

Al: Same thing.

Andi: Yeah.

Joe; “Now for my question, which actually isn’t about Roth conversions. In the last couple of years, I heard a lot about using private credit to diversify an investment portfolio, but it’s usually from people who are, of course, selling it.  What do you guys know about it? Thanks for your insight and keep up the great work.” Private credit. Wow. Sophistication here.

Al: Yeah, we are. We’re going to go deep down into this now.

Joe: It is very popular over the last couple of years, a couple of reasons why. Remember Silicon Valley Bank, Big Al?

Al: Yes.

Joe: So let’s go back a couple of years. So what happens? Inflation goes up, the Fed tries to fight it. What do they do?

Al: They raise interest rates.

Joe: Interest rates, right? So interest rates go, and they go pretty high, and they go pretty quickly.

Al: They hurt some banks. They got a little bit overextended.

Joe: Yeah, they blew up some banks. Yeah. And then, so, and then this is prior, if we even go back further with the credit crisis, there’s some laws that came into play to restrict and have maybe a little bit more oversight on the larger banks.

Al: Right. On lending.

Joe: Yes.  And so then you’ve got these smaller regional banks that, that blew up.  And it’s like, well, you know, these small businesses need capital.  So private equity. We know a little bit about private equity.

Al: We do.

Joe: You know, they invest in smaller companies, a little bit more risky companies.

Al: Yeah, they’re looking for a higher return, but there’s more risk.

Joe: Yeah. And they go in and they take a company, a small company like ours, and they help with maybe better executive management. They got to look at balance sheet finances and they, they brush it up and try to, you know, get the- get the company to perform a little bit better than they would on their own.

Al: Right.

Joe: So private equity has been around for quite some time. And so, private credit now is kind of, is private equity’s,  what, twin brother?

Al: Yeah, twin brother or sister, whatever you want to call it, yeah.

Joe: And so, private credit now is coming to the forefront by getting in and offering loans instead of purchasing some of that. It’s just like there’s equity or stocks versus bonds or loans.

Al: Yeah, so it’s, okay, so yeah, private equity, more like a stock. Private credit, more like a bond or a loan.

Joe: Correct. And so the yields are pretty good because it’s a loan. But it doesn’t trade, it’s not a bond.

Al: They’re generally illiquid.

Joe: Very much so.

Al: So you make a loan and you wait for it to get paid off.

Joe: Sure.

Al: You may get interest payments or maybe even some principal interest. A lot of them I think are interest only.

Joe: So, there’s high yields here. So you want to be very careful and you want to understand what you’re getting into. This is a private market. This is not public markets. Public markets, you know, they’re very- they’re a lot more transparent than private markets.

Al: And public markets are a lot more regulated.

Joe: Exactly.  So, I don’t know. I mean, I’m not saying they’re good or bad. I think it’s a diversifier, sure. It’s a different way to extract yield for the overall portfolio. If you know what you’re doing and you know how to do due diligence, or you’re working with a professional, that’s really good at this stuff, then might take a look at it. I would say for the average investor- I don’t know if they have enough time or resources to, to dive in and look out at all these notes  to see which one may default or may not or what’s legit because they’re all small businesses that they’re lending this money to that it’s not an Apple.

Al: Right. And there, there’s a lot of money flowing into this space right now. So it’s getting a lot of press and, and whether that’s good or bad, I’m not even going to say either.  I would say this though, I do not have any money in private credit. Do you?

Joe: Not yet.

Al: Yeah. So there you go.

Joe:  It’s, it’s crazy. I mean, we get calls and emails, I don’t know, probably 3 or 4 a week. It seems like from, from some of these companies, but yeah, it is-  It’s pretty popular right now. So what does that mean? Is that, it’s at a high?

Al: It’s just, in general, higher returns, higher risk. I mean, that’s kind of what it comes down to. And, and illiquidity, which, which is okay for some and others, it’s like, well, no, I can’t be without my money for 5 years or 10 years or whatever the loan is.

Joe: There’s an illiquid premium for this.

Al: Of course.

Joe: And so when you look at it, like these investments are normally for high net worth individuals that have a lot more capital, where they could have 10%, 15% of their capital tied up for 5 years where they don’t necessarily need the liquidity.

Al: Yeah. I think in the past year, you’re absolutely right. Like, like pension funds and endowments. We kind of dabbled in this kind of thing. Now it’s kind of becoming more common to everyday investors.

Joe: Right. And because the access now is crazy, where you needed millions and millions to get into some of these investments. Now they’re fund to funds, there’s pooled funds, there’s different platforms where the average investor now, can have access to, you know, unique exotic type investments, not saying private credit is all that unique and exotic, but you’re right Al. I think you hit it on the head is that there’s, there’s higher risk and you will receive a higher expected return. But it’s almost like equity-like returns with equity-like risk.  Why don’t you just go with equities? You know, it is a diversifier and you could get potentially lucky depending on the bundle of notes that you get into. But have you ever seen the Big Short?

Al: Yes. So, what was his name, Burry, who was reading, like, every single prospectus of thousands and hundreds of thousands of, I mean, if you have a brain like that guy, then, then go for it.

Al: Go for it.

Joe: Because you can find, you can definitely find alpha, and what alpha is, is that you can receive a higher expected return with probably less risk. But, if you know what you’re doing- if you, you have to know what you’re doing.

Al: Yeah, I would agree with that.

Joe: So, all right, that’s a cool question.

Is a Reverse Mortgage Right for Me? (Hope)

Joe: We got Hope writes in. “Hi. I love the show, learn a lot from the spitballs and the variety scenarios you cover. Since I know you like limericks, here’s an amateur- or immature one for you.” Limericks.

Andi: It’s the new hotness.

Joe: It’s hot. “There once was a podcast on money, with Joe, Big Al and Andi, quite funny.  They offered spitballs to folks and told mostly good jokes, but the best part was their loving camaraderie.”

Al: Wow.

Andi: Camaraderie.

Joe: Camaraderie.

Al: Camaraderie. Camaraderie. Yeah.

Joe: I was probably going to be worried that I blew up.

Al: That’s- Hope that’s, that’s very nice.

Joe: That was cool.

Al: Yeah. Very, very pleasant.

Joe: It was. Just rolled out the tongue.

Al: It did.

Joe: Until the last word.  “On to my topic, which is one I haven’t heard you address. Reverse mortgages. Here’s my situation. I’m divorced. I’m age 60 with a domestic partner in a legal agreement that outlines our separate assets. We share all expenses. I have $1,400,000 in pre-tax accounts. I earn about $200,000 to $220,000 a year and put about $30,000 away in my 401(k). I have approximately $2,000,000 and home equity with a $230,000 mortgage with 2.65% interest, which will be paid off in the next 12 years. We enjoy traveling. And our current expenses are approximately $150,000 a year, which I pay $75,000. I recently paid off a HELOC and shed a husband.”

Al: A double, got a double.

Joe: A double bagger. “So I don’t currently have much cash. My goal is to build on my savings. Starting in 2024, I should be able to put $40,000 away for each year that I continue to work.  Social Security benefits, about $25,000 at 62, $40,000 at 67, or $50,000 at 72.” Don’t wait until 72.

Al: Yeah, at 70 is the last date.

Joe: 70 is where-

Al: I think she meant 70.

Joe: All right, “I would like to work two or 3 more years. I’m tired, you guys.”

Andi: You can just hear her personality. It’s great.

Joe: “Running the calculation, I’ve learned from listening to your show, I believe I’m close. When I retire, I’ll work with my accountant to determine when to draw Social Security versus to pull from my pre-tax retirement accounts. My partner is financially stable and has a solid retirement plan, so I don’t need to include him in financial scenarios. Here’s my question. What do you think about factoring in home equity as a bucket of money that I can use in my later years? If I live that long, and if I need it, I live in a desirable area where my house should continue to increase in value. I know reverse mortgages generally have high fees and allow one to draw only a percentage of the home value. But could it still provide a kind of financial insurance plan which would allow me to stay in my house longer versus selling it outright? Does a reverse mortgage ever make sense?  Drive a 10-year-old BMW SUV. We all- we enjoy all kinds of cocktails. Except for rum.”  Yeah, me too. Sorry.

Al: Sorry, Al. I do like rum.

Joe: Yeah, “I appreciate the spitball. Signed, Hope. As in hoping to retire soon.” Yeah. Emoji. Yeah.  Emoji. All right.  Reverse mortgage. Yeah. Okay. So it’s been a while since we’ve talked about it.

Al: Yeah, it has. Right.

Joe: There’s something that’s called a HECM. It’s a Home Equity Conversion Mortgage,  and we had Wade Fowler, remember?

Al: Yep.

Andi: Bye.

Al: That was a long time ago.

Joe: That was a long time ago.

Andi: He’s like the expert on reverse mortgages, but Joe knows him for his voice.

Joe: He’s an expert in all things financial planning. The guy is a genius.

Al: He could not get through a sentence without you cracking up.

Joe; I love the guy.

Al: I know. He’s, he’s, he’s brilliant. He’s really smart. But it does have a different voice.

Joe: It’s funny. And so he wrote a book about using the home equity and it’s called a HECM, and again it’s called a Home Equity Conversion Mortgage. And basically, it’s a line of credit that you could potentially tap into. And so what some financial planners use home equity for a sequence of return risk. So you have a portfolio that you’re drawing from, and then the market tanks and you don’t want to sell any of the securities. Like 2022, when both stocks and bonds went down, it was pretty hard for people to sell something if they didn’t have enough cash at a loss. Because usually, all right, if stocks go down, bonds at least will hold true. But not last year. Yeah. Or ‘22.

Al: Yeah, they kind of, they all went down, didn’t they?

Joe: Right.  So, you could tap into this line of credit that you don’t necessarily ever have to pay back. So, for some people, it’s like, all right, well, here. I don’t necessarily want to leave a long lasting legacy. Might as well tap into the home. Yeah, there’s fees and there’s expense just like with anything else.  If you open up a line of credit, let’s say you have a line of credit of X dollars, that line of credit continues to grow for you.  So what some experts say in this field, and trust me, I am not an expert in reverse mortgages or a mortgage broker or sell mortgages, but I think you might want to look into it if this is a- a contingency plan because she’s got a ton of equity there. You might want to at least open it. It doesn’t cost you a few bucks to open it. But then, you know, if you ever want to draw on it, you can have access to cash and you don’t necessarily have to pay it back. So I don’t know. I think it’s worth a peek.

Al: Yeah, I think it’s worth a look too because there’s a lot of- lot of home equity. You don’t necessarily need to use it. Now, of course, your home is always a fallback asset. Like let’s say you need to go to a retirement home. You can always sell your home and use the money that way. You don’t necessarily need a reverse mortgage. In fact, if you had a reverse mortgage and it’s no longer your principal residence, you have to sell the property at that point because you have to live in the home. You have to be 62 years of age and you gotta live in the home. Some other rules, we’re kind of oversimplifying, but not a bad idea to look at. I did some quick numbers. I know we’re about out of time, Hope, but I think you’re right. I think you’re pretty close. You may not need it, but it’s, it’s a nice fallback.

Andi: Learn more about how to use a reverse mortgage to secure your retirement from the expert himself, Dr. Wade Pfau, way back on Your Money, Your Wealth podcast episode 117. I’ve linked it in the podcast show notes to make it easy for you. And, from various mortgage options to the seven benefits of downsizing and some creative alternatives, Joe and Big Al discuss even more ways your home can create retirement income, new this week on YMYW TV. Watch that in the podcast show notes as well, and download the Retirement Readiness Guide. Just click the link in the description of today’s episode in your favorite podcast app to get there. Now let’s stick with the mortgage topic for a bit longer.

Which Mortgage Option is Best for Me in Early Retirement? (Nisa, San Jose, CA)

Joe: We got Nisa.

Andi: Sounds good to me.

Joe: Is that your old employee?

Al: Yeah, that’s same name.

Joe: Yeah.

Al: Probably a different person because the Nisa I know lives in La Mesa.

Joe: Oh, San Jose, California. We go, “Hi, Andi, Joe, Big Al, love the podcast. Hilarious, fun, and very informative to listen. Plus really great dynamic among the three of you. The best I’ve seen.”

Andi: Wow.

Joe: You’ve seen?

Andi: It’s that camaraderie.

Joe: How do you, how do you see a podcast?  Is this on YouTube or somewhere? I don’t see any cameras.

Al: She can imagine.

Joe: Got it. Andi is fantastic. Andi must’ve wrote this.

Andi: That’s gotta be the answer, right?

Joe: It is. “Andi is fantastic at producing this show and having two knowledgeable podcasters well behaved through the show.” A little smiley face there.

Al: Does that- does that imply that we’re not well behaved without Andi?

Joe: I guess not.

Al: I think so.

Joe: Andi keeps us check.

Al: Yeah, right.

Joe: “My townhouse is currently worth $1,200,000, $1,400,000 per my agent. I paid over $200,000 in principal over the past 4 years, and there is a $420,000 mortgage left. My goal is to retire next year at the age of 60 or early 61. I’d like to keep the current home while building a $600,000 dream home in Houston, Texas at the age of 62 or 63, where I’ll spend over 6 months a year. No plan to rent a California home. Is taking a home equity loan or HELOC or a reverse mortgage after the age 62 for a down payment a good idea? For HELOC, should I apply while I’m still being employed? I managed my own 401(k) account for the past 10 years, total $1,300,000, among which $160,000 is after-tax, and I plan on doing a mega backdoor conversion in 2025 at 22.95% return in 2023 is the norm except for 2022 that had a negative-” what?

Andi: -return.

Joe: What is she talking about?  Like, she’s so good at her 401(k), she got a 22.95% rate of return in 2023.

Andi: And that’s the norm. Except for in 2022.

Joe: That’s the norm.

Al: I think that’s what she’s saying. This is a great, this is a great 401(k).

Joe: So, Nisa gets an average rate of return with her investing prowess of 23% per year.

Al: 22.95% to be more precise.

Joe: But 23%, er, ‘22 was

Al: That was a bad year. Negative year. We won’t talk about that then.

Joe:Negative X, X%. You didn’t want to put in the numbers.  Double X. “I have $420,000 in a brokerage bank high yield iBond account averaging 5% to 8% annual returns. A separate $190,000 IRA managed by an advisor that I inherited from a deceased ex-spouse 10 years ago, averages 8% return.”  It’s not as good as the 23% that she’s got.

Al: No, but it’s still pretty good.

Joe: “I plan to use these funds to pay for Roth conversion taxes and the annual $100,000 living expenses till I have to draw for my converted Roth account. The $100,000 expense includes mortgage, property tax, annual charitable giving, and to a fund, a restricted endowment fund, I established helping adult children and some of my hobbies.” All right.

Al: Okay. Very good.

Joe: “Also, I have $40,000 in RSUs that will be vested in the next 3 years, depending on when I retire. I may have another $20,000 worth of RSUs in 2025. My significant quantities of stock options, unfortunately, are all underwater, and I don’t ever foresee an increase in values.  I plan to take Social Security benefits at 70 and non COLA adjusted pension is, what, $550 a month at age 65, goes to live on, live to 100 years old.”

Al: Good. Centurion.

Joe: “Since I started planning for early retirement two weeks ago.”

Al: That’s it. Yeah. Something happened at the job.  I don’t like this anymore.  It’s like, you know what? I’m going to write the guys. I’m out of here. How’s this look?

Joe: “I have run various scenarios and simulations using spreadsheets I built and purchased online. It seems that they all tell me that an early retirement is feasible, but I’d like to hear your professional opinions. I currently drive a 2017 Subaru Outback 2.51 Premium.  Donated my VW convertible years ago and maybe get a Mercedes when I have some free cash. Oh, I’m a wine drinker mostly.”

Andi: Muscat.

Joe: Muscat. “Musket is my favorite.  I will enjoy the best lemon drop from a local steakhouse or margarita for a change. Thanks for taking my question. Hopefully, I can hear my case on the air soon.” All right. Well, here, you made the big time. You’re on the air. All righty. $100,000 a year. Well, if she keeps on getting 23%, she’s good.

Al: Well, to be fair, 2022 was not a good year, and 2023 was a recovery year. So I think if you average the two, that would probably be a little bit closer to normal.

Joe: Sure. All right. All right. So, one, three. One. So she’s got four or five.

Al: She’s got $2,000,000.

Joe: $2,000,000.

Al: Yep.

Joe: Okay, she wants 4 times $2,000,000 is $8,000,000 plus Social Security plus pension. Yeah, I think she’s good. The issue is, she doesn’t want to sell the San Jose house and she wants to buy her dream house in Houston, Texas for $600,000.

Al: Right. Which basically, and she doesn’t have the cash to do it, so she’s going to have to borrow it one way or another. So you’re adding, and I agree, I think the numbers look all right as is, but adding more, more debt as you do an early retirement, that could make it a little trickier.

Joe: So if she’s got $400,000 of debt today, $600,000, she wants, she probably puts at least, what, 20% down.

Al: I know, but she doesn’t have any savings. So, she’s going to have to borrow everything. Whether it’s a HELOC from her current- So, she’s going to end up with $600,000 more of debt.

Joe: I thought she had a brokerage account. $420,000. Yeah, $420,000 in a brokerage bank.

Al: I missed that. Yep. Yep. Yep. Yep. Yep.

Joe: Put $100,000 down at least, right? Yeah, yeah. A couple hundred grand? Yep. So then you carry a $400,000 note. Sure. With today’s interest rates.

Al: Yeah, that’s the tricky part.

Joe; Right. Well, you can always refinance at some point, but then you’re not going to be employed.

Al: Which makes it harder.

Joe: Which makes it-

Al: Because you need income to be able to qualify for loans.

Joe: Yeah. Or you could do an asset-based loan, but- So that’s another $30,000 roughly of expenses on top of the $100,000.  So now let’s call it $130,000. And you have $2,000,000.

Al: Yeah, and you’re going to use, what’d you say, $2,000,000, I mean, $200,000 for the home?

Joe: Mm hmm.

Al: So you got $1,800,000.  You need about $100,000-

Joe: $130,000.

Al: Yeah. Yeah. So it’s, it’s tight. It’s tight. It’s with Social Security. I think she’s fine, but she’s retiring at 60, 61. So it’s, it’s, it’s a little tight. I’m not saying not to do it. I’m just saying you’re kind of on the edge.

Joe: Well, what happens when you buy your dream home?

Al: Well, then you, then you improve it? You add furniture? Oh, I want a better patio. Oh, I’m thinking Houston. I want a pool for the summer. It gets a little warm there.

Joe: Yep. Oh, I want some misters.

Al: Well, that too.

Joe: It’s yeah, because next thing you know, that $600,000- Yeah, you got the house. But then you got all the other stuff that goes along with it.

Al: Yeah, right.

Joe: And then all of a sudden you just see that bank account kind of keep dipping.

Al: You know. This is just me based upon what little I know. If this for me and I really want to be in Houston-

Joe: I would sell San Jose and move to-

Al: I’d sell it or I would downsize, just get a little condo so I could revisit there with my friends and maybe I got family out there. But yeah, I don’t, if you want to be in Houston, be in Houston.

Joe: But she’s, I know what she’s saying. She’s like, have you ever been to Houston in the Summer?

Al: She wants to get, and I get that. So, so you got a little condo in San Jose that costs half the price of her current one. That’s, that’s what I, that’s what I would think about doing.

Joe: Yeah. I almost died in Houston last summer.

Al: Did you? Heat?

Joe: Yeah, playing golf.

Al: Oh yeah, yeah.

Joe: We’re driving to the golf course and on the radio they’re saying, please stay indoors. And it’s like Beep, beep beep-

Al: The alert on your phone?

Joe: Right. Please stay in. It’s an emergency.

Al: Got it.

Joe: Heat alert.

Al: Yeah. Yeah.

Joe: So I get it.

Al: Or, or the other thing too is if you don’t necessarily need a place in San Jose, but you just wanna get out for the Summers, just get an Airbnb, you know, do a month in San Jose. Do a month in Italy. Do a month in Hawaii. Have fun. How about that?

Andi: That’s the Big Al way of living.

Joe: That’s Big Al.

Al: That’s my approach.

Joe: All right. Well, there you go. Good luck with that.  That would work for another 5 years if you’re going to take the Big Al plan.

Section 121 Tax Exclusion on a Vacation Home? (Wayne, Phoenix, AZ)

Joe: We got Wayne from Phoenix, Arizona.  “I have a very fortunate problem. I own a vacation condo in San Diego and purchased it in 2008, never use it as a rental. My plan was to someday move into it and make it my primary residence for more than two years, selling and exclude it from the gain in taxes. I’ve seen this strategy on several websites.  But when I thoroughly read the IRS Publication 523, I don’t think it’s valid. 523 says that any use of the property as a vacation home after 2008 is not excludable.  Then it sends you to a worksheet which looks like you can only exclude gain from the portion of time it was your primary residence. I’d love your input on this. I drive a Zamboni.”

Al: He likes, he likes ice.

Joe: Yeah.  “And I love any beer from all the awesome breweries in San Diego.” Oh. Okay, so he’s right.

Al: Yeah, he’s right. So, Wayne, you’re talking about the 121. Right, 121 exclusion, which basically states this. If you have your primary residence and you live in it two out of the last 5 years, you can exclude up to $250,000 of gain or $500,000 if you’re married. So that’s, that is correct. And that was the rule for pretty much all properties, even rentals until 2008.  So in 2008, now they make you look at how many years were principal residence and how many years were not principal residence. So vacation property, rental, doesn’t matter. They all lopped into that category. So let’s just say, say you move in and a couple years, I’m just, to make it easy math, I’m going to say you sell it in 2028. So that you owned it for 20 years. You lived in it for two. It was a vacation rental for 18. Okay, so 2/18 of the gain is potentially excludable, right? Or 1/9,  right? So let’s-

Joe: – or 11%.

Al: 11%. 11% of the gain could be excludable up to a max of $250,000, $500,000. That’s how this rule works. You will get some benefit, but do you really want to do that? Do you want to move into a vacation rental on someplace you maybe not want to live for two years just to save 11%?  You know- what? It’s up to you, right? But I probably wouldn’t.

Joe: Yeah.  I wish we had better news there.

Al: Yeah, yeah, and when they first came up with this rule, since it was a new rule, all the stuff before 2008 was considered qualifying, like it was residence, because it was a new rule, so you could get away with it for a few years, but now there’s so many years have passed, it’s hard to get much benefit.

Joe: Alright, good luck Wayne.

Andi: If you missed our most recent tax planning webinar, you can watch it on demand in the podcast show notes to get educated on the limits, features, tax treatment, and new rules for your retirement accounts – like your 401(k), traditional and Roth IRA, your self-employed solo 401(k) & your SEP IRA. You’ll find out how to maximize the tax benefits of a Roth conversion, you’ll learn more ins and outs on the 5 year rules for Roth accounts, and the four times you don’t want to con vert to Roth. Plus, find out how leveraging strategies like the backdoor Roth, tax loss harvesting, and tax gain harvesting can lower your tax bill as much as possible. Click the link in the description of today’s episode to go to the show notes and watch the webinar on What You Need to Know Before Filing Your Taxes in 2024, and to download the 2024 Tax Planning Guide. Speaking of tax gain harvesting, let’s get a bit deeper into that strategy now.

Foreign Earned Income Exclusion: Can I Harvest Long Term Capital Gains? (Jack & Jill, UAE)

Joe: Answering some money questions, going through the stack here, slowly but surely, we’re making some headway.

Andi: We’re on page 3 out of 28.

Joe: Okay.

Al: Don’t tell us that, Andi.

Andi: I’m sorry.

Al: We get discouraged.

Joe: Yeah, she’s like, well-

Al: We’ve done 11%.

Andi:  Hey, we’ve had 45 pages before, so we’re like cranking.

Joe: Cranking.

Al: Okay, all right.

Joe: She’s like, do you want to do this until like 9 p. m. tonight? I’m like, yeah, I’d love to.  All right, where are we? Jack and Jill ran up the hill.

Andi: To the United Arab Emirates.

Joe: Ooh. Okay. Interesting. “Hey, Big Al, Joe and Andi.  Hug-Huge. Huge fan of the show.”

Andi: Or hug.

Joe: Yeah. I thought it said hug there for a second. “A huge fan of the show. Even though I only started listening 6 months ago, the balance of the information with humor and honest feedback, especially poking fun at callers, is spot on. It puts you guys above the rest when it comes to financial podcasts.”

Andi: Right on.

Joe: Oh, poking fun. We don’t do that.

Andi: That’s all you do, Joe.

Joe: Some people just need to be-

Andi: – poked.

Joe: Not even poked. They need to have an honest conversation.

Al: They need a little wake up call.

Joe: Yeah, it’s like, come on. “I usually listen while I’m in the gym.” Yeah, he’s getting jacked.  That’s why he’s called Jack. Right.  “And the only complaint I have is waiting a week for a new episode. Any chance of increasing this?”

Andi: See, that’s why you need to be here till 9 o’clock.

Joe: Nope.

Al: I don’t see that happening either, Jack.

Al: “About us. My wife and I are in our mid-30s.  I’m Midwest born and raised, now working in the Middle East, UAE, pushing 10 years. Yay, no taxes, no kids, pets, or mortgage at this time, so very minimal expenses.” Wow. Cool. “My wife is not American and doesn’t have to deal with all these silly tax concerns.  We live abroad and drive a 2016 Toyota Harris-“

Andi: That’s Yaris.

Joe: Yaris. Thank you.  “And I’m close enough to work where I can walk. Our drink of choice is any craft beer, IPAs and stouts in particular, a little red wine.”  What about the muscat?

Al: I’m thinking, I think I might want to IPA tonight. Sounds good.

Joe: Okay.  “I have a question regarding foreign earned income exclusion.”

Al: Oh boy.

Joe:  Yeah, Big Al. Things get better.

Al: I’m starting to sweat here.

Joe: Focus here.

Al: I better pay attention now.

Joe: “While I can’t contribute to any IRAs, I’ve been contributing about 65% of my monthly income into my brokerage account for a good portion of my time here buying low cost ETFs.” This guy’s probably loaded.

Al: Yeah.

Joe: “My understanding is that capital gains rate is 0% if you don’t have any taxable earned income. Given that my income isn’t taxed and I’m slightly below the threshold, could I be harvesting the long-term capital gains and repurchasing the same position again, increasing my principal, and repeat this every 365 days while living abroad to reduce future capital gains? Or does this sit on top of the foreign fee- fee-?

Andi: F E I E.

Al: Foreign Earned Income Exclusion.

Joe: I know, but is there like, what’s the acronym? What do you say?  Or is it F E I E or-?

Al: You just say the letters. F E I E.

Joe: Is that F  E I E E?

Al: F E I E E?

Andi: F E I E I O.

Joe: F E I E I O. F E I E I O, alrighty.

Al: F E I E E. F E I E E.

Joe: So, alright, the income exclusion. Yeah. It would be taxed at that income rate. “Anything else I’m missing or should be considering while I have these years abroad to maximize my investment opportunity? Thanks in advance for your spitball, and keep up the great content. Jack and Jill, not a real name.”

Andi:  Wouldn’t it be crazy if it was? We literally are Jack and Jill.

Joe: I was getting Jack though.

Al: I was going with Jack and Jill. I’m a little disappointed.

Joe: All right. So what, what, what, what Jack is talking about is tax gain harvesting. So there’s two questions here. So tax gain harvesting, you don’t have to do that every 365 days. Tax loss harvesting you do.  There’s a wash sale rule. But let’s say you buy a stock and the stock goes up by, you buy $4 and now it’s worth $10,  so you could do nothing, and then the stock grows to $20 and then you sell it. You gotta gain of $1 to $20. Right? Right. $19 gains. Sure. Tax gain harvesting, where it’s like, okay, well now the stock is $10. He could sell that stock.  Because he’s in such a low tax bracket, there is no capital gains tax up to the 12% ordinary income tax bracket, which taxable income is roughly $80,000.

Al: Yeah, it’s actually for a married couple about $94,000.

Joe: Okay, $95,000. That’s what I said.

Al: You’re, you’re in the vicinity.

Joe: It was pretty close. I was in the time zone.  So he’s like, all right, well, here, I have all this money, he’s saving 65% of his income into a brokerage account, he’s probably had some good gains over the years. And so it’s like, all right, should I sell and then buy them back? Because it’s increasing his basis. So in later years, when he moves back to the States where he has higher income. He’s basically kind of reducing that cost basis. So the gain isn’t large enough where he’s controlling some of the taxes long term. So I think that is a fantastic strategy, but where his question falls is that all right, well because I don’t really pay any tax and I got this foreign income earned credit exclusion, how does all of this stuff work? How do we mix the bag?

Al: Great question. Well, I’ll start with foreign earned income exclusion. I’ll try to keep this super simple, which basically means if you have a certain foreign income, like a salary, for example, you can exclude a certain dollar amount.

Joe: Isn’t is a couple of hundred thousand?

Al: It’s over a hundred. I don’t know.

Joe: $160,000?

Al: No, I think it’s less than that, but it’s over $100,000.

Joe: I’m just throwing out, I’m just throwing out words, I’m just throwing out numbers.

Al: It’s, it’s like, I don’t know, $110,000, $120,000. You can exclude up to that amount for salary. Okay? So you record your salary on the tax return and then you exclude, exclude it under adjustments to gross income. So it’s not part of your adjusted gross income. It’s not part of your taxable income. It does not affect your capital gains rate. So let’s start there. Okay. And that was, that was really his first question. Now, the second part of this is assuming that he’s in the 12% bracket, which he’s implying, or even 10% bracket, because he doesn’t have any other income or very little income. Sure. Right. So if you’re single, that 12% bracket goes up to $47,000 for married, we’ll round it to $95,000. Why is that important? It’s because that’s the bracket where capital gains, long term capital gain rate is zero, taxed at zero. Okay. So that’s a good idea. If you’ve got stock, you can sell it at a gain, pay no tax, buy it right back and have a higher tax basis. So when you finally sell it for good, you’ve got a lower gain. So that, that does work, but there’s one major caveat that not everyone understands. Once you hit $95,000 of taxable income, if you have any more gain than that, it’s taxed at 15%.  Some people think that if they’re in the 12% they could sell $1,000,000 a gain, it’d be fine. No, your taxable income has to be below $95,000 as a married couple to get that 0% capital gains rate.

Joe: So let’s say his taxable income is $20,000. So he’s got up to $95,000 to stay in the 0%.  Right.

Al: That’s right. And he’s got a $30,000 standard deduction in round numbers, right? So if that’s the case, he could sell a little over $100,000 of gain in stock, presuming he had no other income.

Joe: Right. If his wife doesn’t have income or, right.

Al: I mean, right. Whatever, whatever it may be, but you just have to make sure your taxable income is below for married couple $95,000- for, for single about half of that. Now, if you go over, it’s not the end of the world. So you’re, you’re a couple thousand dollars over. So that $2000 will be taxed at a 15% capital gain rate. It’s not the whole thing, right? So just, just be aware of that. You’re, you’re trying to keep it at or below that 12% bracket.

Joe: Yeah. It doesn’t, the 366 plus days, that doesn’t mean anything for tax gain harvesting. If your tax loss harvesting and getting the tax benefit, that’s if you sell a stock at a loss, you can’t necessarily buy that stock back because then there’s a wash sale.

Al: That’s right. And that’s actually 30 days.  He said 365.

Joe: No, he’s, I’m just reading what he says. Every 366 plus days, I’m like, well, why, I don’t even know what that means.

Al: No, I don’t either. Well, three. Well. Here’s what he means, because you have to, you have to hold it for a year to get the long-term capital gain. So he could do it next year, but he’d have to sell it, like, he has to wait another year before he sells the next-

Joe: If I’m in the 12% tax bracket, there is no capital gain, short term or long term.

Al: Yeah, well, true, but it’s kind of a moot point, assuming he sells it all and gets to the top of the bracket.

Joe: Yeah. No, I’m with that.

Al: But-

Joe: But what he’s saying, I guess, he’s utilizing that top bracket, and so next tax year he’s going to do it again.

Al: Yeah, yeah. But I will correct you on one thing. Short-term capital gains are still taxed at ordinary income rates, not long-term cap. So it has to be long-term capital gain. That’s why it has to wait 365 days.

ACA Subsidy & Retirement Spitball: Are Joe and Big Al Off Their Strategy Game? (Spotify commenter)

Joe: Hey, what’s his Spotify thing?

Andi: So somebody has been commenting on some of our episodes on Spotify. On March 12th, somebody said that there’s no ACA tax subsidy cliff through 2025. It’s a slope. And by the way, this person’s username is 1212482970.

Al: You know I- Andi, I looked at that comment and we did talk about the ACA tax subsidy and that’s how it used to be. It used to be if you were over 400% the poverty level, there was a cliff where you didn’t get any subsidy at all. And this caller is right. Well, I think we said that wrong that through 2025 it’s not a cliff, it’s a slope. Meaning that if you’re over 400% of the poverty line, it’s not that you get nothing, you just get less and less and less subsidy and that’s through 2025. So that’s a correct statement. We stand corrected.

Andi: So then for episode 475, the very first email, they said “the first couple retiring with fixed income, almost covering their expenses can retire. You guys are off your strategy game.”

Joe: Wow.

Andi: And this is the one where Joe, you were saying, you know, you can’t rely on a 6% growth rate for your assumptions.

Joe: I disagree with 1212C3PO. Okay, so, we usually do this off the cuff, but I wanted to explain that I’m definitely not off my strategy game here.

Al: Okay, let’s hear.

Joe: There’s a step period. So, there’s Daisy, Duke, and Daisy and-

Al: Duke and Daisy-

Joe: Duke and Daisy,  they’re going to have some, some cash, but the problem is, is that their fixed income sources come. They want to retire at like 63 and 65, but then, or is that, is that right? 63, 65.

Andi: They want to retire at 63 and 65.

Al: That’s 3 years from now.

Joe: He’s not going to take his fixed income until age 70. So there’s a 5-year step period. She’s got a little bit of a pension at age 66 and then, but she doesn’t want to claim her benefit until age 67. So from her age 63 to 66 to 67 and to his age 70 is that there’s all sorts of different distributions that need to come from the overall portfolio. And so his argument, I guess, and comment, which is great. I love these comments. This is the only tweet that we’ve ever got, and I’m all fired up on it. Is that, hey, you’re off your game, and I’m telling you, I don’t think I am, because just hear me out. Her age 63 to his age 70. He’s, he wants to retire at 65. She wants to retire at 63. They’re going to save for the next 3 years. They have $900,000 today. Let’s assume what their savings in Al, I’ll use your 6% and assume they got $1,000,000 once they retire.

Al: Probably. Yeah, probably $1,200,000.

Joe: Okay, so year one in retirement, they need to pull $100,000, because that’s what they want to live off of. Year two, they need to pull $100,000. Year 3, there’s going to be $12,000 of fixed income. Assume that $100,000 doesn’t have an inflation rate on it, they’re going to have to pull $90,000. So 3 years into retirement, they’re pulling $300,000 a year.

Al: Okay, I’ll take that.

Joe: And then from the next 3 years, she’s going to have her Social Security. And her pension. And now it’s the step period until his age 70. So they’re going to have to pull $40,000 per year, just living expenses, mind you, for the next 3 years until his fixed income comes into play.

Al: And assuming $1,200,000 minus $300,000, the $40,000 divided into $800,000 or $900,000 is close enough to 4%.

Joe: So if I’m adding all of this up, that’s $100,000, that’s $200,000, that’s $300,000, that’s $400,000 over the next couple of years. Right. That they’ll pull from the overall portfolio, okay?  I’m not including inflation, and I’m not including taxes on the distribution. So here’s where I inflated their expenses out. So his age 70 is where they’ll have all of their fixed income, her Social Security, the pension, and his Social Security.

Al: Close to $100,000.

Joe: $100,000. But if you take $100,000 of living expenses today in inflate that with 3%, 3.5% inflation to his age 70, they’re going to need $140,000. So $100,000 minus $140,000- or $140,000 minus $100,000, they’re going to be short $40,000.  So by the time he’s age 70, they still need roughly $1,000,000 to produce the $40,000 of additional income, not including taxes or not including any other inflation.  My point was that sequence of return risk could blow these people up. If you run a straight line 6% rate of return, Mr. Spotify1275654321, I totally agree. And I would agree with Al, but the problem is, is that I think people get overconfident when you have a run in the market, it’s like, Oh, the last couple of years has been great. They forget about 2022. They forget about all these down years. And so the problem if they don’t have a distribution strategy and the market goes down and now their $1,000,000 goes to $700,000 and they’re pulling $100,000 out over the next couple of years to live off of, it could blow Duke and Daisy right out of the Dukes of Hazzard.

Al: It could. And then plus, they’re talking about, of course, they have to buy health insurance for Daisy for a couple years, right? So that adds a little bit more. So when, I guess when we do run some of these analysis, it’s basically, all we have is a straight line, right? I mean, we’re just doing this off the cuff, right? It’s just spitballing. But it’s, it’s certainly- reality is completely different, right? And just as you said, Joe, let’s say you have two or 3 down years in the market when you’re already kind of on the edge. This blows the entire thing up and you’re back to work. So when we say-

Joe: Oh, your living expenses are going to have to be reduced, right? Right. Or you’re just going to have to live off of your fixed income and that’s fine. Right. If you blow through your cash and investments, and then you have enough income that you’re comfortable with, then yeah.

Al: And a lot of times we’ll say, yeah, it looks, it looks pretty good, but if it were me, I’d probably work another two or 3 years just for cushion, just because of these, these potential pitfalls.  Okay.

Andi: Nicely done, Joe.

Joe: Thank you. I had to, I had to do a little preparation here. I had to do a little work.

Al: I know. That’s very good.

Joe: All right. That’s it. Wonderful time. We’ll see you next week. Show’s called Your Money, Your Wealth®.

Andi: Muscat wine, Zambonis, Spellbound, Roadhouse, and Joe the dancer in the Derails at the end of the episode, so stick around.

Your Money, Your Wealth is your podcast, and this show wouldn’t be a show without you. Tell your friends about YMYW and leave your honest reviews and ratings for Your Money, Your Wealth in Apple Podcasts, and all the other podcast apps that allow them, like Spotify. Joe’s clearly up to the challenge.

If you haven’t met with one of the experienced professionals on Joe and Big Al’s team at Pure Financial Advisors, what are you waiting for? It’s a free deep dive with the goal of optimizing your entire financial life. Pure Financial is a fee-only financial planning firm. Pure is also a fiduciary, that’s why Pure’s tagline is “Trustworthy By Design”. Click the Free Financial Assessment banner in the podcast show notes at YourMoneyYourWealth.com, or call 888-994-6257 and book your financial assessment. Whether you meet in person or online via Zoom, the Pure team will work with you to create a detailed plan specially tailored for your needs and goals in retirement.

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.

The Derails

_______

IMPORTANT DISCLOSURES:

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.

• Investment Advisory and Financial Planning Services are offered through Pure Financial Advisors, LLC, a Registered Investment Advisor.

• Pure Financial Advisors LLC does not offer tax or legal advice. Consult with your tax advisor or attorney regarding specific situations.

• Opinions expressed are not intended as investment advice or to predict future performance.

• Past performance does not guarantee future results.

• Investing involves risk including the potential loss of principal. No investment strategy can guarantee a profit or protect against loss in periods of declining values.

• All information is believed to be from reliable sources; however, we make no representation as to its completeness or accuracy.

• Intended for educational purposes only and are not intended as individualized advice or a guarantee that you will achieve a desired result. Before implementing any strategies discussed you should consult your tax and financial advisors.

CFP® – The CERTIFIED FINANCIAL PLANNER™ certification is by the Certified Financial Planner Board of Standards, Inc. To attain the right to use the CFP® designation, an individual must satisfactorily fulfill education, experience and ethics requirements as well as pass a comprehensive exam. Thirty hours of continuing education is required every two years to maintain the designation.

AIF® – Accredited Investment Fiduciary designation is administered by the Center for Fiduciary Studies fi360. To receive the AIF Designation, an individual must meet prerequisite criteria, complete a training program, and pass a comprehensive examination. Six hours of continuing education is required annually to maintain the designation.

CPA – Certified Public Accountant is a license set by the American Institute of Certified Public Accountants and administered by the National Association of State Boards of Accountancy. Eligibility to sit for the Uniform CPA Exam is determined by individual State Boards of Accountancy. Typically, the requirement is a U.S. bachelor’s degree which includes a minimum number of qualifying credit hours in accounting and business administration with an additional one-year study. All CPA candidates must pass the Uniform CPA Examination to qualify for a CPA certificate and license (i.e., permit to practice) to practice public accounting. CPAs are required to take continuing education courses to renew their license, and most states require CPAs to complete an ethics course during every renewal period.