Posted on July 2, 2007 @ 9:05 am - Written by BawldGuy
Today we’ll examine what really happens over the life of a 401(k) — especially as it relates to income taxes. This may be the most successful bait & switch maneuver you’ve seen. Later in the week I’ll give you an alternative for your consideration.
What’s the big draw to the 401(k)? Duh! I get to contribute to my retirement savings while simultaneously deferring taxes on that very contribution. Sounds like a pretty good deal doesn’t it? After a little more scrutiny you may find it’s more like being near the tiger while he’s jumping through the flaming hoop — hardly a draw for the average guy. 
Let’s take a look at the whole plan.
First, let’s assume you put as much as you can possibly afford each year from the time you’re 25 until you’re 65. Let’s also assume those contributions have saved you almost $100,000 in taxes along the way. What’s bad about that you ask? Nothing on it’s own merit, but you want to look at the big picture, right? Let’s say you manage to build that account to a whopping $1,000,000 — a healthy figure.
Let’s also assume you’ll make an 8% yield on that million bucks for your retirement. That’s $80,000 a year! Congratulations are in order, right? Well, let’s keep going. Most folks will have done their level best to pay off their home’s mortgage, because Grandpa said that was best. Your kids are long gone too. That means you did two good jobs right? Well, that’s one way to look at it, but as it relates to your income taxes, you’ve eliminate two of your best and most reliable tax deductions — oops.
For easy math let’s use a combined state and federal income tax rate of 1/3. If you think that won’t apply to you, remember two things.
1) You have very few or no tax deductions for an income that very well may be more than you’ve ever made in your life while working full time.
2) With Social Security about to reach absolutely crisis point, (less than 3 workers per SS recipient) do you honestly believe future income tax rates won’t be higher? It’s a no-brainer. Even if they’re not, the 1/3 tax rate will apply to more folks than not.
In four years you will pay more taxes than you deferred in 40 years! And the best (worst) part? You did it on purpose. If you live only 20 years after you retire, to 85, you’ll have paid in excess of half a million bucks in income taxes!
Epiphany — You avoided paying a dollar of income tax so you would have the privilege of paying $5-10 instead.
Tell me again what a great deal 401(k)’s are. There’s more to the bait and switch.
When you die, the estate (death) tax will almost divide your estate in half. (It’s different for different amounts.) So not only do you get ripped off by income taxes galore while you were alive, but your heirs get absolutely annihilated. Is that what you envisioned when you first opened your 401(k)? Probably not.
What if…….
Is there a better way? What if you could avoid 401(k)’s, and instead invest in a vehicle providing you retirement income which will be — tax free — for life. And those nasty little rules about borrowing, and forced distributions that go with 401(k)’s? This approach doesn’t have those rules. In fact, you can borrow without paying back — no penalty. When you die — the huge cash left over will not even be part of your estate, and therefore not taxed — period.
I’ve barely touched on what’s going to happen to those who take the 401(k) approach to retirement. When planning for retirement, a Purposeful Plan utilizing capital growth techniques while investing in real estate, combined with my preferred alternative to 401(k) plans, will result in an immensely superior retirement. If you’re interested in a retirement income in six figures, most of it either tax sheltered or tax free, you’ll want to take our approach very seriously.
So the next time you hear or read about how great 401(k)’s are, you’ll know what they’re not telling you. There’s a better way.
Next up: What is the alternative?
Posted on June 23, 2007 @ 6:24 pm - Written by BawldGuy
A recent referral finds Josh and I involved with a local family. The main players are the father ‘Don Sr.’, a 75 year old ball of fire, and his son ‘Don’ and daughter-in-law ‘Diane’. Dad has been told he has less of a life expectancy than he should because of ongoing health problems. His agenda is to provide, at his passing, the largest estate possible for his heirs.
His son has some cash, but Dad has the lion’s share. They’ll combine the total of just short of $300,000 to invest in real estate, in order to grow the capital for the future of his kids. Dad’s providing his cash via some annuities he acquired, which will involve paying some significant penalties. He’s wanting to understand why I would tell him to pay them, and invest — the crucial question. Note: Dad doesn’t need the income, as he is a triple-dipper with income aplenty.
The penalties will total nearly $100,000! OMG! Relax, it’s not nearly as ominous as it might first appear. Let’s take a look.
With their cash on hand they’ll be able to combine forces for about $2MIL in purchases, with allows for a healthy cash reserve (Sominex) account of $50,000. The properties will be in various growth regions.
Don Sr. wants to leave his family a healthy estate. He’s not satisfied with it’s current status, and why should he be? There’s nothing in his estate except his home that’s an appreciating asset. We’re now looking at how long it might take to make up for almost a hundred grand in penalties incurred while accessing his capital.
If, in the next five years his properties grow at an annual pace of only 3%, his investments will then be worth just under $2,320,000 — a gain of over $300,000.
Now tell me how worried he is about regaining his lost ‘penalty’ capital. If his properties rise by only 5% a year, (remember, these are areas in high demand) his investments will have grown to just over $2,550,000 — over a half million dollar gain.
Can we please stop crying about the lousy hundred grand now?
Over the next 13 years the original capital will grow significantly — enough to retire on easily. How easily? That requires a crystal ball, and mine’s a little foggy these days. Suffice to say, if the next 13 years are like any 13 you may choose at random over the last half century, they’ll be more than ok.
Don Sr.’s kids will be taken care of for life. We’ll have to wait and see at what level. Of course, everything’s relative. Don Jr. will retire several years before his sister. But compare what would have happened had Dad just sat on his annuities. His invested capital would have kept generating income while he was alive. But it wouldn’t have appreciated a penny. Annuities aren’t, for the most part, meant to grow, but rather behave like a sleeping, sated lion after a kill. They’re simply not growth vehicles. They’re for cash flow. Even if he and Don Jr.’s real estate investments start out somewhat slowly, they’ll eventually go up in value over 13 years. This will result in the benefit he’s hoping to generate for his kids.
Nobody will be complaining about the hundred grand it cost to pull the orginal capital from Dad’s annuities at that point.
And for the record, Don Sr. now completely understands why that hundred grand, though an impressive figure now, won’t matter a hill of beans when his kids hit retirement age. Like I said, he’s a ball of fire.
Posted on June 5, 2007 @ 11:49 pm - Written by BawldGuy
One of the benefits of working with Brown & Brown to maximize what your retirement is working with our team. Our team consists of separate, stand-alone groups wherever we invest for our clients. It also includes the use of our team’s financial investment advisor, Doug Johns. Doug has added a new potential basket for our clients in terms of retirement income. More on Doug another day. If, however, you’d like to speak with him, email me through the blog here, and I’ll send you his contact info.
We love what real estate affords our clients — there’s nothing better. But real estate isn’t the only tool in the box with us. Ultimately, a retiree will tell you a stable, reliable, and abundant income is what makes a magnificent retirement. We’ve recently run into some very bright, and very young folks who are at the beginning of their careers, not yet ready or able to invest in real estate. This is another chance for our team to shine, because Doug can help these younger folks get going.
I have great interest in these young men and women because they’re my kids’ ages. My son is my partner, and much like the 20-somethings contacting us via the internet, he’s college educated, well into his new career, and very bright. His little sister is a couple years from her college degree. So I’m sensitive to their generation’s interest in the future, especially as it relates to retirement.
To that end, let me explain in outline form, what has generated interest from these young people. It’s a great alternative to real estate investment — until they are able to enter that arena.
I’m talking about investment grade insurance. No, not like the life insurance your dad has. This is designed to produce a lifetime of tax free income, and is a very attractive item to have on your retirement income menu. Here’s how it works — it’s called Fixed Index Universal Life, or FIUL.
First, let’s define who you are. Let’s make this example be a 25 year old male, in good health, and a non-smoker. (In fact, here’s two of ‘em.) By the way, if I’d made this a female, the numbers improve. Go figure.
You decide what you can reasonably afford to set aside each month. Let’s say it’s $250. You then set an appointment with a para-medical type who comes to your home for a quick physical. Blood pressure, heart rate, maybe urine, just the general once over. The insurance company pays for this, so no worries.
At that point my financial investment advisor, Doug Johns, does a complete and unique analysis tailored to you specifically. Your cost is the monthly payment you felt you could afford comfortably. After a fews years, and a few pay increases, you can increase your monthly payment, which will increase your retirement income. The results are, understating the case, magnificent.
I’ll cut to the chase here. My daughter, 23 in July, will begin paying $500 a month into a FIUL. She’ll do this for 20 years — then she’ll stop and let all that money, and it’s 20 years worth of compounding return, simmer for another 10 years. She’ll then be 53.
If she decides at that point to walk away from the word-a-day world and retire, it will be on a pretty nifty income. Her income from that day on will be $100,000 a year — tax free — for life. Unless any employer for whom she may work, offers her a dollar for dollar match on a 401(k) for whatever amount she chooses to contribute, she’ll never contribute the first dollar to one.
She’ll have more income by her birthday every year than the poor guy next door who built up his 401(k) to a million bucks! Sometimes life isn’t fair.
Posted on March 24, 2007 @ 2:10 pm - Written by BawldGuy
If you think your retirement is in the bag because of everything you’re doing — put it to the test. Take the following questions as seriously as if you’d have to spend your retirement living on what your current plan will produce.
Take your age now, and at what age you plan to retire. Then extrapolate what you’re doing to ensure that retirement will be what you want it to be financially.
Are you on target? Really?
Is the income you’re expecting taxable? Or is it tax sheltered or tax free?
Have you realistically defined what financially comfortable will actually look like at retirement — and for the next 20-40 years?
Does part of your plan include an IRA or 401(k)? If so, are you aware the government tells you how much you must take out each year, at least as a minimum? Are you aware you’re avoiding taxes now when it’s relatively more affordable to pay them, so you can experience the pleasure of paying income taxes for life at retirement?
Are you sitting on San Diego real estate investments stranded in the quicksand of the local market? Yes? Why? Is moldy capital appealing to you?
Now that you’ve looked at your potential financial life in retirement, does it look more like a life sentence to you?
The number one problem for Baby Boomers in the coming years is going to be the realization that they underestimated what it would take to retire well — and are now stuck with the bitter fruits of their efforts.
Retirement on a pauper’s budget isn’t what you’re planning for. Every year that goes by while you watch your capital stagnate is another year closer to a life sentence.
Pay attention — your kids will thank you.
Posted on March 9, 2007 @ 2:04 pm - Written by BawldGuy
My audience is pretty dang smart. When I’ve spoken with clients on this subject, the response has been fairly universal. First they are incredulous. Then they ask me how it is the financial world keeps supporting the myth of the so called ‘qualified plans’ — 401’s and IRA’s. The math used to figure out what’s best for taxpayers is around the sixth grade level.
Let’s get started.
Grandma told me to check my assumptions when reassessing any accepted practice or belief. A seemingly global assumption about retirement is that you’ll automatically be paying taxes at a far lower tax rate. That is maybe the most injurious myth used to justify qualified plans as a vehicle for retirement planning. If we look at that belief with an eye for uncovering truth, you’ll find yourself having an ah-ha moment.
Everyone starts out with the goal of saving as much as humanly possible, right? Right. They want to retire with a million bucks in savings so they can live off the interest — and live very comfortably. If we use the S & P’s average annual return over the last half century or so, we’ll earn over 8% annually. So we’ll just use 8% for simplicity. If a married couple sets aside $4K yearly for 40 years at that rate they’ll have a million bucks. And if they just continue that approach they’ll have an $80K annual income for retirement. This doesn’t include whatever they’re receiving from Social Security.
In what world does over $80K a year in income taxed at a lesser rate than when this couple was working? Even if they made the same or more before retirement, they had significantly more deductions to offset that income. They’ve no doubt bought into the ‘free & clear’ home myth too, which eliminates interest deduction. Their kids are long gone as are the child tax deductions. What are they left with?
If they live in an income tax state, they’re getting taxed at a combined rate of 30-35%! Let’s just use 33.3% because it’s easy.
Let’s assume they’re also getting around $15K a year from SS. That means until they’re in their early 70’s they’re paying taxes on $95K a year!! That means after taxes they’re left with only $63K. Don’t get me wrong, I’m not sniffing at that amount. You an live somewhat comfortably on $5k a month, right? What about all the costs of running your home? Travel? Cars? Health insurance and care? Remember when your parents and grandparents thought $20K a year retirement was in the chips?
How’s that been workin’ for them so far?
What’s the alternative to these government sponsored qualified plans?
For once, the solution doesn’t require an advanced degree in quantum physics from M.I.T.
Stop putting deferred tax income into your IRA or 401(k) — qualified plans
Invest after tax income into vehicles which will grow at the same rate you’ve been getting
Upon retirement receive the same $80K a year with one exception — it’ll be tax free for life
Let’s review our comparison briefly.
You can continue to put tax deferred income into your qualified retirement plan and retire with 30-35% less income. OR You can begin investing after tax income into a non-qualified vehicle and benefit from thousands more in monthly retirement income — all of which is tax free for life.
A couple of final notes.
Non-qualified doesn’t mean risky. On the contrary, these are investment grade insurance policies that are ‘A’ rated and proven very secure for the last several decades.
You can evacuate the money already inside your 401’s and IRA’s and avoid the 10% penalty. By doing that over the next several years a little at a time you can use that money towards your tax free income. It’s proven to be a stellar strategy for my clients.
When this strategy is combined with the tremendous growth potential of long term real estate investing, your retirement can not only be more financially abundant than you ever imagined, but can happen much earlier.
I know I say this all the time, but having a Purposeful Plan means you’re doing things on purpose. It makes a huge difference over time.
Enjoy your weekend.