IRAs, Roths, and the AARP

Posted on September 24, 2014September 24, 2014 by Danielle

One of the benefits of reaching 50 is that you get to join AARP. No, I’m not talking about the endless promos you will then begin to receive for dubious insurance, but their magazine and Bulletin, which offer some of the most sensible consumer financial and health advice around. Even if you’re not over 50, it’s worth taking a look at the September Bulletin’s Retirement Guide, which offers an excellent primer on most of the issues. I do have a few comments on their Step 4: Avoid a Nasty Tax Surprise.

It’s a pretty good discussion of the benefits of choosing a Roth or Roth 401k over contributing to a Traditional IRA or a regular 401k. I heartily agree that retirees can find themselves in quite a predicament when they discover that their required minimum distributions (RMD) from the regular 401k or Trad IRA don’t come free—you’re going to pay ordinary income tax on that, and the RMD even has the possibility to kick you up into a higher tax bracket. So that withdrawal is definitely not going to be all spendable income, ouch.

Honestly, I’ve only recommended a client favor contributing to a Trad IRA once this year. In nearly every other circumstance, the better choice is a Roth (and Roth 401k, if your company offers it). Ask yourself:

Is your income over $60K (single) or $95K (couple)? You’re probably not going to get the deduction anyway. You can contribute to a Roth without phase-out until $114K (single) or $181K (couple). (Regular 401k limits apply to Roth 401ks.)
Do you think taxes are going down? Most people, according to the article, stay in the same tax bracket when they retire. But it’s probably a safe bet that taxes will be higher in 10, 20, or 30 years so you’ll be paying more on that Trad IRA/401k, plus being taxed fully on increases produced by the investment.
Does the deduction really help that much? Here, probably the answer is yes in the 401k and no for the Trad IRA. So split it up.
Could you withdraw money in such a way that in at least some years your taxable income will be low enough so that you won’t pay tax on your Social Security benefits? This is a pretty complex question, so you probably need to give me a call to work through that possibility.
Any chance you won’t need all your possible income at 70, or maybe at all? With no RMD, you can leave that money invested to grow longer, or leave it to your heirs. Or take it all out at once if you need to pay for long-term care, without incurring more income taxes.

Although the article suggests that you should be at least ten years from retirement to select a Roth, I’m not so sure. Some of these reasons make a Roth desirable even for people much closer to retirement, and in the case of some earners, worthwhile because of the income eligibility limits on the Trad IRA. If you didn’t save from your very first job, and are trying to power-save now, a Roth might still be the right answer.

The old concept of the three legged retirement stool is one I love: no matter a little shortfall or instability in one area, the whole can provide a steady seat.

Regular taxable investments—at least right now, tax savvy allocation can produce taxation at the capital gains rate rather than at the usually higher ordinary income rate
Pensions, Social Security, and other guaranteed income, so you have a solid floor.
Retirement funds—nice if you can manipulate them so that they’re all tax-free coming out (pay attention, those not yet old enough to join AARP). Older workers—don’t beat yourself up! Roths have only been available since 1997.

No, you’re probably not going to be able to dodge the tax man entirely, but paying attention to tax requirements and thoughtful asset location can loosen his hoary grip.

Antiques Roadshow & investments

Posted on August 5, 2014August 5, 2014 by Danielle

Sure, I love it. So much so that when Antiques Roadshow announced that it was going to be in Chicago for the first time in years, I applied for the ticket lottery immediately. They had 19,000 applications for 6,000 tickets, so I was thrilled when we won two tickets.

If you’re a fan, you probably find it at least as addictive as chocolate truffles. Watching other people live at the show, I spent a lot of time wondering just what the show offers. Everyone hopes they’ll pick something from a trash bin that turns out to be worth six figures, and we saw one or two folks who looked like they were being pulled aside for the big reveal. However, given the lines we saw for painting appraisal, and the absolutely horrible paint-by-numbers art being carried in, I can tell you without a doubt that most of us have absolutely no taste in or knowledge of art. Really, I don’t think I could bear to be an appraiser on that beat, the stuff was so horrible. It must be a thrill to their eyes, too, when they finally spot something good. So, my first lesson is that if you’re going to hang it on a wall, make sure it’s something that has meaning for you, because value is questionable at best.

My second lesson while there is that not only do we probably have little idea of the value of collectibles or much ability to judge such value, but dealers don’t really have a clue, either. You probably know that if you’ve watched many Antiques Roadshow broadcasts, and see the terrible prior advice people have been given, but this time it’s personal. I brought a set of jewelry to be evaluated, which I bought at a reputable antiques show (the Winnetka Antiques Fair) from a reputable and long established dealer. Not one single thing I was told about the jewelry when I purchased it was accurate, at least according to the Roadshow appraiser. It wasn’t the karat weight I’d been told (14kt vs. 15kt.) it wasn’t from the era it had been labeled (U.S. Civil War vs. 1870s), and it wasn’t made where I was told (Italy, vs. England). The only “fact” that slightly mattered to me was that it wasn’t Civil-War era, as I was heavily interested in Civil War re-enacting at the time and that was the “fact” that thrilled me into purchasing the piece.

The third lesson I learned is that the demographic of viewers appears to be baby-boomer or older. Everyone is hoping that something from their early life, or that they inherited, has value. It’s a way of recouping your youth through your possessions—and finding that the changes over time that you see in yourself (perhaps losses) can be redeemed by the increased value of things that once had very low prices. Perhaps it’s innate in us that we want to have something of value that we can pass on to our children.

My biggest fear was that the jewelry would turn out to be worth less than what I paid for it, so it was a great relief to find out that it was worth about 60% more than its original price tag. But I have to confess, one of the games I play when watching the show is, “was it a good investment?” And mostly, I have to answer no. I purchased this jewelry in 2000. If I’d have plunked my money into, say, the fairly conservative Vanguard Wellington fund instead, I’d have a nearly 200% return for the period. Plus, I wouldn’t have paid to insure it for the last 14 years (although I would have had to pay taxes on the Wellington dividends). You can play this game too—listen to how long the person has owned the object, take the amount they paid, and double it for every 10 years of ownership. If they’re not doing at least that well, financially at least they’d have been better off investing it in a balanced fund portfolio. But truthfully, it was much more thrilling at the time to own the jewelry than it would have been to put the same amount into a mutual fund. Fourteen years later, I’m not so sure. I’ve probably worn the darn thing 3 or 4 times.

Then, there are the things that don’t hold their value—most recently, antique dolls and furniture. You may not buy these things strictly as an investment, but you should be very, very careful that you pay on the low side of whatever the current market value is, be able to judge quality pretty well, and be willing to hold the object for as long as it takes for the category to rebound. And be sure it’s insured and properly cared for in the meantime. Probably, don’t own cats or have small children.

The final ouch! is the taxes on collectibles. I have to believe that a fair portion of those who get a big pleasant surprise are thinking about contacting their friendly local auction house. I have never seen this mentioned on the show, but if your tax bracket is above 15% on ordinary income, you’re going to be hit with a 28% capital gains tax on the gain you make from the sale (most other long term investments are taxed at no more than 15% currently). Maybe your kids actually do want to inherit that ugly picture.

Investing for the old and foolish

Posted on July 10, 2014July 10, 2014 by Danielle

I’m pretty tired of hearing about scams involving the elderly that paint older people as doddering children. (It’s a corollary of the cultural motif of “Dad is a Doofus”). But lately, there have been some respectful public service announcements with intelligent looking older people (finally!) warning you to check out any investment advisor and be careful. Great idea which I totally support.

However, like many research projects, the devil is in the details. It just isn’t the easiest thing to find out who is trustworthy and knows what they’re doing. Not any different with a doctor, lawyer, or accountant, really. So here are some ways:

One that doesn’t work is checking out Yelp, endorsements or testimonials on the advisor’s website or LinkedIn, etc. Fee-only advisors are not supposed to have any of these, and you’ll note that there aren’t any on the website you’re currently viewing. In fact, if you see testimonials you can be pretty certain you are looking at a broker’s website, not a fee-only advisor. If you see a tiny footnote on a page mentioning anything about the sale of securities, you’re on a stockbroker website.

You can check to see if the advisor has any complaints registered here.(There’s a corresponding one for brokers, but you shouldn’t be looking for one if you listen to me.) But as any landlord who runs credit checks can tell you, just because nobody has registered a formal complaint doesn’t mean the advisor is trouble free. Worth a look, though.

Check out and read the profiles on the Garrett Network and NAPFA. Okay, I’m biased because I belong to both of these organizations. But they are the leading membership organizations for fee-only advisors. Many Garrett members are one or few-person operations dedicated to helping people with everyday financial questions, personalized for the specific situation. NAPFA members range from one-person shops on up, and some are more focused on investment management. Their profiles will indicate this.

Next, talk to the advisor! Many offer a free get acquainted meeting so you can get a feel for their philosophy and methods. Most people in this industry are convivial, so being “nice” isn’t a reason, alone, to hire any of us. But ask some hard questions:

what would you do if I wanted to be more conservative/aggressive in investing than you recommend?
How did you arrive at your projected return for me?
Give me some examples of tough planning problems you’ve worked on.
What if I don’t like some of your recommendations?
Why do you recommend X?
How did you get into financial planning?
What would you advise if my portfolio took a dive?

NAPFA and Garrett both have information on what to ask an advisor, and tons more information on what to look for.

And here are some dumb questions—I’m answering them now so you don’t have to ask me:

Where do you think the market is going? Who knows? Not me and not your brother in law and not Jim Cramer.
How did you do last year? For whom? I don’t have a canned portfolio for everyone, and many of my planning clients are concerned about many more issues than investment portfolios. In any case, one year tells you nothing.
I have a great investment that will make me 10-15-100%, guaranteed. What do you think of it? Um, call me back when you lose it all.

But let’s return to investing for people over, say, 80 years old. Most likely, this is not a portfolio that has to last another 30 years, or that needs to support the purchase of a new BMW or extensive and frequent travel. If so, of course we can plan for that. But for most people at this age or above, the portfolio needs to help support a decent lifestyle, quality medical care, assistance when needed, and perhaps leave a legacy to children, charity, or both.

No matter what age, a portfolio should take the least risk necessary to achieve the investor’s goals. Sometimes I see a conflict between children who would like their inheritance to be larger and feel the parent is managing too conservatively to maximize return, but only the owner is really entitled to define the degree of risk that is tolerable. Sometimes it’s the opposite—the elder is scrimping in order to leave a larger legacy, at the cost of reasonable comfort and care.

Other tips:

Don’t get desperate or greedy. If it sounds too good to be true, it is.
Know what advice is costing you. As I once told my dad, nobody gives you advice for free just because you’re a nice old guy. Nobody works for free, but know how your advisor is getting paid.
Keep learning. There are plenty of tried-and-trues in financial planning, but some things do change. You should always understand how you are going to make money from the investment, and what the rules are (watch out particularly in insurance).
Don’t believe someone because they’re nice. Believe them because they know what they’re doing and because they’re honest.
Check out the information the advisor puts out. Does the website seem canned? If they blog, does it reflect any personal attitudes and are you comfortable with that kind of advice? Or does the entire website seem like it was put together by corporate headquarters or a production company?
Read the advisor’s ADV. It’s a document designed to protect you, the consumer, by giving you information about how the advisor does business, and what investment philosophy he or she promulgates. Also, you can get information about what the advisor charges, and what type of projects they handle. Generally it’s on the website, but the advisor is required to provide it to you so just ask. (Mine’s on this page.)

As with most thorny decisions, you have to seek a reasonable balance, get advice from someone who has background and expertise, and be guided by that expertise while still using your own common sense. BTW, Warren Buffett is nearly 84. I don’t know anyone that thinks he’s old and foolish.