Afford Anything - Ask Paula: How Can I Retire in 12 Years?

Episode Date: December 31, 2019

#233: Deepak is considering downsizing his family’s home, but wants to know if the savings are worth the transaction costs he’ll have to pay. Anonymous and her husband hold $900,000 worth of privately-owned company stock. How should they plan for handling this money? Shelby is 25 years old and works for a company that awarded her restricted stock units. What should she do with these? Additionally, she traded in a 2013 Prius for a 2018 Subaru, for which she now owes $19,000. Should she sell it for a used vehicle or stick it out? Katelyn is interested in learning more about annuities. What should she know in order to make an informed decision? Max FI and his wife want to retire in 12 years. How should they invest to achieve this? Anonymous’s former employer offered a Roth and Traditional 401k, and his new employer only offers a Traditional option. How should he rollover his former Roth 401k? For more information, visit the show notes at https://affordanything.com/episode233 Learn more about your ad choices. Visit podcastchoices.com/adchoices

You can afford anything but not everything. Every decision that you make is a trade-off against something else, and that doesn't just apply to your money. That applies to your time, your focus, your energy, your attention. It applies to anything in your life. It's a limited resource that you need to manage. That leads to two questions. Number one, what matters most?

Number two, how do you make day-to-day decisions that reflect that? Answering those two questions is a lifetime practice, and that is what this podcast is here to explore. My name is Paula Pant. I am the host of the Afford Anything podcast. Every other week, we answer questions that come in from you, the community. And today, former financial planner Joe Saul Seahy is here with me to answer these questions. What's up, Joe? What's happened, Paula? I must be in a really good mood because the questions we have today, I love these questions. Like, these are some really interesting dig our teeth into questions about financial planning. I can't wait to get started. Absolutely. Here is what we're going to talk about today. Deepak is considering downsizing his family's home, but he wants to know, are the savings worth the transaction costs? Anonymous has $900,000 worth of privately owned company stock. Shelby has restricted stock units and is wondering what to do with these. Caitlin wants to know more about annuities. Max Fai wants to retire in 12 years. And a different anonymous person wants to know how to roll over a wrong. Roth 401k from a former employer into a Roth IRA.

We're going to talk about all of these questions right now, and we're going to start with Max Spy. Hi, Paula. My question is where my wife and I can put our funds in order to retire around the same time, which is 12 years from today. We make 240,000 pre-tax collectively. I'm 39. She is 43, and we have two kids.

One's currently in private school, and the other will be in private school in three years. we'd like to retire in 12 years because at that age, my wife will be 55 and have full pension as a teacher, which will be about $70,000 that she'll be taken home. And so because of that, we haven't really focused as much on her 403B. Now, I've maxed out my 401K for the past few years, and I do have a company match on that. but I'm trying to figure out how I can be at the same point in 12 years. And my thought is because we look at all of our, you know, our money is just a collective bucket.

Does it make sense to start maxing out the 403B and she also gets a 457B, make sure those are all maxed out so that I have plenty of what I'd consider retirement money? Now, I can't touch any of that until 65 or 69.5. I don't know if it makes sense to put it there or into the brokerage counts. Currently, we have 125,000 in a brokerage account, and that's also considered we have, I'm considering the life insurance policies that we have, and we will transfer those over there. There's about 50,000 there. What I'd consider our retirement area net worth is about 330,000 that we currently have in our 401K

and IRAs. In our house, I have 180,000 on the mortgage that I, am still trying to pay off so that even though we have a good rate, three and a half percent, I want to have that paid off in the next three years so that my second child, once you first to private school, we are in better shape for that. So I need to get from retired at 52 to 65. So I'm thinking I need to have a lot in that brokerage account. However, if I'm maxing out three accounts now at 19K is what they are in 2019. So 401K, 401K, 4.0, 403.3. be 457, if it makes sense to max those accounts out or to focus on some of that and keep

putting money in the brokerage, I'd love to do real estate. That's way down the line and I don't know enough about it. I'm guessing it doesn't make sense to do in this area because it's too expensive. Also, 529. You know, I've been trying to put money into there and I'd like to continue to do so so the kids have enough money for college or at least part of it. Okay, thanks. I appreciate it. Love the show. Max FI, I love your enthusiasm. Here's what I'm hearing within your question. You're already maxing out your 401k. You want to max out the 403B and the 457. You also want to pay off $180,000 worth of mortgage within the next three years, which means, on average, $60,000 per year. And you want to fund your kids' 529 plans. That's a lot of goals. Oh, and we haven't even talked about real estate, which you're possibly interested. in or the cost of private school tuition, which you're very dedicated to. So that's a lot to handle, and you're going to have to choose what's most important. And I know that that's really the reason that you call it is the sense that I'm getting from your question is you've got a lot of

priorities. How do you weigh these? Because at a pre-tax income of 240,000, you're probably not going to be able to max out your 401k and a 403B. and a $457 and $529 plans, and make $60,000 in additional mortgage payments per year and invest in real estate and, and, and, and, and, and, the sense that I'm getting from your question is a long series of ands. And so here's what I would do. First, max out every tax-advantaged retirement account that you and your wife are eligible for. So the 401K you're already doing, time to focus on the 403B and the 457. Beyond that, I do think that that brokerage account is a great idea because what you can do is start contributing additional money into a brokerage account. And in a few years, you can make a decision as to whether or not you want to remove a lump sum from that brokerage account in order to make a giant lump sum payment on the remainder of your mortgage balance.

So in other words, rather than pay off $60,000 per year for the next three years, why not build up the balance in that brokerage account? It's currently at $125,000. Build it up to $200, $250. And at that point, if you decide that you want to take a big lump sum chunk out of it and throw the whole thing at your remaining mortgage balance, you can. But you have options by virtue of having that preserved in a taxable brokerage account, rather than already applied towards your mortgage and therefore tied up as equity that you cannot tap. So that's what I would suggest for you. Number one, max out every tax advantaged account. And number two, excess funds put it in the taxable brokerage account so that you have more leeway to make future decisions with it. Also, the 529 plan, I think, is a great idea.

So I would continue putting money there. What I would not do is, frankly, in your shoes, I would not try to be getting into real estate investing right now because you, already have far too many goals. Focus on those goals that you've got rather than trying to add new ones onto your plate. Yeah, the thing that is interesting here, and this is why I have a hard time with people talking about risk tolerance. This is the case for Max about what type of risk is he comfortable taking? Because for Max to get all of these goals, I think might have been done any of the analysis, which I'll get to next, but I think it may take a lot of risk. And so when you look at goals, the first thing that you have to think is how aggressive do I need to be, number one.

And then number two is how flexible can I be so I make sure that money's where I need it, when I need it. Because it sounds like Max and his family are going to need money for multiple goals, possibly at one time. Kids in college, maybe money for that or kids in school might need money for retirement before. And Max is that good news. It's not 69.5.

It's 59.5. So I just gave you a decade there. You're welcome. The IRS did it before me, but I'll take credit. Thanks, Joe. That was very generous of you. Anything I can do for my buddy, Max, you kidding me? What I would do, this is the first thing that I loved doing when I worked with clients,

and that is I would take out a piece of paper and I would draw a straight line, and I would begin mapping out his goals and how they overlap with each other. When he talks about how old his kids are and the ages that he's going to need money for his kids, put that on a timeline. So put he and his spouse, you know, his stick people down at the left side of the timeline. And then in a few years, he's going to have a second school that he needs. How old will he be at that point? How old will a spouse be at that point?

And then the date she wants to retire, how old will she be? How old will he be? Kids, if he's saving for college, if he has a 529 plan, and that's happening, how old will they be? And what he's going to start to see, Paula, is how these goals intersect with each other and how much money he may need at one specific time. And then we figure out what balls of money he needs in what year. And then we work that back to today. So in other words, when his wife decides that it's time for her to retire, how much money needs to be in those plans? What do we need for reasonable retirement?

How big does that need to be? and then walk that back to today and we come up with a very, very simple equation. Right. Max and his spouse need to save X amount of money times Y return to get the goal. And then we can start playing with that because let's say that we use an 8% return and they're not going to make it. Well, moving up to a 9 or a 10% return so that they make it on their current contributions might be more risk than they could take.

So then maybe they need to find a side hustle or find a way to cut some expenses so they can save more money. Or maybe they can push back retirement a little bit because they're more worried about college. Or maybe there's student loans instead so that they can have her retire on time. But once we map out when all these needs are and how they intersect with each other, then it becomes much easier to say this amount goes in a brokerage account because we need that money flexible. This amount's safe in the 529 plan because we know that's going to be for college. It's not going to be for something else. And then this money we can use between the 401K, the 403B in the 457 plan.

Right, exactly. I mean, we know the thing is to retire in 12 years means that your timeline to retirement is short. Your timeline to retirement is just over a decade. And as you near your retirement date, ideally, you want to be decreasing the amount of risk that you're exposing yourself to. And in order to decrease risk, you have to increase contributions. It's the only way to do it in order to be able to reach that goal. I don't think he has enough money at $130,000 to pay the house off. Yeah, I agree.

Yeah, I know that it's a cash flow issue, though, too. I mean, that's the part that worries me is that he said he wants to pay the house off for cash flow. But I look at that chasing $180,000 right now, putting that toward a three and a half percent rate of return. Right. If he had more cash already, I'd say, yeah, go for it. But I don't think he can do it.

Yeah, exactly. I mean, that's exactly why I think it would be far better to put. that money into a brokerage account, let it accumulate, and then when that money gets to greater than 180,000, say, 180,000 plus the capital gains hit that you would take, once the brokerage account reaches that number, then he can decide if he wants to wipe out his entire brokerage account in order to make a big lump sum payment on the house. I doubt that that decision is going to be yes. There's been something else he can do with that, though. He could just build it up between now in the time that his second child goes to school and cash flow gets tight.

And then instead of him making his mortgage payment, have that account make of the mortgage payment so that he gets through this cash flow crunch period. Like he could even do that. In essence, pay the mortgage from the dividends and interest that come from taxable brokerage accounts. Yeah, try to structure the account so he can make it so that account at least floats part of the mortgage so he's not feeling the cash flow crunch as much. I don't know. Yeah, even with his wife getting this pension of 70,000. thousand dollars a year. And we don't know what their annual cost of living is. We know that they make 240 a year pre-tax. That's their income. We don't know what their annual expenses are. But with

two kids going to private school, it's going to be more than $70,000 a year for their family of four. That is another reason why I like to timeline the goals. Because then I can have an honest conversation about it's 55 early reality. And how far do I push this back until it's a is a reality. You know, what is the trade-off? I don't know what the trade-offs are. I mean, we're guessing there's going to be trade-offs, but we don't know how severe the trade-off is for, you know, thing one and thing two.

But I love getting these levers all together on one page, running them back to today. What do I need to do to make all of these dreams come true and then start playing with those numbers? Like the engineer inside of my head gets all really excited about this. And by the way, there's software online that will do this, you know, most of the major brokerage houses have software that you can use to do these things. It's not super robust. There are some sites that you can pay for software, a guy named Darryl Kirkpatrick

and can I retire yet. He and Chris Mumla have a great article about retirement calculators online and compares and contrast them. That's a nice site. That also is the type of work that, frankly, that legwork, because they do it every day, that's what you pay a fee-based financial planner for. You sit all these down in front of them and say, hey, can you do these numbers and a fraction of the time that I can do these myself?

And by the way, they'll be right in a hurry. They have the capability and the know-how to do that very, very quickly. Joe, the one area where I agree with, I'd say the most of what you said, but the one area that I'm a little iffy on is the notion of increasing your risk in order to compensate for lost time. You do need X contribution at Y return in order to equal Z amount of money over a period of years, but trying to force a return that is higher than would be appropriate for the timeline. I'm not saying that.

Okay. No, no, no. What I'm saying is I don't like risk questionnaires. I don't like risk tolerance until we know what risk we need to take. Because as an example, if you're getting 6% on. your money and you're very comfortable with that, but it turns out that you need eight, you're very safely not getting your goals. And then when you find out about 8% and what investments do eight historically and you go, yeah, that's within my risk tolerance. Well, then okay. But if I push up,

you know, I use the example of going from eight to nine and the very first thing I said there was, now we're getting into some tough territory. So what do we do instead? If my, risk tolerance says no to nine, which by the way, it would. If my risk tolerance says no, then I have to find another avenue. Then I go, okay, now I need to push the goal back or I need to lower the amount that I spend on the goal or I need to find more money today to save more money toward the goal. Like I pull one of the other levers. That was my point. It wasn't, let's go to the casino and figure out, you know, how we put all our money on black, put the retirement on black. Right, yeah. And that is, again, one of the reasons why I think that paying off the house, as much as I love the idea of living a debt-free lifestyle, and I understand why he would want to free up cash flow for the sake of paying that second private school tuition, it just doesn't make sense to commit $180,000 to offsetting an interest rate that's basically the rate of inflation. And that would make sense in a different context for a different person.

who had a different set of goals, but he's got some very aggressive goals in a very short timeline. And to be able to get to the point where he and his wife are able to retire in a dozen years. If he wrote to us and said he had $850,000 saved. Exactly. That would be different. Yeah. Pay off the house. Yeah, yeah, absolutely. Absolutely. But he, so far, I mean, they have $330,000 and they want to retire in a little over a decade. you're going to have to be more aggressive. And fortunately, the wife has a $70,000 annual pension, but that's not going to be enough. Yeah, the pension's going to make this problem easier, but still not easy.

Yeah, exactly. Because that formula that you stated, Joe, it's X contribution times Y return equals Z amount. You know, you know that you can subtract 70,000 out of that Z amount, but they're still going to be that remaining gap. And if they want to be able to plug that gap in the next dozen years, they're going to have to focus on investing in tax advantaged accounts. That's going to be the fastest way to grow it. Well, sure, yeah. When I was a financial planner, though, this is when we'd have some fun discussions. And I'll give you an example of one. There was a woman who was a client of mine who wanted to retire along the shore of Lake Michigan,

which for people not from Michigan, you need to come see it because it's beautiful along that shoreline. And we looked at property before she retired right after she hired me. And it was way, way, way, way, way, way over her head, Pella. There was no way with the money she'd save that she was going to be able to afford that. Instead, here's what we did. This is super cool. she instead bought a house on a hill across the street from Lake Michigan that had this beautiful view

and she opened up a bed and breakfast because she loves people she loved being around people she was very much okay with operating a business during her retirement the people brought in enough money although it was somewhat sporadically brought enough money to make the mortgage payment and every day she got up she was around new people all the time and she got to sit on her porch and look out across Lake Michigan without having to have the super high-priced property across the street. That was really neat. So sometimes reducing the goal, you know, finding these creative ways to think differently about your goals can sometimes help a ton as well. So you're saying if Max and his wife do want to retire in a dozen years, it might behoove them

to think about what they would be doing in retirement and if they would also be earning some income during that time. Yeah, maybe some income stream. And I don't like having to bake that into the plan. I would prefer that she had the bed and breakfast without needing the money. Right. However, she's still got a great part of the goal just by employing a little creativity. Well, thank you, Max, for that question. And best of luck with your retirement journey. We'll come back to this episode after this word from our sponsors. The holidays are right around the corner, and if you're hosting, you're going to need to get prepared, Maybe you need bedding, sheets, linens.

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That's your commercial payments of fifth-third better. Our next question comes from Shelby. Hi, Paula. My name is Shelby, and I am 25 years old. I never really paid much attention to my finances, but I've recently found the FI community and I'm working to get myself in a place where this can become my reality as well. I have a few questions I was hoping you could help me with. I work for a large company where a portion of my compensation comes in the form of restricted stock units.

Currently, my total portfolio value is around $120,000, $30,000 of which has vested, and 90,000 of which is scheduled to vest gradually over the next three years. RSUs will continue to be awarded based on performance at annual reviews and with any promotion. This account is through Morgan Stanley, and the default setting, is automatically sell shares to cover the taxes at vesting. What are the pros and cons of this? Should I be doing something different? My next question is, should I be selling these shares when they vest and investing the money somewhere else, like an index fund? My final question is about the stupid decision I made to trade in the 2013 Prius my dad gifted to me and buy a brand new 2018 Subaru

Forrester two years ago. Thankfully, I have excellent credit and have financed this at 0% APY over five years. However, I still owe $19,000 and I'm wondering if I should sell the car and look for something used, or do I just stick it out at this point? Thanks so much for all that you do. Hey, Shelby, restricted stock units have a lot in common with some of the questions we've asked the last few shows, which is about employee stock purchase plans. And even though restricted stock units are a different beast and different taxation, and that's a much longer podcast we have time for today, the basic tenant still holds when it comes to owning stock in a company where you work, which is this.

It's okay to hold some of it, hold a little of it. I wouldn't hold a lot of it. You already get your entire paycheck from this company. And even though you want to believe in the company, you want to grow with the company, certainly having. As my mom says, all of your eggs in one basket is not a good idea. And you can look at companies where changes happen very quickly. And stock that you thought might have been worthwhile one moment is all of a sudden worth very little the next day.

So I would treat restricted stock units like a conveyor belt. As you receive more, I would then sell some on the other end so that depending on your risk tolerance, you're never above five to 10 percent of it. your overall portfolio. So as your net worth grows, you can hold more of them, have more money in that, but it's not a huge part of your overall network. So if something does go poorly, then you're not stuck. In terms of selling some shares to pay the tax when they vest, the answer then to me goes

back to my initial statement. We don't want to load up on the stock. So unless you have money available elsewhere to pay the fees. and the tax to get the restricted stock units, I'd do that because we're going to sell off some of those shares anyway, so why not sell a little bit today to pay the tax and pay the fee, so I'm not I'm not loading up on those shares. As for your second question, which is about the 2018 vehicle for which you still have $19,000 that you still owe on it, unfortunately, even though this is going to hurt, I would sell the car,

so that you can get rid of that debt and use whatever cash you have to buy something that you can own in cash. Even though you are currently paying 0% APY on that loan, you're still taking the depreciation hit. You've taken that depreciation hit for the last two years and you will continue to take the depreciation hit for the next several years because the car is so new. And so to lose money in depreciation on something that you are also in debt for does not make solid financial sense if instead you could buy a clunker in cash. I mean, I don't know how much car you can afford in cash right now, and it might have to be a clunker, but better to buy something that you can pay cash for than to go into debt and also pay depreciation on top of that debt. I'm not the car

police like Paula is. I think it's all about priorities. If your priority is to drive the 2018 Subaru and you call it a dumb decision, but you already made it and you know it and you like the car and you're ahead of the game. You know, we talked earlier in the show about being behind or being ahead. If you're ahead of the game and you know what the loss is and Paula just quantified for you what some of the loss might be, keep driving the car if you really like the car. If That's not a priority, though. And getting ahead in other areas is more of a priority than sell the car and use it to get ahead in other ways. Well, I agree with you, Joe, in that if I got the impression from her voicemail that she's a car enthusiast, right? If she follows Instagram accounts of various car companies, and when she was a kid, she had posters on her wall of different types of cars.

and cars are her passion and her favorite topic to discuss at 9 p.m. on a Saturday night, she goes to the bar with her friends, and they talk about cars. If that were the case, it would be different because this would be her overarching passion. I didn't get that impression from her voicemail at all. It's not her overarching passion. And by the way, you know, I'm just poking you. But I do think even if it's not her passion, she's ahead of the game and she knows how much money she's losing. and she likes the heated seats and she likes the comfort.

She loves her Subaru and it's just a passion thing that she, you know, if she's ahead of the game, why not? Because she's in debt. That's why. Then there you go. Then get out of debt, Shelby. If she could buy it in cash, that would be different. But to go into debt, that's not being ahead of the game. It's zero percent, Paula. It's debt. Dead. Dead is debt. I can't even rattle her. I tried so hard to rattle her and I can't do it.

So disappointing. So thank you, Shelby, for asking that question. Our next question comes from Caitlin. Hi, Paula. I love your podcast and your blog. And I'm looking forward to enrolling in your real estate course in the spring of 2020. I am calling today because I would love to hear more from a previous guest, Wade Fow, who spoke about his inclination to rely more on annuities as a safety route in retirement.

Actually, I think he referred to it as a hybrid approach to retirement savings. I know that you are not a fan, as you said, of annuities, but it would be helpful to hear more about that. that interviewee seemed to have some good suggestions, explain things well, and I would love to hear more about annuities to make up my mind about my approach to retirement. So I was wondering if there's any chance of you inviting that guest back and going ahead and spending some time focusing on that potential avenue for retirement income. Thanks so much. I appreciate you very much. Take care. Caitlin, thank you so much for your question, and I'm excited to welcome you into the course, the rental property investing course in the spring. In fact, today, as of the day that we're

recording this, we just wrapped up the last day of classes with the fall 2019 cohort. It's been really fun going through these last 10 weeks of classes with that cohort, who are now alumni in the course and very, very excited for all of the new updates and the new things that we'll be rolling out in spring. So happy to have you on board in spring for their rental property course. Now, as to your question about annuities, well, we don't have Wade Fow back right now, but we do have Jossall-C-high. Before I kick it over to him, I would also like to say that episode 137 of this podcast was our, annuities episode. If you want to hear more discussion about annuities, afford anything.com slash episode 137, we answered five listener questions on that episode. Three out of those five

were related to annuities. So with that said, I'm going to kick this over to Joe. First, I guess we'll start with the definition of fixed annuities versus variable annuities. How about if we just take annuity first, and then we can talk fixed versus variable. Oh, all right. Yeah, let's do it. what an annuity is is something that's attractive, I think, to everybody, which is this. It's how do I get a stream of income that I cannot live? So if I don't have a pension, maybe I can make a pension for myself. And an annuity in its most basic form is just like that. You take a bunch of money.

You do something called annuitize it. The insurance company then takes your money and says in exchange for this amount of cash, you then, no matter how long you live, we will give you X amount per month. Now, of course, the annuity company is good at math, and they do the math in a way that at a reasonable interest rate, there is a little higher than 50% chance that they're going to win. It's like when you go gamble in Las Vegas, you'll win a little more often than you do at your local casino in Connecticut or wherever. And that's because with that many casinos competing, and so many insurance companies, by the way, compete for annuity business that they want to make sure that they're very competitive.

And competition makes sure of that. But at the same time, they're still going to win enough that they can stay in business. The reason why Wade Fow, who for those people that don't know, Wade, who's a leading certified financial planner and scholar in the area, in all areas of financial planning, the reason why he. likes the idea of an annuity is because of something that I hear professionals talk about all the time that I don't see enough in the popular financial press, which is we are living longer and longer and longer. And this idea of longevity and our money's going to run out because we're livings for such a long time, it could potentially become a really, really big problem. In fact, it's such a problem that maybe seven or eight years ago, there was a big fight among certified

financial planners because some of them were still showing their clients dying at 90. And that was way too young. They needed to show people living to 100 or well beyond 100. A woman named Gail Sheehi, who's a top researcher in this area, said that if you were, I think it was 20 years old in the year 2000, you had a one in three chance of living to see 2100, even then to live to be 120 years old at that time. Pretty powerful, powerful stuff. So for that reason, the idea of annuity is absolutely phenomenal. How can I get this income stream? I love that in the world of retirement planning, a long lifespan is what we call a problem. Right. It's, well, I don't want to be, you know, if I go up to the vending machine and I'm getting that last kit cat with my last

dollar, I want to make sure that my heart goes out right then, Paula. But if I have the kit cat and I have no money left, then I'm in trouble. So the way to put money into these annuities, you can put a bunch of money down at once and then just say, give me an income stream, which is the basic one. If you don't want to pull that trigger right now, instead you want to wait and have the income stream be later. So let's say you're 55, 60, 70 years old. You don't want the income stream today.

You can give the insurance company your money today and they will invest it for you. A fixed annuity is an annuity where they give you a fixed rate of return for a set amount of time. And basically, you can compare those returns to CDs. They will look really good versus CDs because they're not FDIC insured. They don't have some of the oversight and because of that anewan. And they know you're going to have, they're going to have your money for a good long time. So it compares favorably against a long-term CD, but it looks pretty bad when you compare it to the S&P 500 as an example over a long period of time. insurance companies are always reactive.

They're always reactive. And here's a little story that Joe kind of half made up about how this happened. But it's the way it always happens. Interest rates got really low. So interest rates were really high back in the 1980s. And you'll see that fixed annuities flew off the shelf in the 1980s. 10, 11, 12 percent guaranteed on these things. You kidding me?

Absolutely. I'm going to do that. And then when interest rates got low in the late 90s and then have continued to fairly low for the last decade. Nobody wanted to buy fixed annuities anymore, Paula. So insurance companies went, how do we spike up sales? I know what we'll do. The stock market's rocking.

We'll put a bunch of mutual fund looking things called separate accounts, but they really look and smell like mutual funds. And we'll put them inside of this annuity. And now we can tell everybody that you'll get the stock market until you decide to annuitize the money, meaning turning it into an income stream so you'll get more. maybe we'll put some other bells and whistles on this and you don't even have to turn into an income stream now we'll make it so that you get these lifetime guarantees as long as you only take out x amount and annuities then got more complicated and more complicated and more complicated and more complicated

guess what happened every time they made the annuity more complicated the fees went the fees went up i was going to say more people bought it well a lot of people bought it in fact there are more there's more money going into annuities in IRAs today than in any other product. More money goes into annuities than any other product inside an IRA. And why is that bad? Because an annuity on its own is a tax deferred vehicle. Meaning when you put money into an annuity, you don't pay any tax on that money until you take it out later. IRA is a tax shelter where you're not going to pay any money. So you have a tax shelter inside of a tax shelter. Doesn't make a lot of sense. But because annuity companies have made these so complicated, they've been able to boost the amount that they

can pay the representatives that sell those annuities. And annuities also pay a hella great commission to the people that sell these. Generally speaking, when I was a financial planner, six percent, not uncommon, sometimes higher than that, eight, nine percent. If I was an annuity salesperson, just to tell you what this means. And you put $300,000 into an annuity, I would get $18,000 just for that transaction as the salesperson. And I probably get some money called a trailer on an ongoing basis as long as you hold that annuity.

That money comes from somewhere. And that's why annuities are often frowned on is because of the fact that they're loaded with fees. There are fees and fees and fees and fees and fees. And you get stuck. take your money out. Sometimes there's all kinds of complicated provisions to take your money out. So that's why, rightfully so, most people say you should just avoid annuities. High fees, low liquidity. Let me say one more thing here. Absolutely. One more thing. And that's this.

A group of the biggest insurance companies, though, they all realize this, that they have the worst reputation in finance. There is no other product where you say the word and people go, Yep, no, no. People that know better go, yeah, no, annuity. No, I'm not going to do that. They got together and I actually went to a meeting at MIT where MIT professors are so worried about longevity, Paula. The MIT professors are working with industry professionals to make annuities better. It was really cool the way the meeting worked.

They not only had the biggest company selling annuities there, all the biggest insurance company, most the biggest insurance companies in nation. They also had big time members of the media. Rick Edelman, who was the number one financial planner, according to Barron's for a long period of time. His financial planning book is one of my favorites. Michelle Singletary from the Washington Post was there. Gene Chatsky was there.

I was there. I wasn't there. Where was my invite? Lauren Young from Reuters. There were all kinds of media people there as well as the biggest players. But the cool thing was they brought in real people. to tell these companies what they thought of annuities. And everybody said what I just told you.

I hear the word annuity. I hate it. I feel like I'm getting ripped off. I'm not sure where I'm getting ripped off, but I'm fairly certain that I am. They're aware of the problem. There are some companies that are doing a great job of stripping this down to what it should be

because MIT realizes, these longevity professors realize, we have a big problem. And the product that solves that problem, nobody wants to buy. And that product for the vast majority of people is the perfect solution and people won't buy it. And I wouldn't buy it. So there are companies that are really working hard to clean it up. So basically what I'm hearing is annuities are

great in theory. And if they were still simple, fixed annuities with low fees, then in theory, that would be great. Unfortunately, what's happened is they've become these complicated variable annuities with high fees that have spiraled so far out of control that they now only exacerbate problems rather than solve them, even though they have potential to be better? For the most part. And the good news is most of the big companies and some small, aggressive fintech companies have really good annuities, but salespeople and those businesses don't sell those annuities. They all have them. They all have the annuity that fits. But I, I think if you're going to go into annuities, Caitlin, you really want to get educated about what the good actors are, the few and far between, versus the mass, which are all the bad actors.

So thank you for asking that question, Caitlin. We'll come back to the show in just a second. But first, our next question comes from Deepak. Hi, Paula. This is Deepak from North Carolina. I absolutely love your podcast, especially the Ask Paula episodes with Joe. I have a question regarding downsizing our house. Just to give a general idea, our savings rate is about 45%.

We're maxing out 401k's Roth IRAs, contributing to HSA, and rest of it is investing in index funds. We do not have any other whole loans other than our house loan. We want to accelerate towards retirement, and I feel our housing is the biggest drain at the moment. My wife, my kids, who are six and three years old, are currently living in a 3,000 square foot, five-bed, four-batsing, with family home. We bought it in 2016, with a sales price of 4 in 10K, and it has appreciated to a value of around $460,000. The balance on the loan is around $330,000 with an interest rate of $3.6 to $5 on a 30-year fixed mortgage loan. The monthly house payment, including utilities, all add up to $2,500 per month.

If we were to sell and move into a smaller town home or house of 1,500 to 2,000 square feet, it would fall in the price range of $200 to $280,000, which are at least $3 to 10-year-olds. The monthly house payment on the new house would vary from $1,600 to $1,600, including units, utilities, assuming an interest rate of 4%. The savings compared to our current house would then be around $1,300 to $1,300 per month. Considering the scenario, does this make sense financially to move into a smaller town home or house or just stay put in our single-family house as the cost of selling and buying would offset these savings?

I would love to hear yours and Joe's thoughts. Thanks again, Paula and Joe for helping out our community. Deepak, that's a great question. My question back to you is, how long? long do you plan on living in this home? As you outlined, if you were to sell your current home and downsize, you'd have a savings, an immediate savings of about $1,000 per month in terms of cash flow. Now, the cost of selling your current home is going to be around 7% of the sales price of your home approximately. So if you sell your home for $460,000, the transaction cost is going to be

approximately $32,000. That's assuming 6% for the real estate agent commissions and then another 1% in closing costs. There will also be, of course, some costs associated with getting moving trucks, facilitating the actual move itself. So let's just round up and say about $35,000. Fundamentally, the question is, if you were to take this $35,000 hit, how long would you need to be in your new place in order to justify the cost of that transition. Certainly, given the fact that your cash flow immediately improves by $1,000 a month, and that's $1,000 that you can then put towards investments so that that $1,000 a month starts to achieve compounding growth, it'll be less than three years before

you start to see the benefit of that. Given the cost savings that come from downsizing, there's a fairly quick payback period purely with regard to a comparison between cash outlay and the cash savings. And that payback period becomes even more accelerated once you take the impact of compounding growth into account. I think Deepak hit this exactly where people need to focus their time and energy if they're looking at making real change in their life. Too often people look at clipping coupons. you know, maybe I'll go out to dinner once less or, you know, David Bach, the latte factor, and he proved that you can make these little changes and they can add up to a lot, Paula. But if you want to make big change, start with your housing, auto cost, food cost, in that order.

And you can make massive change, which brings up my next topic. So I think that level of change and that level of commitment to your long-term goal, fantastic. Yeah. But. But. Have you seen this movie that stars? Well, she's probably going to be up for best supporting actor in a documentary, Paula Pant, called Playing With Fire. I have seen the documentary playing with fire.

I've seen it four times. I'm also in it. I'm sure you'll be up for the best supporting actor in a documentary. I don't think you're supposed to act in documentaries. Well, and now that I think about it, they don't have that, they don't have that. They don't even have that category. But if they did, Paula, it would be you. Because it was every time you came on the screen, I started crying.

Nah, well, thank you, Joe. But very seriously, they did for people I haven't seen the film. It's available in many different places online. What I love about this film, Paula, and I've seen it a couple times, is that this tradeoff is not without consequences. You can tell that they're not as excited about their new, smaller home. as they were their old former home. They're not as comfortable with the new conditions, the new driving. They've accepted the fact that they now live on a major road where they have traffic

coming by that they might be able to hear at night. Everything comes with tradeoffs. And before I make this tradeoff, all I would say is this. Just like we talked about with Max, does he need to make this change? Even if he's accelerating retirement, has he timelines? his goals and looked at that equation. How much money does he need to save? What return does he need to get that goal? Because if his family would rather stay in the 3,000 square foot house with multiple bathrooms, then cut that by a third and you can still do it. Maybe that's a different.

I'm not saying that you will change your mind or you'll change the goal. But will it change the conversation if you can do it without being that extreme. I don't know. But I think I'd want to know those numbers before I went and had a lot of unintended possible consequences. So essentially what you're saying is decide what your priorities are. And if your priority is to fast track the growth of your net worth and you're willing to accept the tradeoff of living in a smaller home in order to do that, well, then that's a conscious decision that you're making around that tradeoff between net worth growth and housing. Almost. I'm not sure he knows how much more.

he needs to do to make it though. Even before he maxes his net worth, the answer with maxing your net worth is always why. Why? If I get everything that I want out of my life and I don't have to do that, would I do it? Do I want to make my life? I don't want to say the word less.

But to some degree, a 2,000 square foot house is less house than a 3,000 square foot house. If I like where I live and I'm willing to do it, is a different question, Paula, than do. I have to do it? Because even if he's willing to accelerate, does he have to accelerate to get I had clients that were like, hey, man, I'll do whatever it takes. And I found out that they had to quit eating dinner out four nights a week. They didn't have to move their house. That's all they had to do. Other people had to make serious change like Deepak's talking about. I would want to know those numbers before I did that. You can hear the commitments there. So it's not about commitment. Now it's

lifestyle. What do I really want from my life, which I guess was a big part of your point. Yeah, exactly. Deepak, if you think that you and your family will be happy in the smaller house that costs significantly less, I mean, monetarily, the transaction costs that you'll pay will recoup themselves in less than three years. So monetarily, as long as you're in that new smaller home for more than three years, you'll come out ahead. And if you're in, you're in, If you invest that money in ways that are important to you, so for example, if you put that money into retirement accounts or 529 plans or into a donor advised fund that you can donate to charity, if those are the things that matter to you and you're willing to live in a smaller home in order to do that, then that's the tradeoff. It's funny what I would meet with people when I was a financial planner and I would say, what do you want to do later in life? And they would say travel. Sometimes they'd say play golf.

and you think about the number of years as we talk about longevity and how long people will live, like those answers are so shallow versus the true level of detail. I think you need to make some good decisions here for yourself. I keep coming back to over and over and over again, how amazing this one book, Seven Habits of Highly Effective People, has been in my life. and the idea of beginning with the end of mind, right? Beginning with what does the goal look like? What do my values look like?

What do I want? You know, I mean, we have friends that are very happy living in a van. And they love living in a van or living in an RV. I have other friends that 3,000 square feet, not enough house. And I love them all equally, but it has a lot to do with their values and what they want. until you begin at that point and work backwards, I think we need to talk less about optimization. Optimization, you mean financially? Yeah, I feel like we try to optimize way too much.

And I hear too many conversations about optimizing your life and optimizing everything. Does everything need to be optimized? Do I need to optimize my entire life? Well, I think it depends on the definition of optimization. Are you trying to hack your way through everything? or are you trying to find that balance between your values and your lifestyle? Yeah, I think it depends on the starting point, once again, or the endpoint that you're trying to reach. If it just is more capital M-O-R-E, no, thank you.

But if it's fitting what I value and what I really want, then I think it's a better idea. I just hear a lot of value when Shelby says she says she, made a stupid decision around her car. And Deepak is talking about downsizing his house. And these are common themes, right, that we hear among the inner part of the community. And I want to push back just a little bit, not definitely not on Shelby, not on Deepak. Don't want to push back on them at all. I just want to push back on people in general, which is, if I begin with the end of mine,

maybe I can keep the Subaru if I like it. As long as you can pay cash for it. And Deepak, if you can pay cash for that 2,000 square full house. No, that's not a depreciating asset. Exactly. Yes. All right. Anyway, that's enough Joe preaching.

So, Deepak, if you do decide to sell your home, I totally support you in that decision. And to answer the question that you called in about, are the transaction costs worth it? The answer is yes, as long as you stay there for at least three years. In fact, it'll be worth it in less than three. is a conservative number. Our next question comes from an anonymous caller from Los Angeles. So we're going to call this caller. I'm going to start giving names to the anonymous people.

This one's going to be Los Angeles, Lisa. Oh, I thought we do like, you remember the old, you don't remember the old movie, Sleepless in Seattle? No, I've never seen it. No, but you've heard of it. I've heard of it, yes. Yes. So we could call her Lucky in Los Angeles.

Oh, perfect. This next call then comes from Lucky in Los Angeles. Hi Paula. It's anonymous from Los Angeles. I love your show because you help people to think about their money in different ways. And my husband and I have a strange money situation that we're having a hard time figuring out how to think about or planned for. About 10 years ago, my husband worked for a private company and was paid in incentive stock options as part of his payment. We paid about $30,000 for the options to change them into stock when he left the company. And we sold 20% of the stock five years later for about $100,000. So we've made our money back.

And we're happy with the investment. The problem is that the company is still private and probably always will be. So we can only sell the remaining $900,000 worth of stock when they make us an offer and at their price and only as much as they'll take. So for instance, this year we sold another not quite 10% of our stock. And with that, we bought a rental house. We made the down payment on our first rental house. We just don't know when the next offer will be and how we should think about our net worth. and how to plan for that money, since it sort of randomly comes in, and we have no control over the

timing or the amount. Any advice is appreciated. Thank you. Lucky in Los Angeles, thank you for that question. To your question of how would you plan for this, to be perfectly honest, I wouldn't. This is stock that you don't get to choose when you sell it, if you sell it, how much you sell it for. And as a result, I wouldn't include it as part of your plan at all. If the company decides that they want to buy it from you, that's great. And if that happens, and when that happens, that will be an unexpected windfall. But I would not include this as part of your long-term plan.

This is the great thing about building out the timeline toward your goals. because when you have that timeline and you haven't counted, totally agree with you. You can't count any of that money. But when the money comes in, now I have goal A, goal B, goal C, and I get to decide which one of those goals I push forward, right? Which one it goes to. And when I know how they push and pull against each other and I know when I'm going to have money crunches in my life, it makes it really easy for me to then plan how to avoid those crunches. So if kids college is going to happen at the same time as retirement as it looks like for Max, well, then I know there may be some 529 money and I don't need to worry about that.

Now that is taken care of or it's enough money to pay off Max's house. You know what I mean? Whatever it is, if I have that timeline of my goals and I know what they cost and if I'm ahead or behind on each one, then is that money comes in, I deploy it. But I'm with you. There's no way to count it. You can't count it. Right.

Exactly. So in other words, plan as though that money is never going to appear. And if it does, then you get to enjoy the fun of looking at all of your goals and saying, hey, which one of these? Can we just put a big old check mark on right now? And lucky what you might want to do is even prioritize ahead of time what your priorities would be each time money comes in. So you can even diagram that ahead of time, almost like when you invest. I've talked before about making an investment policy statement, right? So that when a downturn hits, you're not reacting because that's horrible.

You're able to just look at the sheet and go. Every time you get money, studies have shown that this windfall makes you do some sometimes crazy things. So if you want to avoid that, go ahead and make your priorities list ahead of time. If it happens once, here's what we do first, here's what we do second, here's what we do third. Right. Let's not talk to Lucky for a second. Let's talk to every. I love what we've just given her a name.

Oh, it's a great name. Lucky in Los Angeles. I'd run with it, Luck. So see, I've even given her a little luck moniker, not even Lucky. Now her nickname has nicknames. Right. Hey, Elle. Elle in LA.

So when you're looking at job opportunities, the idea of incentive stock from a closely held company. This is the problem, Paul, that you run into is that even if you get the stock and you have the stock, finding a way out of that stock is going to be difficult and unpredictable. So while a small company might present it is a phenomenal benefit that you can partly own the company and share in some of the wealth, while that is a fantastic thing, and I wouldn't say no, if I'm looking at two different offers, and one includes that and the other one includes some offer that's with a public company and I can get stock that I know I can track and I can sell later on, the public one I would weigh much more heavily. Right. Yes, I've known many people who have had closely held

stock that ultimately went nowhere and did nothing. And that's not to say that that's going to be your situation, but I do know people who have private company stock that ultimately ended up turning worthless. Yeah, so far so good in this case. And hopefully it'll turn out fantastic. Yeah. Yeah, absolutely. You know why it will, Paula? Well, I mean, because it already has, right? They already paid $30,000, realized $100,000 out of it, made back triple their money and they're happy. So they've already won the game. Anything else is a bonus. Well, that and the fact that she's lucky. Oh, that's right. Yeah. So you got that. Our final question today also comes from an anonymous caller.

We've got to give this guy a name. We have to. Yeah, what do you think about, let's see? He's 24, and he's calling with a question about his Roth 401K. So, what kind of name can we give him? What do you think, Joe? Nerd. All right.

Our final question today comes from nerd. Hi, Paula, it's anonymous. I am 24 years old, making around 85,000 annually on a W2 basis. My former employer offered traditional and raw 401K options. However, my new employer only offers traditional 401k options. Because I can't roll my raw 401k into another raw 4K, my former employer told me that there was only these options, to either do a full rollover to a personal Roth IRA, to do a full payout via checkmate out to me, or do a partial of both. If I take the payout option in any way, they mentioned that my earnings would be taxed at plus 10% of my current income tax. I checked in as of right now, I have no dividends in my Roth 401k, but I'm unsure about those rules.

Furthermore, my former employer mentioned that there may be withholdings for tax reasons, but I'm unclear about that part as well. Please correct me if I'm wrong, but I'm under the impression that with Roth IRAs, because I've paid my taxes on it, I can take contributions out at any time, penalty-free, and tax-free. I've made $2 in dividends in my Roth IRA. Is there a way to distinguish the contribution money from the dividends so that I only remove the contributions from the account? My problem is that I have about 3,900 in my 401k and 3,400 in my Roth IRA. If I do a rollover right now, I'll be over the cap of $6,000 for IRA contributions in 2019.

However, if I do a full or partial payout, will there be tax and or penalty implications? Assuming that there will be taxed and penalty implications, my idea is to take all the money out of my Roth IRA into a full rollover of the Roth 401K to my Roth IRA, so I do not pay any taxes or penalties. Then I would do monthly installments to place the money which I originally took out so that I can contribute to reform dollar cost averaging. I understand that this would mean that I get taxed on the $2, but that's better than paying 6% on the over contributions, which is $1,300. Is there any other way that I cannot pay taxes or penalties? This cannot be the first time where someone moved from a job where they did not provide the same retirement packages. Are there simpler ways to get this done, though it may incurred taxes and penalties? Please let me know.

Nerd, good news for you. The answer is actually really, really simple. Take your Roth 401k. Roll it over into a Roth IRA. So the steps are very easy. first go to a discount brokerage like Vanguard or Charles Schwab or Fidelity, open up a Roth IRA account, and then initiate what's known as a trustee to trustee transfer. By doing this, you don't touch the money. The money goes directly from your former employer's 401k, Roth 401k, into your Roth IRA.

So when you open a Roth IRA, let's say you do it at Vanguard, just call up the people at Vanguard, and tell them that you need to roll over money from your Roth 401k into this Roth IRA and that you want to initiate a trustee to trustee transfer, which is sometimes also referred to as a direct rollover. Now, there are a couple of important things here. Number one, do not withdraw this money. Do not touch this money. Don't let the money hit your account.

Technically, technically, you could take a distribution of the money and then as long as you put it into a Roth IRA within 60 days, it could technically qualify as a rollover, but you just don't want to get into that gray area. The simplest, cleanest way to safeguard against the IRS challenging this rollover is to just never touch the money. Don't let it touch your hands. Don't let it touch your bank account and initiate a direct rollover from one institution to the other. That's the cleanest, simplest, safest way to do it. Now, to your question about Roth IRA contribution limits, not applicable. Doesn't matter because what you're thinking about are the contribution limits to a Roth IRA.

That doesn't affect the amount of money that you can roll over into a Roth IRA. So you can roll over your whole Roth 401K balance into your Roth IRA and you're sitting pretty. You could have $5 million in that account. nerd. Nerd. Nerd. But you'd be even nerdier then. You'd be, I mean, 5 million by the age of 24.

You're really saving those paychecks. Super nerd. Yeah. What I love, though, is it doesn't matter. It can be as much money as you want. $5 million, $6 million, $20 million. Roll it all over. Does not affect your contribution at all.

Exactly. So you can roll it over and still max out your contribution. Cake, eat it too. Yes. Ice cream, cherry on top. Hmm. Fudge. Carmel.

I am so hungry. We shouldn't be doing this. Thank you, nerd, for asking that question. Joe, where can people find you if they want to hear more of your zany antics? Yes, well, we won't be going into depth like we are here if you want to hear us come up with strange names for people. Conversed with my mom's neighbor Doug, people like Paula, our good friend, Len Penzo, Doc G from the What's Up Next podcast and many other people, Monday Wednesdaysys, and at stacking benjamins.com. We have a really cool interview that played last week.

Not only on Wednesday of last week did we record our favorite interviews of the year and snippets in my co-host OG and I going through kind of what we liked about those interviews. Monday of last week, though, we talked to a guy named Chris Ferrellas, how money became dangerous. And it's his own personal story of being right at the epicenter over his career of a lot of the big events over the last few decades. In fact, he tells a story on our show about accidentally helping a drug lord embezzle money, which is right up my alley. I mean, not embezzling money, but stories about drug lords embezzling money are the kind of things I want to hear. And you'll hear on stacking Benjamins. Nice. So you can find all of that at the Stacking Benjamin's podcast,

available on any app where finer podcasts are found. That's our show for today. Thank you so much for being part of this community, we are offering a book giveaway. So if you want five books for free, you can enter our book giveaway contest at afford anything.com slash book giveaway. We're giving away five books. We're giving away. Stillness is the key by Ryan Holiday. Broke millennial takes on investing by Aaron Lowry. Emotional agility by Susan David. Debt free degree by Anthony O'Neill and letters from Stoic by Seneca. If you have been listening to the Afford Anything podcast throughout 2019, you will recognize four out of five of these authors as guests on this podcast. So if you want a copy of their book, you can enter our giveaway.

The contest is open until January 10th at Midnight Pacific. So anytime between now and January 10, 2020, just head to afford anything.com slash book giveaway and enter for your chance to win. Huge thanks to everybody who has left us a rating or a review on Apple Podcasts. As of the time of this recording, we have 2,041 ratings on Apple Podcasts. which means we've achieved my goal of going into the year 2020 with more than 2000, in fact, more than 2020 ratings. So huge thanks to everybody who has left a review or a rating. If you haven't done so yet, just go into whatever app you're using to listen to this podcast and leave us a review. I'd like to give a shout out to Wally Physics who left a recent awesome review. They said,

I've been listening to a lot of financial podcasts over the past year and have started my own fire journey. Paula asks really well-thought-out questions, not only to the person she may be interviewing, but also just as thought experiments for her whole audience. She has a great personality, and her passion for building a better life comes through in each of the episodes she produces. Keep up the great work, and look forward to another year with the Afford Anything podcast. Thank you so much, Wally Physics. And happy new year. I look forward to another great year, too. So for everybody in this community, I hope you're having a great holiday season. I hope that you are having a happy new year and make sure that you are subscribed to this podcast in whatever app you used to listen to podcast so that you won't miss any of our future episodes because we've got some great stuff coming up in 2020. If you enjoyed today's episode, please share it with a friend or a family member. That's one of the best ways to spread the fire, to spread the message of financial independence. So thank you so much for tuning in. And And I will catch you in the next episode.

By the way, my lawyer says that I need a disclaimer, so here we go. This is purely for entertainment purposes. Basically, imagine that this is the least funny comedy show that you've ever listened to. We are not professionals. We barely can brush our teeth in the morning. And so we don't hold ourselves out to be experts or really, for that matter, even adults. Give us the same amount of respect that you would give, say, a goldfish. and always, always consult with a real grown-up before you make any decisions.

That means consult with a tax advisor, consult with a lawyer, consult with a financial planner, consult with people who actually have credentials and who know what they're talking about, because that is definitely not us. All right, you've been warned. Just to clarify, nerds are our kind of people. Joe sitting here laughing at me, but he's the one who came up with it. I feel like we've created a monster though. You realize we're going to do this every episode.

Oh, totally. Every anonymous caller is getting a nickname. Beware what we have started. This is going to be way lamer when I run my solo episodes, and I have to come up with a nickname for the anonymous callers on my own. I will apologize right now for that. Should not have done that. For people I haven't seen the film, it's now out and available.

You can find it at Amazon, Venmo, different places. Venmo. Or not Venmo. Bimio. Sorry. Amazon. Vimio. I got to say that without laughing.

Or maybe we keep the thing. We keep you saying Venmo. What, that's not a thing? I don't send Scott my money and he shows me the video.