BiggerPockets Money Podcast - 163: Taxes, Backdoor Roths, Options, and How to Max Out Your Childrens’ Roths with Steven Hamilton

Episode Date: January 18, 2021

Have tax questions for your upcoming 2020 taxes? Stick around then! We have a mind-blowing episode with enrolled agent Steven Hamilton from Hamilton Tax and Accounting. Mindy and Scott throw a lot of high-level, hard-hitting questions at Steven, so seriously, bring a pen and paper to this episode because you’re going to get some amazing tax strategies for 2020! How do you lower your income on your taxes if you have a W2? How do you add to your roth if you’re over the contribution income limit, and what’s the best way to get your kids to max out their retirement accounts (even if they’re only teenagers). Steven answers all these questions, plus a lot more! Whether you’re self employed or a W2 employee, you have options on contributing to retirement, AND options on leveraging those retirement accounts to fund investments. As always, it’s best to talk to your CPA, enrolled agent, or tax preparer on the best strategy that works for you. As Steven puts it, you need to have a plan for where your wealth is going and how you’re going to distribute it. Since 2020 was such a crazy year, many real estate investors are planning to double down on investments, up their contributions, or leave their W2 jobs. This all needs to be done with a plan and a strategy so you can maximize your investments and distributions. Steven helps spell out the best ways to do these (and more) through a number of different (and interesting) strategies. In This Episode We Cover The differences between joint and separate filings as a married couple How AGI (adjusted gross income) effects your taxes and retirement contributions How to max out your 401(k) to $57,000 UBIT (unrelated business income tax) and UDFI (unrelated debt financed income) How CPAs, Enrolled Agents, and Attorneys differ when preparing your taxes How to perform an IRA rollover into a different account How to put even more money into your Roth Setting up retirement accounts for your children Limiting your stock gains so you pay less tax And So Much More! Links from the Show BiggerPockets Money Facebook Group BiggerPockets Forums Finance Review Guest Onboarding How to Access Retirement Funds Early – Mad Fientist Check the full show notes here: https://www.biggerpockets.com/moneyshow163 Learn more about your ad choices. Visit megaphone.fm/adchoices

Welcome to the Bigger Pockets Money podcast, show number 163, where we interview Stephen Hamilton from Hamilton Tax and talk about the specifics of retirement accounts. It's a lot of fun and there's no specific right answer when we're planning. It's all about what's going to be best for your situation. Everybody comes and we say, what do I do? What do I do? Well, what are your goals? Where do you want to be? How do you foresee the future goal? You could win a lottery to change our entire plan in an instant. But where you could inherit. funds that you never expected to impair it. And it can change that situation altogether. Hello, hello, hello. My name is Mindy Jensen. And with me as always is my paying his fair share of taxes, co-host Scott Trench. I'm going to just defer to comment on that one. That was good. Scott and I are here to make financial independence less scary, less just for somebody

else to introduce you to every money story because we truly believe that financial freedom is attainable for everyone, no matter where or when you're starting. That's right. Whether you want to retire early and travel the world, go on to make big-time investments in assets like real estate, start your own business, or simply learn the ins and outs of pre- and post-tax retirement account contributions. We'll help you reach your financial goals and get money out of the way so you can launch yourself towards your dreams. Today is a super boring episode. Unless you're a financer. Unless you like saving money. Unless you like money. Unless you like making lots of money. Unless you're

you like your retirement accounts to be as fat as possible. And then it's going to be a super fun episode where you learn all the things about the Roth IRA, the backdoor Roth, the mega backdoor Roth, 401ks, how they transfer in and out, blah, blah, blah, blah, blah. Last week, we spoke with Brandon the Mad Scientist to get you interested in the concept and plant a seed. Today, we're speaking with Stephen Hamilton, who is an enrolled agent, which is someone who can represent taxpayers in front of the IRS for audits and collections, and appeals. And basically he is a super tax nerd.

And he comes in to share with you all the information that he knows. But he is not boring. I just call him a super tax nerd. I did call him a super tax nerd. I'm sorry. Do you think he's not a super tax nerd? I say that with a high level of admiration. I think he's highly informed.

He is highly informed to the level of being so obsessed. I think I wrote... I think I wrote the show notes while we were recording, like to mid-deal, like, this dude's a whole other level. As we're getting going with this. Anyways, I don't know how you listen to the Bigger Pockets Money podcast. Maybe you listen to it on your commute. Maybe you listen to it while you're working out.

Maybe you sit down and pay rapt attention to us on YouTube or whatever. This is one of those episodes where I would suggest that if, you know, you listen to it maybe once, twice. maybe sit down and just listen or pull out the YouTube and watch us live because we're going to go over a lot of stuff here. And this is not the kind of like slower pace that we sometimes take with the show where we ask more deep questions and try to really build that whole picture. We go rapid fire through pretty advanced topics. And we're not shying away from the jargon on this episode. We're calling things what they are called and using the abbreviations that they use in these professions.

So just I would pay crap attention to this episode because if you do, it could either save you a lot of money this year or it gets you to get the wheel spinning and the process started of saving a lot of money this year, build a lot of wealth downstream, or will be applicable to you downstream. And you should be thinking about these things even as you're working to get to the income levels where you can begin taking advantage of some of the things we talk about today. You know, Scott, I think that's a really good point. We do get into some pretty heavy jargon. So we have a transcript of all of our episodes, but I'm going to go through this transcript and make sure it is absolutely perfect. And while I'm going through the transcript, I'm also going to pull out all the little things that he talks about that maybe people who aren't in the know don't necessarily understand.

I'm going to make a dictionary glossary, glossary on BiggerPockets.com slash Money Show 163. So if you are thinking about this and you're like, oh, this is exciting, but I have no idea what they're talking about. Hop on over to the show notes and check them out because I really do want you to understand this. I was going to say 10 years ago, I wouldn't have, but I would have. I'm trying to think I'm so old. 30 years ago, I might not have understood any of this jargon either.

So I want you to understand it because you can really change the trajectory of your financial life by taking some of the advice that Stephen shares today. Yeah, these are big dollars that are at stake. by at least understanding these concepts and having a plan that works for you around them. There's not one size fits all, as we're going to discuss, but there's themes and there's awareness that you may lack about these things. I certainly did coming into today's conversation that I think are worth really paying some rapt attention to today. Oh, I learned a ton this episode.

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At this point, I've logged over 229 audiobook completions on Audible alone, and I still regularly re-listen to the highest impact titles. Lately, I've been listening to Bigger Liener Stronger for Fitness, the Anxious Generation for Parenting Perspective, and several Arthur Brooks' audiobooks that have been excellent for mental well-being. What makes Audible so powerful is its breadth. Beyond audiobooks, you also get Audible Originals, podcasts, and a massive back catalog across business, health, parenting, and more, all accessible in one app. If you're looking to turn everyday moments into real progress, Audible has been indispensable

for me over over 10 years. Kickstart your well-being journey with your first audiobook free when you sign up for a free 30-day trial at audible.com slash BP Money. Stephen Hamilton from Hamilton Tax. Welcome to the Bigger Puckets Money podcast. We're going to talk about some kind of boring ideas today, but I'm so excited to talk to you about it because this is not going to be a boring conversation at all.

Oh, unless you don't like money. And saving more of it. If you don't like money, why are you listening to a podcast called Bigger Pucketting Money? If you love taxes, this is not the episode for you. Yeah, if you look paying taxes. Well, it's a combination of both. because sometimes paying taxes can be a good thing now. I do want to pay my fair share,

but I also want to avoid anything that I legally can, which I think all Americans should do. I completely agree, completely and totally agree. But there are cases, for example, Roth IRAs, where sometimes I want to pay a little bit more in tax now rather than getting a tax deduction, so that way I can go ahead and fund that account and pull it out tax-free later.

So sometimes I do want to increase my tax-free. burning or maybe a conversion. Oh, what a great segue. Yeah. Let's jump right into it and start talking about Roth IRAs. So this is obviously following up a pretty strategic or higher level discussion we had last week with the Mad Scientist, Brandon the Matt Scientist. And so the goal today is to get to the specifics and answer the questions that our audience

and me and Mindy selfishly have about Roth IRAs and the specifics of all this kind of good stuff. So let's start off with the very basics. What Roth IRAs, you can't contribute to them if you make over a certain amount of money. If you do, you have to begin doing a backdoor Roth. So can you tell us what those contribution limits and income limits are? Sure. Let's get things off there. Definitely.

So I'm going to start with 2020 contributions. Yes, I know we're into 2021. However, we have until the due date of the tax return, April 15, to make our contributions to that IRA. So we may not know what our exact bottom line income was. So we will have a little bit of time in order to make those decisions and make those contributions. So for 2020, it was a $6,000 maximum contribution. However, if you're over the age of 50, there's a $1,000 additional contribution you can make for a total of $7,000. Now, that doesn't sound like a lot of money over time it can start to add up, but we want to make sure that we make as much in contributions as we can when we're eligible.

Now you ask about the income limits. I'm not going to go into the exact specifics in all of the income limits. because if you make X, I have to pro-rate it during over a phase-out. So I'm going to talk about the numbers in which it's completely phased out for a Roth IRA. In this case, you're going to be looking at for 2020, $206,000 for a married couple. So if you're over 206, you cannot make any type of Roth contribution directly. You'll have to go and go backdoor Roth, which we will talk about later. If you are a singular head of household, that's $139,000, which some people can get to,

pretty quickly. And if you're married filing separate, that limit is only $10,000. They do not reward you whatsoever if you're married filing separate. You can only make $10,000 in income if you are married and filing separately to contribute to a Roth IRA. Oh, well, okay, so I will be married filing jointly. I'm going to put in my personal question now. I have a job. My husband is retired but has blogging self-employment income. are we married filing jointly or are we single head of household? I'm going to tell you 99 times out of 100, and I'm being generous when I say only 99 times, you're going to want to file jointly. Any married couples pretty much going to want to file jointly.

Oh, so is that an option that I check married filing jointly or single head of household? So when you guys prepare your tax code, you're going to prepare joint versus second. We do this with all of our married clients. We want to look at the numbers to see what's going to be more beneficial. In some cases, in very specific circumstances, it can be more beneficial to file separately. However, most of the time you're going to want to file jointly. The tax brackets pretty much double in the very beginning. So if his income's way down here and yours is up here, you're going to average that out over those tax brackets. So that way you're not looking at as high of a tax burden. Because you might be in the 24% tax bracket by yourself,

but he might only be in the 10 or 12% bracket or 0% bracket is always possible. But I'm going to pull a number out just as a quick example for you guys. So for a married couple, the 22% bracket goes from 789 to about 168. I'm looking at 2019 numbers in front of me here. So it's gone up just a little bit. But for a single person, that 22% bracket caps at 84. So if let's say you were over $84,000, you would be looking at a 30, sorry, a 24% tax rate. But let's say combined you guys are at 120.

Well, that 120 would only put put you about midway into that 22% bracket. Ah, okay. So you're going to get an advantage of some of those lower rates with that. Now, when we're thinking about, let's say we're taking a married filing jointly example, and you're phased out completely at 206. but that doesn't mean that if you make $206,000 an income or on your W2, that your AGI is 206. Can you walk us through briefly how that AGI is calculated? That depends.

If we're talking about AGI, modified adjusted gross income, there's a bunch of different variations of modified adjusted gross income as well. The short version, we're going to take your income minus a specified list of adjustments. Now, those are going to be things like IRA contributions, HSA contributions. you know, if you have an alimony deduction, those types of items. It's a self-in-point health insurance. That was the big one I was forgetting. Those are going to end up adjusting into that calculation for your AGI.

Now, my favorite example is actually to pull up the 1040 with clients and show them exactly what it looks like. And here's your adjustments. And here's how this flows. And I like to show a year-over-year comparison. Since they changed the tax law, you're going to be looking at, What used to be a two-page form suddenly became a two-page form plus a whole pile of schedules that get attached to it, paperwork reduction act in its finest.

So that schedule one is going to show all of our additional income items and our adjustments. And those adjustments, we're looking at educator expenses, certain expenses for reservists, half of self-employment tax, self-employed health insurance deduction. student loan interest, IRA deduction, all of those will get incorporated into that calculation. And that's where we get into our adjusting gross income. So I include all of my gross income items, minus those, and I get my EGI. Let's simplify it because if you're self-employed or have a lot of business assets, that you probably have some good problems and you need to be talking to a CPA to, I think, file your taxes appropriately. This is something that I need personally, for example. But if you're a W-2 employee

or 95% or more of your incomes coming from your W-2 job. What's kind of like a simple way to think about it? Your income minus IRA contributions, minus HSA contributions. What about deductions? Your mortgage interest, et cetera, those are going to be deducted below the line. So you often hear above the line below the line. And that line is your adjusted gross income. Okay.

And a lot of those are based on a percentage of your income, or they're subject to additional limits. So it's not a simple one-word answer, but I'm going to jump back to what Mindy said about what about, you know, self-employed contributions to retirement accounts. A solo 401K would be another deduction. So we end up with a big difference between that W-2 employee and that self-employed person. And our planning is going to be completely different. I had somebody call me yesterday. They had a W-2 and nothing else.

What can I do for tax savings? Do you want the good news or do you want the bad? There's not a whole lot to work. with. I can't take a home office. I can't adjust items because they didn't have any income for me to offset it with. And it's great to have a great W-2 income. Take the money, bank it, save, do what you can. Look at your employer deductions, whatever pre-tax benefits you can take, or post-tax benefits, such as putting into a Roth 401K. Okay, well, let's talk about, let's say you're over that limit with your AGI. How would you kind of describe the mechanics of the

backdoor Roth and mega backdoor Roth and how they might apply to the W2 employee earning above that AGI limit. Great question, Scott. And sorry for not simplifying that other one there. That's all right. Some of them can't be simplified. That's what I keep saying. As far as being over that 206 limit for, say, a married couple, what will end up happening

is we will look at things that we can do to lower that W2 income. So maybe we make some traditional 401K contributions, or we make extra contributions into a flex spending, dependent care account, et cetera, in order to bring that taxable wage down. We do that first, but only to the extent that they're going to actually use those benefits. And then if you're still over that limit, then what we're going to do is that backdoor Roth. If we can, there's cases where we may run into a situation where I don't want to do a backdoor Roth. And I'll explain what that really entails. If you go from one employer to another and you take your old 401k and shove it into an IRA, we will run into proration rules for converting those funds from

traditional to Roth. So I will end up in a position where I may not be able to do that backdoor Roth without incurring a tax burden. I can make non-deductible contributions into my traditional IRA. Yes, I'm putting post-tax dollars into my traditional IRA. Later on when I pull that out, whether it's going to a conversion or coming out to me directly, I end up having to prorate my pre-tax dollars and my post-tax dollars over that total balance. So I'm going to use a simple example. If I have $95,000 in a traditional IRA of all pre-tax dollars, and then I contribute $5,000 of post-tax dollars that are non-deductible into that IRA.

I now have 5%, that is, post-tax. So if I were to take that full $100,000 and either withdraw it to be directly or convert it into a Roth, into a Roth IRA, I would be looking at a tax bill on that pre-tax percentage. However, every dollar that comes out, 95% of it is going to be pre-tax. 5% is going to be post-tax. And that's of every dollar that comes out. Is there any way around that rule? Because that sounds no?

Come on. Come on. Give me some ideas. Here's a problem. There's a second 401K. Like, you know, with a... There are some ways that we can get slightly around that. And the biggest one that I use is I have my client's rule that

traditional IRA into their company's 401k where possible. Or if we have a form of self-employment, we may open up a solo 401k account. So now the balance in that IRA, we no longer have any pre-tax dollars in it. And then after I do that, I make my contribution into that traditional of non-deductible dollars, and then I can convert it. Great. So if I have a simple position where I've got a 401k at work, then I just open a traditional, another IRA, and I can begin doing that. Clockwork all day long. Okay, great. So it sounds like it's a pretty workable solution for most people, unless you have a lot of different accounts

or want for some reason to contribute those post-tax dollars to an existing 401K with the tax-deferred dollars. That's exactly it. And I'm actually going to bring up something while we're on that conversion proration. A lot of people don't realize that you can put additional dollars into your pre-tax 401K. You can actually put after-tax dollars into that 401k account. And there's a plan we talk about the backdoor Roth. There's also what's called a mega backdoor Roth. Our contribution limit to a 401K for last year was about $57,000.

Well, if I take my 19-5 match and then my employer matches, let's say, five grand into there, I can then take that remaining portion and make after-tax 401 contributions. So I won't get a deduction for that extra dollar that I'm putting into my traditional account. And I end up with that same kind of proration. However, if I am closing out that account or rolling it all over, I can choose to roll just those post-tax dollars into a Roth 401k. Or if I'm leaving the employer into a Roth IRA, But that has to be done at the time that I'm leaving that employer or pulling all of those funds out.

Okay. Can you clarify the $57,000 contribution limit that you just mentioned? Because I know what you're talking about, but I know there's people who are like, no, it's 19. Okay. So there's different parts of your 401K contribution limit. And there's elective deferrals. And then there's room for matching contributions. That total limit last year was $57,000. Now, $19,500 of it was elective deferrals, which I as the employee can choose to make into my retirement account. My company can then provide matching contributions. So if I earn $500,000 a year and my company matches 5%, well, that's an extra $25,000 that's going to get matched into that account as a profit sharing contribution. That's great. I'm almost at that $57,000 limit. But let's say I earn a million dollars and they put in 5% of my salary.

Once I hit that 57,000 total contributions, I'm cut off. Now my employer's contributions are going to go to traditional. Go ahead, Mindy. Sorry. No, no, no. I was going to say with the after tax is now confusing as well. But continue your, don't let me interrupt you. This is your show.

Oh, you're great. So let's say I earn $100,000 a year. And I take that 195 elective deferral and I put it right into my traditional 401K. or maybe my Roth 401K. Either one. Doesn't matter. My company matches 5%. Well, 5% of my $100,000,

they put into there in a traditional contribution. So now I either have 24-5 traditional or I have 5 traditional and 195 Roth or any proration that you might choose to contribute. Some people do 50-50, 75, 25. It doesn't matter. I have the ability,

depending on your employer, Some don't allow this. You have to check the plan, but you can put in your own dollars and say, I want to make excess contributions to that account until I get to that limit. So a combination of my contributions to my 401K, my company's contributions match to my 401K, and anything after tax can't total more than 57,000 for last year. That's correct.

The combination of all of those cannot exceed that 57. Okay, let's say I put my after-tax dollars in there. Does the same pro-Rata rule apply to my after-tax 401k dollars as my after-tax IRA dollars? It can. It definitely can. And that's why we have to be very careful about how we're putting those in or when we're putting those in. And when we roll up here, we want to make sure that we split those balances. appropriately. We often do what's called an in-service rollover, so I'll put that money into the

traditional and then roll it right over to the Roth. It seems to me that a way to simplify this, if someone hasn't set anything else up, I have my 401k at the company. Let's pretend it's all in the 401k post a pre-tax. I'm sorry. And I have my maxed out contribution plus a match. I'm at that 24-5 as $100,000 income in play. If I want to put the remaining, what, 23,000, or so, however much we need to get to 57,000. What is that, 30? 33,000? About 30, yeah.

Yeah. I should just, I probably shouldn't do that in my 401k. I should probably open up a separate post-tax IRA where I'm only going to contribute post-tax dollars if I want to do a mega backdoor Roth. Is that right? Can, but you could also simplify by keeping it in that 401K. I want to put $6,000 extra into my 401k account. And then I can convert that.

over in service while I'm still working for the employer, I can move those after-tax dollars and just those after-tax dollars if I want into that Roth. So I can contribute it, then convert it right away, just like I would convert from a traditional IRA to a Roth. Now, you're asking why I might want to do that. There's a big reason I might want to do that. Later on, if I know I'm planning to leave my employer and I'm going to go 100% self-employed, I may want to open up a solo 401K for myself. I can roll that Roth 401k and that traditional portion into their own components later on. And by doing that, I will actually be able to invest in things without tax that I may not have been able to do before. So we're without incurring tax. So if I'm in a Roth account, Roth 401K,

if I invest in a syndication, I'm not going to be subject to any taxes such as Ubit or a debt finance tax, UDFI, inside of that account. If I did that in a Roth IRA, I would be subject to those taxes. Now, I didn't explain what Ubit and UDFI are here, but I'm going to do that right now for you guys. Ubit is unrelated business taxable income. That means if I am operating a business,

or I am investing in a way that is not the typical manner, I will end up with tax on that income in that retirement account. It's a way to level the playing field from everybody just opening up businesses inside of their retirement accounts. Now, UDFI is unrelated debt financed income. Almost every syndication is debt financed. So if it's 70% debt finance, 70% of my net profit could end up being taxed inside that IRA. So we look at that plan for trying to keep funds in a 401k wherever possible because there's a small little rule.

And that little rule says that there is no Ubit or UDFI, so we're not going to have with any tax on real estate transactions inside of that retirement account. So this is why it's very, very important to, one, get qualified help. And two, talk to your accountant before you make a move. there's nothing worse than being a Monday morning quarterback. I just rolled this all over. And once it's in a Roth IRA, I can't move it out of a Roth IRA. Okay, you're reading my mind because that was going to be my next question is we've just dropped a ton of information that could be relevant to somebody, could not be relevant to others. Who is the person that I want to talk to to get the proper information?

because I know you're an enrolled agent, which is, I wrote it down because I don't even know. I wrote it down. No, more good. You're good. I'll do a quick explanation for you. There are three people that can represent you in front of the IRS, a CPA, an enrolled agent, and an attorney. So CPA is a certified public accountant. They're licensed by each individual state.

They can sign off on a financial statement. we don't sign off on financial statements, but we are licensed nationally. So I don't have a jurisdiction issue. If I move to Florida or I move to Texas, I don't have any issues with licensing. I can just open up shop, operate from there however I want. That's why we have clients in all 50 states. I can hop into any state, work with someone or partner with someone without any problems. And then your attorneys.

CPA enrolled agent attorney. By all right, we all have the same representation rights with the internal rights. revenue service. So I have 25 to 50 open audit cases with the IRS at any given time. We do more representation work in one year than the average CPA does in their career. Wow. So what I'm gathering here is that you specialize in certain types of accounting and finance but are not limited to specific states with this designation. Is that correct? That's correct. So I like to explain this way. The CPA designation is an inch deep and a mile wide. You have people that specialize in different areas. Some might work as a CFO. Some I have CPAs that are clients

because they don't do tax. So make sure that the person you're talking to specializes in tax. We, on the other hand, as enrolled agents, what we focus on is tax, less accounting, more tax. So we're that inch wide and mile deep. Okay, got it. So let's talk about, so if I'm a W2 employee and I'm approaching some of these limits for these types of things, you're thinking about moving into business in general, what would you kind of say is it, besides talk to a CPA or an enrolled agent or a professional about this? Is there a person I should talk to? I think I know what you're trying to ask and I'll kind of jump into it a little bit more. Now that I explain what an enrolled agent is, because a lot of people don't know.

and we get called CPA all the time, and even if I correct them, it still comes up. So what you're aiming at here is, who am I going to talk to about this specific topic to get more information? And in reality, you're going to talk to either an investment broker who probably isn't necessarily going to steer you towards a self-directed retirement account

because they want to collect fees. Your accountant may or may not know any of this. I teach a class on these topics and two other accountants. And it's a very convoluted topic and very specialized when we're getting into self-directed retirement accounts. You may get some information from a nonprofit accountant, but ultimately at the end of the day, I'm going to be honest with you, you're going to run into needing to talk to somebody who knows what they're talking about.

Now, as you know, I've been very, very active on bigger pockets. We have a couple of specialists that are on there. I'm not going to mention names. I don't know if I'm allowed to do that or not here. But there's a couple of specialists on there who I can definitely recommend to talk to. But if you want to talk about the tax strategy side, I'm the only one of my friends that I know that specializes in this to this extent. So it's a whole other world.

It's a whole other world than the average 1040. Oh, I love it here. So let's talk about some other specific cases. here and questions from the audience. So one of the big things that we've come across, and some of our finance reviews and those types of things, are about borrowing from your 401K or Roth and those types of things. And while in general, Mindy and I, I think,

are really comfortable with the strategy of like, don't do that if you're going to finance a long-term investment with a short-term loan in any form, regardless of whether that's from your 401K or home equity line of credit or whatever. But can you walk us through the specifics of where you see that being a really valuable case, a really valuable use and where it might not apply? I can. I'm going to start with it.

If it doesn't make dollars, it doesn't make sense. Okay, I think I just quoted ludicrous there, but that's a whole other story. Nice. I use it all the time because when we make our decisions, what's our risk, what's our reward? And we have to really look at what are the odds of this being successful? I can't borrow from an IRA. I can do one role over a year that's indirect, and that's every 12 months. So I can take those funds out, and within 60 days, I have to put it into another IRA account.

So that gives me a very tight timeline to finance something, or to invest it in a business or anything that might turn over. That's not enough time necessarily to do a flip. There's no guarantee it will close. So with your 401K, though, you can take a loan of 50% of the balance up to $50,000. And I can stretch that out typically over about a five-year period. And I'm paying that interest right back into my retirement account. So I'd pick the 401K is superior over the IRA until I get further in years, in which case I'm going to roll those over for retirement purposes. But my initial goal is really going to be to try to find something that's going to be to try to find something that's going to

be worthwhile in that timeframe. If I can borrow it at 5% from my retirement account and make that investment happen, I may want to consider otherwise maybe I should make that investment with my retirement account or inside of it. That's always a possibility too. But facts and circumstances are really going to garner that. As far as some successful options, I have a client, he borrowed $50,000 from his 401k plan, and he just lends it to people that are building tiny homes. Yeah, there wins repeat. 14% interest rate. See, I like that because I think that fits in with the philosophy that Mindy and I have around that.

It's like it's a short-term loan that you're barring and you're just arbitraging a interest rate. You're getting a high rate of interest to finance those types of things. And I bet you, you know, you tell me, but I bet you that your client could find other sources of liquidity to repay that loan in the event that one of his tiny home builders or she defaults on that payment. In that specific situation, yes, they're doing pretty well. They also do some other lending out of their 401k account, sole 401k account. Yeah, that's the problem with this is I feel like borrowing from the 401K, in a lot of the cases that I understand to be successful, is when you don't need the money, but you're using it to kind of juice some of your returns in general,

rather than that's the key, you have no other source of liquidity to get access to. I will agree to a certain point. There's also the side of it. Maybe I need some extra cash on my end. And I'm trying to use those returns to help fund my next down payment. So that's a reason why I might borrow it. So I have that income outside of that retirement account. And that's, it's not a perfect solution, but it's a solution.

Some people are 401K heavy and they don't have, they don't have a whole lot of cash liquidity. And that can be a problem if you have too much in your retirement accounts and not enough. access to cash. So you really have to be very careful about it. Some people, especially younger interview, Roth, Roth, Roth, Roth. That's great. But if you're in a position later on and you want to make some donations, well, I might want some traditional funds to do that with. And let that be pre-tax. Get an deduction now for it. Let it, you know, 10x later on and then contribute that 10x tax-free to that organization. On my end, though, I know a big thing that we talk about with financial independence movement is conversion ladders, the Roth conversion ladder.

I know you guys had talked about that a little bit pre-show with me, but that Roth conversion ladder can be really great. And what we do is in those lower income years, we convert from traditional to a Roth IRA because prior to retirement, I can pull out my Roth contributions and they're not subject to penalty. They're not subject to tax. There's an ordering limit for that Roth IRA for when I take out my contributions or take out any funds. First, it comes out of my contributions, then it comes out of earnings. And if I pull out of earnings before 59 and a half, I'm going to be subject to that 10% penalty. And it's going to be taxable. Now, a big common question that I get is about that five-year seasoning. Yes, funds need a season for five years inside of a Roth IRA

in order for them to be considered Roth funds in post-tax. Well, if I'm 59 years old and I just start contributing to a Roth IRA for the first time at that point, I will still need those funds to season for five years. That account has to be five years old in order for me to get that Roth treatment. Can I borrow from the principal in my Roth and then repay it back? Only in that 60-day scenario that I mentioned before, and you can only do that about once every 12 months. Okay, and that's my Roth IRA. Okay, because I have used the 401K loan. I have self-directed income, I'm sorry, self-employment income, so I have a self-directed 401K. And I have borrowed from that, actually my husband and I both do. So we borrowed 50 from each account when we bought our most recent

house. I didn't want to invest in this house with my 401K because then I couldn't live here. And I do the live-in flip. So we borrowed the money and then we refinanced into a mortgage and paid it back. That's an example of a situation where it might be worthwhile. And in addition to that, if you're borrowing from your 401k for primary residence, there's actually an increased payback time frame in some plans of up to 10 years. Oh. So instead of that normal 5 years, sometimes it might be up to 10. Oh, that's good to know. Tax season is one of the only times all year when most people actually look at their full financial picture, including income, spending, savings, investments, the whole thing. And if you're like most folks, it can be a little eye-opening. That's why I like Monarch.

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The best of the best stories now with even more from Hulu. Amazing. Have it all with 3. Disney Plus. Okay. So you mentioned the backdoor Roth and the mega backdoor Roth, but I didn't hear what the difference was. Okay.

The mega backdoor Roth is a strategy we use with your 401K plan. The backdoor Roth is what we use for our IRA. Okay. Okay. The mega backdoor has a higher limit that I can lower. I can effectively put almost up to $57,000 into a Roth account in that year if I use that strategy fully. And can I do that every single year if I had the funds?

At any income level. Every year, every income moment. Oh. Okay, so we're recording this in January. Can I, do I have until April 15th to make these contributions for last year's account? Yep. Oh. Oh.

Oh, because I had a lot, a lot of real estate income. last year. Oh, Scott, does our plan allow it? After tax contributions? I have not personally done a mega backdoor Roth, so I don't know.

You can ask me after the show and we can either look at the plan together or what we can do is we can talk to your provider about it. I don't know who helps set up your plan, but... Scott? I wasn't looking at that

when I set up the plan, so, you know, I don't know. I don't do this for a living. All right. Moving on from Mega Backdoor Roth. Can we just go back to basics for a second here? What is a Roth 401K and the difference between a Roth 401K,

a Roth IRA and a 401K there, if any? Do you want the short and quick version? Because I can give that to you very easy. That sounds great. It's just like your Roth IRA, but with the higher income limits or higher contribution limits, with no income limit. Is it typically only available to someone through their employer?

That's correct. Okay. That's correct. So it's going to be your 401K but post-tax contributions. That's it. It's basically, does your employer offer a Roth 401K option? If so, fantastic news. You now have the option to contribute 195 to your Roth instead of 6,000.

Correct. Now keep in mind that 195 elective deferral is between traditional and Roth combined. So sometimes we'll split that difference in between them. half Roth, half traditional, or maybe 75, 25, and we can adjust that percentage, even year over year, or change it throughout the year. Okay, so you're saying I can't contribute 195 pre-tax and then 195 post-tax. Into the raw, correctly. But what you can do is that 19-5 pre-tax and then make your after-tax contributions into that traditional IRA bucket, or traditional 401K bucket, sorry.

Okay, so I'm going to make after-tax to my... 401k and then my traditional 401k and then I'm going to immediately pull that out and put it into my Roth IRA. Into your Roth 401k. Oh, so I can't take 401K and put it into IRA. You can, but there's limits on when you can do that. Okay, so then I need to start. Now, I have a self-directed solo 401K. Can I do a self-directed solo Roth 401K?

Wow, that's a mouthful. That will depend on your plan. So I like to look at it this way. We have a traditional in a Roth IRA, but then we have a traditional or Roth 401K. And they operate exactly the same function. You're often in traditional IRAs function that way. You're Roth and traditional 401Ks operate that same way up here. And I don't have a flexibility.

But once funds end up in a Roth IRA, I cannot roll them over. Out of curiosity, can I share my screen on here with you guys real quick? I might have to give you permission, but go ahead and try. I want to show you guys a rollover chart here. It is disabled. I want to show you the IRS's roll over chart for where we can move funds. All right. So here is our rollover chart directly from the IRS.

This sums up where we're rolling from and where we can roll two. So one of the things I want to point out is in this top row. If I have money in a Roth IRA, so that's this column right here, the first one on the left, I can contribute to a Roth IRA or roll that to a Roth IRA. IRA, but I can't move it to a traditional or a simple or a set or 457 or even a designated Roth 401k. I can't roll that anywhere except into another Roth IRA. Now on the other side there, if I go to the my very bottom, I'll see a designated Roth

account. I can roll that from a Roth account to a Roth IRA, but not a traditional, simple, or CEP, or 457, et cetera. But I can roll it over into this last one here, the another designate. designated Roth account. So I can move Roth 401k to Roth 401k, but only in the case of a direct trustee to trustee transfer. So I have to move it from that account to another account, and I can't touch it. Now, this is where we start to get into some complex items where we have to talk about it. We have to plan and make sure that we're not going to accidentally violate these

rules. But I'm going to jump into our second category on this chart. Can I just interrupt for one second here. Go ahead. What would be a situation where I'd want to move money out of a Roth and back into a pre-tax account? I can't. But what would be a situation in which I would desire to do that? The only desire I can think about that would be if I'm going to incur or want to have some income at some point in time. And when we want to have income would be items such as charitable donations that we can use on a pre-tax basis. So a lot of my clients who have very heavily funded Roth accounts will go back and put funds into the traditional account

just so later on when they know that they get towards retirement, I don't feel like taking that check, but I want to leave that over to charity. Okay. So, yeah, so we're just talking about the concept of flexibility with this, but it seems to me that the goal, in a general sense, with limited specific exceptions, is to get as much money into the Roth IRA in the end state as possible.

Theoretically, yes. Yeah. Okay. Theoretically, yes. 99% of the time we're going to want those Roth funds. Now, there's going to be situations, though, as we run into contribution limits or higher earning years where I'm going to want to put into a traditional so I can lower my tax burden.

Yes. So let's say right at the cusp of a threshold. I may want to put into a traditional, IRA or 401k in order to get below a phase-out. Like, say, the education credit phase-out. Yeah, so if you're in a high-income tax bracket, then you want to defer the taxes, yes. But ultimately, I'm just saying, if you're listening to this and you're watching this and you're not, and you're like, oh, shoot, I've already put a lot of money into the Roth IRA. You haven't really, like, hosed yourself or talking anything wrong.

You just could, you could be maximizing a larger opportunity if you're taking it all into the traditional. IRA or the 401K, you know, one of these pre-tax accounts, because you have more flexibility and can do more with that. But it's not bad to have the money in a Roth. It's like a small percentage difference that will be difficult to calculate in terms of opportunity. That's correct. And the reason why we want to look at this plan has more to do with our options. So the reason I like that Roth 401K account so much is because if I decide, want to self-direct it later on, I don't ever have to worry about tax on real estate transactions. That's probably the biggest one, the biggest frustration that my clients end up having is they

come to me and I have all this money in a Roth IRA and I want to invest it in a syndication. You're going to end up with a tax bill on it. And then they're upset and can't I move it anywhere? Well, unfortunately, no, I can't move it anywhere. Got it. So, okay. So that I think is the biggest, it sounds like there's a case to have a subsistingingual. substantial amount in the pre-tax IRA, but also be thinking about strategically, how do I at the end

state shift that into the Roth, ultimately whenever I want to withdraw it, if I can. Absolutely. I would rather keep it in a 401k as long as possible until we start doing, say, our Roth conversion ladder. At that point in time, that's where I will really want to make those adjustments. But a 401k plan is far superior to an IRA at first, when you're working or if you don't know what you plan to invest it in later on. You know, here's an interesting one, a case where this could, if you're listening and you're into real estate at all, suppose you have high income earning W2 or whatever and you have, you don't really have much you can do about shielding your, your income from taxes, besides

the 401k. You put all this money into a 401k or a tax deferred retirement plan, and then you retire a few years later and you begin in investing in syndications after tax. Syndications after tax, well, let's say you get real estate license that has a lot. hypothetically. And you're now a real estate professional. You've retired from W2 and you begin investing in syndications. Can I use that syndication loss? A lot of these syndications lose money in the first years. They incur transaction fees or whatever to maybe have negative income in one year, transition my 401k over to Roth to a certain extent, and then use the remaining funds to invest in other syndications where I don't incur that long-term tax. I will incur, of course, tax in this

education ultimately over the whole period if they do well. And if you're in a low-income tax bracket later on, I'm not worried about. Great. Okay. Just personally curious. It's a lot of fun and there's no specific right answer when we're planning. It's all about what's going to be best for your situation. Everybody comes and they say, what do I do? What do I do? Well, what are your goals? Where do you want to be? How do you foresee the future goal? You can win a lottery to change our entire plan in an instant.

but we could inherit funds that you never expected to inherit. And it can change that situation altogether. I am inclined who would inherit in about $2 million in an IRA. Well, now she has to distribute it out within the next 10 years. Well, when she has that nice, lovely tax bill for that traditional account, it's going to hurt. So we've had to plan our distributions. Well, then she got a nice, lovely new job with lovely stock options. So now she's in an higher bracket than you plan.

and getting limited on what we can do at that point as far as shielding or sheltering income. It sounds like the goal is not necessarily, if you're in a high-income tax bracket, to still contribute to a Roth then. It seems like there's just so much more advantage from what you're saying here. It for maybe, and it's probably like a moving target, but maybe like 70, 80% of folks in that higher income threshold to really just go with the 401. rather than the Roth. Actually, I find that more contributing to the Roth.

They're steady set up in that earning limit, and they're going to be there for a lot. I'm going to give you guys a story, and I'm sorry for going off on a tangent here, but I have a client who rolled over about $328,000 at the end of 2012. That $328,000 is now worth about $2.2. and we converted that from a traditional 401k to a Roth 401K.

Now, he was in the higher tax brackets. He paid about $143,000 in federal income taxes that year. So he's turned that into 2.2. So let's say hypothetically, I did that same thing in traditional or Roth account. When I withdraw that 2.2 from a traditional account, and let's say I'm in the 20% tax or 22% tax bracket. That's going to be about 440 in income tax that I'm going to pay as I withdraw that in that bracket. 440. Let's look at the other side there. If I pull those funds out of a Roth account, I'm going to incur zero tax. So he wrote a check for $143,000. So he never had to write a check

on those funds again. And that's why the emphasis on Roth is so important. And by the way, he still has another, more than a decade until he's 59.5. Well, I guess the fundamental question I'm trying to get at here is like, I'm sitting here and I'm listening to this podcast and I'm asking myself, should I be contributing to my Roth, IRA, my Roth 401K, or my 401K? And so in that situation, if you can contribute to Roth, I would be Roth first. Okay, that's awesome to hear it.

because I was kind of thinking the other thing, the other way based on what we're talking about with all the flexibility you've got with the 401K. Well, keep in mind. When I say Roth, it could be a Roth 401K or a Roth IRA. I would rather funds be in a Roth 401K because I can later move it to a Roth IRA or I can move it to a self-directed 401k later on.

So my goal being that I can move those funds and invest how I see fit. That's why I try to avoid the direct step into that Roth IRA until we're really looking at things like that conversion lab. Yes, because for, for example, this fellow you just mentioned with the 300 or so who wrote the $443,000 check, if he had just contributed that to a Roth and apples to apples, it's not always apples to apples with that. But if that had just already been in the Roth, he would have had the same effect, maybe paid even less taxes, because he would have contributed some of that in a lower income years prior to that buildup, right?

So it would have been better to just have it in the Roth to begin with than to have rolled it over and paid the check. Is that fair? That is correct. Okay. That's what I'm just trying to, I'm trying to get to fundamentally, all this boils down to it's like, I have extra cash, do I put it into the Roth, I put it to the 401k, and then how do I put more into that into it in if I have that extra cash available and to what extent do I do that? Now, some people are going to rely, depending on cash flow, they're going to rely on that immediate tax benefit. And I like to use those traditional contributions to a traditional 401k or traditional IRA is a tax planning measure more than anything. So I can maneuver myself into certain income limits or thresholds or phase-outs.

But I'd rather Roth all day long. Okay. And you'd rather Roth, even with the caveat that you really can't invest in some of those real estate things through their IRA without incurring Ubit or the... Correct. And that's where if you're self-employed, I would be trying to put that into that Roth 401. Okay. Love it. Okay. So, you know, and that's true kind of gize with what I've personally been doing. So maybe I got lucky rather than, maybe I was lucky rather than smart because personally, I have a Roth IRA, Roth 401k through our employer, bigger pockets. And I have the 401k option. And in spite of being in a relatively high tax bracket, I still just dump all of the money into the Roth 401k and have for a long time because I've personally feel that even though I'm in a high tax bracket today. day, I'll be in a high tax bracket tomorrow and next year or the year after. And perhaps if I

am arrogant enough to think so, I'll be in a high tax bracket at the time when I reach traditional retirement age. And it just seems like, and for me, it seems like that's, it's a safe bet to assume that tax brackets will be high and my asset base will grow enough to keep me in that high tax bracket long term and that they'll probably go up one day. And that's exactly. And there's no crystal wall. We can't see the future and know exactly what it's going to look like. trust me, if I could, I would. But what we can do is we can plan for today. We can plan what we anticipate our income to look like next year.

If you're going to be in a higher income this year, substantially higher than next year. I might say, you know what, let's contribute to traditional this year and roll it over next year when you're going to be in slightly lower tax credit. Yep. That's the exception where I would plan on. If I have a one-off year with a slightly higher bonus

and I know the next year is already going to drop, I will plan on that. Okay, let me ask you this. So I've got money in a Roth 401k or a Roth IRA, and I eventually leave the workforce and build a self-directed plan or something like that. You mentioned that real estate in some businesses you can't invest through the Roth IRA to avoid taxes with that. What are some great alternative investments that you can do with a Roth IRA that you've seen effectively applied besides maybe just stocks? Hard money lending is going to be one of the big ones, private lending. you can invest in different joint ventures.

Really, the sky is the limit on it, as far as what we can do. The big key is just avoiding things that are specifically active. I don't want to actively flip in my retirement account because then I'm going to be subject to those taxes. I don't want to debt finance a rental in that retirement account if I can avoid it, because I will end up with a tax bill on that prorated percentage. So that's really where that planning side is going to be a little bit more convoluted confusing as far as how those numbers are going to end. Okay, great. So what I'm hearing, I'm an employee right now listening to this,

which I think is going to be many of the folks listening. And I've got a Roth or a 401k option, and I'm going to, you know, it will vary depending on the year, which one I'm going to contribute to more. But in general, I'm going to favor the Roth. And one day, when I'm not no longer doing that through my employer plan, I will have all of these other options potentially to invest those funds through. I usually can't do that through my employer plan, is that right? That's correct. Now, with the employer plan, do you see any specific things that I can do with the money wallets in my employer plan? In the meantime, or is that pretty, is it really that limited? It can be that limited. It depends on also dollar threshold. Sometimes you might be at a dollar

threshold where it might open up more investment options. I do have some clients, their 401 plan is actually actively managed by their broker. And they've just chosen to invest it that way and have somebody manage it for them. But not every plan offers that ability. So it's really going to be employer dependent. Okay. So last week we spoke with the mad scientist, and he has an unbelievable article about accessing your retirement funds early.

We talked to him way back on episode 18 about how to access your funds early. And a quick recap is the Roth conversion ladder, which we've talked about a little bit, the 72T substantially equal periodic payments or even just paying the 10% penalty. Do you, Stephen Hamilton, as Mr. Tax, have any additional ideas for accessing retirement funds prior to age 59 and a half? In reality, there aren't any other ways that we can specifically access those for our personal use. and we're going to run to that headache over and over again. These are our major options.

And when we plan those out, we want to plan gracefully because we could end up actually costing ourselves more accidentally. If you come to me in December and say, you know, I'm thinking about withdrawing or pulling these funds out, well, I would have told you let's look at the numbers and possibly pro-rate over two years. And then even if you have a tendency to some penalty, it's going to put you in a position where you're not going to end up all in one tax bracket,

or maybe some of it's spread out over two different tax brackets. Okay. Planning is all of those. Kind of hoping for some amazing other offer that you just have. Unfortunately. Well, let's move on to kids. So, you know, one of the challenges here, and not, you know, this is, I think you have to, some parents will have different philosophies on this, whether they want to give to their kids or not.

but supposing that you do want to build a lot of wealth for your child early in life, how can I use retirement to do that? I believe you have to have income to contribute to a Roth, but you mentioned something about maybe not earlier. You're correct. They do have to have some type of earned income in order to contribute to that Roth. And that's really going to be dependent on what activities they're doing. I have clients who are in the marketing business or in the real estate business,

and they use their kids to help them paint, help them cut grass. He goes to the property to do maintenance. He has the kid cut the grass while he's, you know, changing out a faucet or, you know, a door handle, et cetera. And he pays the kid for that actual work. Or I have clients who they've used their kids in marketing materials and they pay them a small licensing fee for it.

You have to document activity actually done by the child and pay a reasonable wage for that work. Or let's say they start umpiring baseball and so. offball, babysitting, cutting grass in the neighborhood. That's earned income. When that case, self-complicated income for a lot of those, but they're going to be able to use that earned income in order to contribute to a traditional or a Roth IRA. More than likely we're going to want to use a Roth IRA with how long their tax practice because that gives them access to pull those funds out later on. What's the extent of this? Like, for example, can I pay my newborn baby $5,000

for marketing because I photographed them and post them to my company's Instagram? page, you know, to get to that income limit. What have you seen as kind of like the extent to which this is deployed? I'm going to jump in here because I want to quote Stephen just a moment ago. He said you have to pay them a reasonable wage. And how I have seen that mentioned or reference in the past is, would you pay somebody else $5,000 to do that same job? Correct.

That's exactly the way to put it. Would you pay somebody else that amount for that? job. But my baby is definitely cuter than all those other babies, which makes them... Sorry, I'm getting going. You don't even have a baby. I know. Everything's negotiable. Everything's negotiable.

I've seen situations where children have been paid per view, or per thousand views. And that's what their contract states. The more exposure, the higher the compensation. Things like a royalty. How do you choose to negotiate it? Ooh, nice.

So my kids are older. They're not, they were darling babies and I should have gotten them into modeling, but I didn't. They are older now and they do pet sitting for friends. And my friends, like my kids, I don't want pets. I don't have time for pets. I got bit as a child by a dog. I don't want to have pets. And please don't email me at Scott at biggerpockets.com to tell me why pets will change my life.

I don't want pets. But my children are in love with animals. They want all the pets. And I'm like, when you're 18 and you move out, you can have all the pets you want. But we have a lot of friends who have pets who also travel. So when they're traveling, my kids will watch their animals. We were doing it for free, but then people would leave them money. And over, when was it?

Last year, they were doing three different dogs and had $10 a day. That's $30 a day. Times 10, they've got $300. Times, you know, every single holiday and walking dogs for people. people who are at work and on and on and on, they could have quite a bit of income. Yes, they can. That's earned income.

Yes, it is, and it's taxable. And all too many people choose to not file a tax return on it, which technically is incorrect. Okay. Oh, so we've got like 50 questions in this. And it costs you money because it costs you wealth long term because you can't use that to put into a Roth. Dingo.

I'm going to jump into that. I want to jump into that. If you earn over $4.4. $435 of self-employment income is reportable. Then some state that's filing requirements. So I'm going to use the federal filing requirement, which is about $12,000. And then we have a state filing requirement.

For example, I'm in Illinois. Our filing requirement is about $2,000. If you have over $2,000 of income, you have to file a tax return. So just because the fed's one thing, the state might be another. Now, in cases where I may want to do that, I am going to want to report that income for that child

so I can show that it was our income so I can fund that Roth IRA. Even if they pay a tiny little bit of state tax, it's worth it for me because of that long-term growth. You can contribute that $6,000 into that Roth IRA year over year, run it into retirement calculator and see what it's going to look like by the time their retirement age. Or you can even look at what's it going to be by the time that they're 40. And they will have that principle that they can pull out in case of an emergency if they need a house, or a car or whatever it might be. And they could use that as down payment money by the time that they're 19 out of the house.

Okay. I'm going to throw some things at you now. And I'm not trying to get around my legal obligations. Do I want to create an LLC? I do have two kids and they're going to be not necessarily 50-50 on the animals. Do I want to make an LLC for them so they are officially earning income? Can I be honest with you? you don't need the LLC in order to report it.

Okay. You know, I decide to start washing windows. That's a business. It's just a sole proprietorship. So, but if they're engaged in it together, advertising it together, et cetera, that would be considered a partnership, which would not necessarily need an LLC to be a partnership. It's just a general partnership.

And then you could get an EIN number, report it. Ultimately, at the end of the day, if they each pick and choose their own jobs, I would just report it on a Schedule C for each of them, if that's the case. But if they decide to start marketing this business together, then it becomes an actual partnership. Okay. And then do they have to give 1099s to the people that are paying them? No. If they start, there's some businesses that might have like an office cat or something like that.

If they're going to be gone for the week, they may have somebody come in to pay them. That business would issue them a 1099. They don't have to give them a 99 to the person that's paying them. I think if the issue get $10.99s as well if the amount is over a certain threshold, right? That's correct. Over $600 for services. Yeah. So do we want to submit invoices to our clients? Or we can just say, hey, they...

If it's over $600, maybe, but maybe not. You can choose to. You don't have to. Okay. By all right, it could just be a handshake agreement. They write your check and go. Do they need to pay us in checks, or can we take? take cash. Deposit it all into the business account. That's number one. Oh, okay. That was going to be my next question. Do I need to deposit into a business account?

Cash, check, charge, whatever. Good record keeping is key. A log or a business checking account and go from there. That's all that matters. Okay. Now, as the mom who has more money than they do, and understanding that they are going to work for this money and then find it really awful to have to put that all into a Roth IRA, can I gift them money that makes up the fact that they didn't get the money because they didn't get the money because they had to put it in the IRA. That's correct. You can do that up to that $15,000 threshold for the annual gift exclusion. Do I have to keep any records of the gift?

Write a check to their account and be done and just listed as a gift or on the transfer label as a gift. So you have it for your records. So what if I've got a kid who is like, to spend the money and is not very amenable to the Roth stuff. Can I have them earn income five, five, six thousand bucks? And then just gift them six thousand bucks as well on top of that so that they're able to move to the Roth IRA. That's not feeling like that. Okay. That was exactly what she was just asking.

Yeah. Okay. Because that's my plan. Because I totally recognize that they are going to be like, mom, I do not want to put this in a retirement account. I was talking to the other day and they're like, mom, I'm not even listening. Yeah. Wow. Okay. Well, that sounds like me then because I was looking through to our next question here, which was that while you were answering that. So whoopsies. Oh, yeah. This is a personal question for a friend. And I think that there are, there could be people, I mean, especially with the crazy stock run up that we've had. I have a friend who has an extraordinarily large position in one stock. He bought it, let's say he bought it for a nickel

Like, his cost basis is nothing compared to how much it's grown. It's split. It split again. It split seven times. It's split a thousand. Like, I don't even know how many times this thing has split. Did he buy it or did he inherit it? He bought it.

He invested. So, yeah, there's like, there's no good way. Is there such thing as a 1031 exchange for stocks? There isn't. I don't like that answer. There's opportunity funds. There's things like that. One thing I will point out, is he somebody who likes to donate a lot?

He would probably consider donating some of it, but it's a really large position. Regardless, I'm going to get into that. I'm looking at the pre-tax options that he has. So he can actually give that appreciated property without necessarily recognizing the whole thing as income. So if he gives a part of it, he can do his donation out of that. to replace what he would normally do on a given year. And that's the reason I'm looking at it this way is what things can he do off of that.

With that one position, is he wanting to divest from that position? It's such a large part of his portfolio, which is part number two of the question, that he would like to be slightly more diversified. But I think he just opened up his account once and was like, whoa. Okay. here's my recommendation. There's no 1031 for stocks,

but we have things like opportunity zones that they can potentially look at. The opportunity zone that benefits doing the way is because we keep moving here. But that large position, I would be doing two things. Number one, I would be looking at some planning with options in order to help protect his position

in case of the bottom falling out of that stock and protect it from voluntary. think like a stop loss. If it goes up a whole lot, he can set an option where someone would probably end up buying it for that negotiated price. And the same thing on the bottom side. Both of those are definitive options that we have for protecting it. But as far as avoiding the tax on it, he can start chunking away annually on that stock. He can also, I'm assuming he has good end investment in it.

But he can look at some of those shares that maybe have a higher cost basis. in choosing those in selling those tax plots in order to help pro-rate those gains and sell it in chunks. Alternatively, my final option in reality is he may want to consider possibly margin. And you're going to say, why would he want to take a loan on? There's a reason he might want to take a loan on.

He may be able to take a very low interest loan on those shares and use those proceeds to invest somewhere else. And that will help soften that blow. He still has that volatility of it. But if he pairs that with an option, it's going to help use it as a stop loss. So if that value drops full X amount, it'll trigger the sale, he's protecting his game.

And we just deal with the tax bill on it at that point in time. He's one I'd want to sit down with review over income and improve everything to see what we can plan for it. But I would use an option. then to protect my position, and then I would be looking at possibly borrowing against that holding. And in some cases, a margin loan, I have a client who is just paying 1%, 2%, even at 3%, that still may not be that bad.

And he can take those proceeds invested in something else, or he can take it and invest it into other shares. Okay. You mentioned income and dividend reinvestments. Yes. His position is so large that his dividends are paying him so much that he doesn't have any room to sell under the income limits to not pay capital. I mean, it's a great problem to have. Totally first world problem, such a great problem to have.

But he's looking for creative ways to get around that. With the dividend reinvestment, is that considered income if you reinvest it? The dividends are still income, regardless of whether or not they're not the run. reinvested. So he's paying tax on those dividends that are issued. And then they're getting reinvested, so he's not actually getting the check for them. But that new stock that he bought has a new basis at that higher rate. So that's why I'm saying those newly purchased shares, so let's say he gets $50,000 in dividends this year, and that buys him 50 shares. Well, once he gets a year and a day, it's long-term capital gains. He may be able to sell that

even though in the last year he might have only had a 5% came. He's only going to recognize that 5% gain, but then he can reallocate that $50,000. So we can start looking at selling our last, our newly acquired shares instead of our old shares that have that nickel cost basis. Okay. Oh, interesting. Okay, this is really, really helpful. It's a full plan.

And then my final question for you is, in my own personal portfolio, I have a very large position in one stock. Like, 33% of my portfolio is in one stock. How do you know when to sell a stock? It's performing very well. I don't want to sell it. Why would you get rid of a well-performing stock? I don't want 33% of my portfolio in one stock.

So where's the balance and how do you make decisions? Great question. Let me ask this real quick. Is it a stock or is it a fund? It's a stock. It's Apple, it's Tesla. Perfect. That answer is that. I like to

lock in games with options. I really do. Because then I can sit on that position. And if it drops, I don't remember what Tesla is at right now. But Tesla, for example, is the time that we're reporting this is about 700

just shy of 70. 770. I might sell an option that triggers at 7. 60 or 765. And that way, if that goes below that or it closes at that time below that,

I'm guaranteed that I'm getting my 765 share. But what if I believe it's going to go to 1,000? Then guess what? You're going to, you should be fine. Unless it goes down short temporarily below 765, and then shoots back up. Bops down and then shoots up. I've missed that.

And it's the whole like... Hang on, hang on, it depends on the options that we're looking at. that's a discussion way beyond the scope of what we're talking about today. When you say options, you mean puts and calls. Correct. Okay. Correct. Index funds don't have this problem.

Yeah. What did your index fund gain last year? Scott? Did it match my Tesla shares? And I say mine. I should give full credit to my husband. I would never have invested in Tesla. That's right.

I made way less money, so I have way less problems. And I still totally believe in index funds. everything I put in is in index funds, except like little bits into Tesla and Apple. But yeah. By all right, I would be looking at what I can do to secure my position from dropping. And that's really going to be that solution.

We can get into that a little bit off-camera here for you, and we can go through a couple of different scenarios. But there's some things we can do to help secure that position. Okay, but puts and calls, please. Now, who can advise about puts and calls? Because you're saying options, and I think people who aren't familiar with puts and calls

could hear the word option and think you've got different ideas around, but it's two specific things. And I'm talking about puts and calls. I definitely am talking about puts and calls here, and not your stock options either. Puts and calls, which I can both buy and sell puts and calls will help insulate that position, depending on selling the right one. So I can take a

protective strategy to insulate myself from decreases, and that may cost me a little bit of money. But I have different options, and I say options. I got a myriad of choices for what I can do or how I want to view that. And there's some things we can do to statewide that position. And if it goes below it. I'll give an example. I have a client who set one. The share price was at 115. And I said, you know, give yourself a little bit of room. What's the lowest price? You're willing to really, you know, willing to watch it go to. And he sent a price of about 110. Three days later, it triggered. And then in that case, it really was, it really was a position that he didn't have as much gain.

He had about $40,000 in gain on the shares that we ended up sell. And what will you want her capital gains? 15%. That really was a big deal. Okay. Lots to think about. Who do I go to for advice on puts and calls? Your CPA and tax pro?

If you want an education of what puts and calls are, your accountant may be able to help you with that. that usually we jump in with a consultation with a broker on that position. For example, I partner with brokers all over the country because I have clients with different needs. Some want to use a broker. Some don't. Some go to them and they will just pay them for advice on a situation, on a position. What do I do with this plan? So what we do is we take on kind of that CFO role and we bring in the insurance agent. We bring in the attorney. We bring in the broker. And we'll sit down and say, here's our problem. How do we solve? How do we solve?

list. And that puts us all on the same page for tax consequences, legal, et cetera. So I like a hub and spoke kind of diagram when I explain that. And we can bring it all into one place, look at the whole picture, make sure that the client is getting the best thing possible. You may not need to go move your whole portfolio to a broker. I'm not saying to do that. What I'm saying is you may want to hop on a phone call and say, look, I need a consultation on this. I need to review what I should do. And there are brokers that will. fake concentrations like that. This is mind-blowing.

This is so awesome. And I really hope that people who are listening, this isn't their first money podcast episode because this might be a little bit mind-blowing. It's intense. Yeah, it is intense, but it's so helpful. Planting these seeds, even if you're not in a position to take advantage

of literally anything that Stephen talked about today, having it in the back of your head. So when you are in that position, or so you can work towards getting in that position can be so helpful. Bookmark this episode, come back and listen to it again, go to the video on YouTube, and we also have a transcript. And I'm going to go through and make sure that everything is really, really, sometimes the transcription service transcribes the words differently.

I'm going to make sure everything's perfect on this one. So sometimes it's helpful to see it in writing because we threw out a lot of numbers, we threw a lot of concepts. And this was, I'm so excited. I am, Scott, you got to open up the plan so that I can make after-tax contributions to my 401-K through work because I've got some to make. I got to find out if we have that first. I can only do for 2020 and 2021, correct? 401-K, you're stuck with 2021 now.

Oh, I can't go back and make after-tax contributions to 2020. Oh, crap. Okay, never mind, Scott. We'll open up for next year. Oh, and one last question that is totally personal to me, but maybe somebody else is listening to it too. I contributed to my Roth IRA on January 1st, 2020. I dumped in all $6,000.

If I made more money than, and looking at your number, I didn't. But if I made more money than the married filing jointly, what happens to that $6,000? I had a lot of gains. last year. Do I just pull the $6,000 out and be done or do I have to go back and... It gets a little more complicated than that. Yeah, I didn't want that answer. If you're over that threshold and you weren't planning to be over that threshold,

what happens is we have to pull out our contribution plus our earnings on that contribution. So there's a mathematical formula for calculating that and it'll prorate your percentage of returns, et cetera, in order to create that allocation. Now, when we pull those excess contributions out, and the earnings on those contributions, you are not going to be subject to a penalty. I get that money back. Put that money back. It'll be cashed in your pocket.

Correct. Oh, if I put it $6,000 and then I pull the $6,000 out and that $6,000 grew to $12,000, I get that $12,000 back with no taxes. No. Oh. $6,000 back with no taxes.

What happens to the other $6,000? On the other $6,000. Oh. Well, okay then. But it'll be this year for when you pull it out now at this point. So if you don't catch it during the year, it'll be when you actually pull it out. Okay, well, but still. Okay, well, that's good to know.

I'm not trying to get around it. I just, like, that would be kind of a fun example. Like, oh, I put $6,000 in. Oh, shucks, let me pull that $6,000 out, but I kept the growth. I got to, but then you get taxed and it doesn't matter. I had somebody win about $300,000 end of December one year. Wow. It messed up a few pieces of our plan.

Yeah, I bet. It messed up a few pieces. Okay, Stephen, this, like I said, this is so mind-blowing. I'm so excited and I cannot wait to sit down with my husband and write out our big plan for 2021. Where can people find out more about you if they have questions? Well, I'm actually very active on bigger pockets. I've been on bigger pockets. I actually just looked it up the other day.

My anniversary is coming up. January 11th of 2011 is when I first signed up on bigger pockets. Oh, my cow! Yes. I have over 5,000 posts. I was actually a bigger pockets moderator for a while. I don't know if anybody remembers that far back. And then my practice grew and I stepped away and I've been,

I hop on there, answer questions here and there. and I'm active on the bigger pocket Facebook groups. Yeah, I stay very active in all of those. And you can always add me if anything comes up. We have a website at Hamilton,tax.net. You can call our office, email us. We're more than happy to sit down with someone and review a situation. I have a great team.

Awesome. Well, thank you for sharing all this wisdom. Thank you for the 5,000 times that you've contributed to our forums over the years and countless other interactions you've had with folks around the community. You've probably contributed to a large, incalculable amount of wealth that you've helped people build over that time. And thanks for all the wisdom today. I learned a tremendous amount. Thank you guys for having me.

This is always fun. Ironically, this is my first Bigger Pockets podcast. All right. Well, thanks for having it on the Money podcast. We appreciate it. Yeah, we're going to have to have you back. Anytime. Just let me know.

Stephen Hamilton talks about tax. Tax talk with Stephen Hamilton. There we go. That's right. Awesome. Awesome. Thank you so much, Stephen. And we'll talk to you soon.

Thank you guys for having me. Okay, Scott. That was Stephen Hamilton from Hamilton Tax. Holy cow. I am so excited. I'm so pumped for all of the opportunities that I am going to have this year just based on what I learned from this conversation. Yeah. What a privilege to learn from Steven. Steve, let's just remind ourselves about his credentials here. He's an enrolled agent, right, which is a very legit accreditation that he's got. And he spent the last nine years posting 5,000 times over the Bigger Pockets forums, dealing with a tremendous amount of nuance, specifically dealing with a lot of people who have built wealth, invested in real estate and invested it in a variety of real estate and ventures, not just rental properties, not

just hard money lending, not all these different types of things. He's seen mistakes made. He's, I'm sure he's made a few mistakes. And he's been around the block and done this. And we got a chance to learn from him and have him digest and bring his frameworks to the questions from the community here. And I think there were some great questions. I learned a ton. I'm doing it wrong. And my eyes are open to this. It's one of those days where you kind of go, man, I do this every week with you, not twice a week. And I don't know what I don't know about this kind of stuff. And that's a humbling state to be in.

You got to go from don't know what you don't know to knowing what you don't know before you can whatever, know what you know or I don't know, whatever. Moving on. So you're not so confused. That's right. So you're not so confused and hopeless. Yeah. I have been doing this forever.

I have always been conscious of money and frugal and, I learned so much this episode. And I'm like, whoa. Every time he would open his mouth, I'm like, holy cow. And, you know, a couple of times he gave me answers I didn't want to hear. But I like to know that I can't do that. I called him a nerd in the intro. I called him a nerd in the intro.

He's so excited about this. I am so excited about this. I'm super. This is just like, somebody told me I used the word excited too much. So I'm like, yeah, but that accurately conveys my feelings. What's better than excited? I love it. I think you're excited every week and that's what makes you so great, Mindy. I'm excited. I'm excited all the time. But this was like, you said you do this twice a week and you're still learning.

That's why we're here, Scott, because we don't even know everything there is to know. I recorded an earlier podcast earlier today and we spoke with Megan Gorman, who was on our show a few, two years ago. And she was talking about some tax concept. I'm like, I didn't even know about that. I mean, she's talking about tax concepts that apply to people who have $30 million plus. So I don't really need to know about it now. But it's good to have. All of our listeners within 10, 15 years. If you keep listening to your pocket's money.

Exactly. So it's good to just plant that seed. And then when I do get $30 million, I can call her up and say, hey, what do I need to know? So, yeah, there are a lot of options available for you if you just know about them. And that's why we're here. Scott, we didn't tell a joke today because we did go a little bit long and it wasn't really that kind of show

but I have a joke for you. Oh, what is it? I got this from Eric. What is the difference between a hippo and a zippo? One is a little heavier. Oh, I don't know. One's a little heavier and one's a little lighter.

That's so fantastic. I love it. I love it. Well done. Yeah. Bravo. All right. Well, thank you.

And guys, we really appreciate you. Spending some time with us today. We obviously enjoyed ourselves. We hope you enjoyed it. If you did enjoy it, please come join us on Facebook and be a part of the community. Or, you know, we always like these reviews that we can get on iTunes, on YouTube, a comment there, or wherever you listen to this show. So please go ahead and give us a review if you enjoyed the episode. So if you didn't, you know, probably you're still on here.

So we don't talk about that. Okay, from episode 163 of the Bigger Pockets Money podcast, here is Scott Trench. I am Indy Jensen saying, adios, hippos. Is he because it goes with the joke? Ah, yes. Okay, bye.