How to Access Retirement Money Before Age 59 ½

INTRODUCTION

This is the White Coat Investor podcast where we help those who wear the white coat get a fair shake on Wall Street. We've been helping doctors and other high-income professionals stop doing dumb things with their money since 2011.

Dr. Jim Dahle:
This is the White Coat Investor podcast.

This podcast is sponsored by Bob Bhayani of Protuity. He is an independent provider of disability insurance and planning solutions to the medical community in every state and a long-time White Coat Investor sponsor. He specializes in working with residents and fellows early in their careers to set up sound financial and insurance strategies.

If you need to review your disability insurance coverage or just get this critical insurance in place, contact Bob at (973) 771-9100, email [email protected] or just go to whitecoatinvestor.com/protuity.

Okay, it's scholarship time. We're already into July. People have been submitting scholarship applications for the White Coat Investor Scholarship since the 1st of June. In reality, everybody submits them the last week of August. At least half of you do because we're all procrastinators. But you have until the end of August to submit them.

I don't recommend you wait that long. Things happen. So if you want to apply for the scholarship, get it in before then. You go to whitecoatinvestor.com/scholarship, not only to submit it, but to learn all the rules about it. You have to be a full-time student in an in-person school, a U.S. school, and in good standing.

Generally, you're in medical school, dental school, etc., but we'll accept other high-income professions. They're listed there on the scholarship page. And we're going to give out 10 of these scholarships like we do every year. It's literally just a cash payment.

The idea is twofold. One, to reduce your indebtedness, reduce the cost of your education, directly help docs, etc., coming out not to be in as much debt as they otherwise would. And two, to spread this message of financial literacy throughout these schools, these professional schools. So it's something we've been doing for a long time. It's a good way for us to give back to a community that's given us so much. And it's a lot of fun as well.

If you want to participate in the fund, you can help judge. Just email [email protected]. Put “Volunteer Judge” in the subject line. That's about all we need. And come September, you're going to read a few of these thousand-word essays and help us pick the winners.

None of the WCI staff picks the winners. We need the WCI community to do that. We just want to remove that conflict of interest completely. We'll write the checks, but you guys have to pick the winners.

And so, you can write about anything you want in those essays. But if there's a financial angle, you do get bonus points. It is a financial website, so throw something financial in there and you'll be glad you did most of the time. You can write about anything, but bonus points for financial stuff this year. You have until the end of August, whitecoatinvestor.com/scholarship, email [email protected] to be a judge.

CORRECTION: HAVING MULTIPLE 401(K)S

Dr. Jim Dahle:
Okay. We have to start with a correction on episode 474. I think that dropped on June 4th. Somebody had asked a question about having more than one 401(k) for the same business. And I think my answer said something like, “This is a dumb idea. You're going to have the same contribution limit. You're going to have more hassle. You probably shouldn't do this, but I think you can” is what I said.

Well, apparently you can't. So that's the correction. I got a note put on the YouTube episode saying that some of our knowledgeable forum participants would chew me out for saying that, but you really shouldn't be opening a second 401(k) for your business or a second solo 401(k), just amend it and turn the first one into the second one. And then go on to the next one. You don't want to be dealing with it anyway. And apparently, you can't even do it. You don't need trouble with ERISA for this.

It's a big red flag for compliance purposes. Just have one plan. It's a good idea. And when you close the plan and move on to the next one, do it at the year's end; it's going to save you a lot of hassle.

Okay. Let's take one of your questions off the Speak Pipe. This one from Angela.

RETIREMENT AND THE RULE OF 55

Angela:
Hi there. I've got some questions regarding rule 55 period. I'm 58 years old. And after seeing some of my family, both health challenges and interested in retiring earlier than I anticipated period. Can you explain a little bit about the rule of 55 and how it fits into a withdrawal strategy once you retire? Thanks for all you do, Dr. Dahle.

Dr. Jim Dahle:
Okay. When I heard the rule of 55, I thought this was a real estate ratio. A lot of people say never have more than 45% of the income coming from your real estate investment and going toward the mortgage because you have so many other expenses. You need to have profits and you need to have some vacancies and that sort of stuff added in there. And of course there's insurance and those sorts of things. When I heard rule of 55, that's what I thought we were talking about.

But what we're really talking about is when you can raid your 401(k) without paying a penalty. Most of you probably know that for an IRA or Roth IRA, the rule is age 59 and a half. Once you're 59 and a half, you can pull your money out of there. If it's tax deferred, you got to pay taxes on it, but no penalties. If it's Roth and assuming you've met all the relevant five-year rule restrictions, you can pull that money out tax-free and penalty-free.

Well, what a lot of people don't realize is if you don't move the money out of your 401(k) or 403(b) into an IRA, you might be able to get to that money four and a half years earlier, penalty-free. If you have separated from the employer and you are at least 55 and the money's still in that 401(k) or 403(b), you can pull it out and spend it penalty-free.

So, what does that mean for your withdrawal strategy? Well, a lot of times people spend certain accounts first, and that makes sense. I've written many blog posts about this over the years. For example, one of the first accounts that people often spend in retirement is their 457 money, especially if it's a non-governmental 457(b). Because that's not actually your money. It's still exposed to the creditors of your employer.

So, of course you want to spend that first because you have the possibility of losing it to your employer's creditors. Even a governmental 457(b) though has this nice benefit that there is no 59 and a half rule or 55 rule for your 457(b). That's often what people spend first in retirement.

If you have a taxable account, it makes sense to maybe spend from the taxable account first and allow your money to continue to grow inside tax-protected and asset-protected retirement accounts. Your money grows faster inside 401(k)s and Roth IRAs because it's not being taxed as it grows. So that makes sense to maybe you want to spend taxable accounts first.

But there are people out there who have almost all of their retirement savings in 401(k)s and IRAs. And these age 59 and a half rules, these age 55 rules, they matter. You got to pay attention to them.

Now there's so many exceptions to these things. The loopholes are so big you can drive trucks through them. If you go to the website, you'll find lots of blog posts about this. If you just search 59 and a half, you'll probably see the main one. It's called the 59 ½ Rule — How to Get to Your Money Before ‘Retirement Age’. And I list all kinds of ways you can get to those.

A lot of people don't realize about all these exceptions. Disability is an exception. Death's an exception. A first home doesn't even have to be your first home. If you just haven't bought a home in the last couple of years, or it's the first home for your kids, you can get some money out of there. That's an exception to the age 59 and a half rule.

Paying for medical insurance is an exception. You don't have to pay a penalty if you're using the money for that. Reimbursed medical expenses are an exception for that. Disability I mentioned. Inherited IRAs, of course, these rules don't apply to. If you're spending the money on college for your kids or grandkids. Qualified higher education expenses are an exception. The first home exception, $10,000 for that.

If you have a new child or an adoption, there's a $5,000 limit to how much you can pull out. If you're paying an IRS levy. That comes out penalty free as well. So does the reservist distribution. You don't even have to be dead. You can just have a terminal illness and that gives you an exception.

A new one that came up with Secure Act 2.0. If you've been the victim of domestic abuse, you can take out the lesser of $10,000 or 50% of the balance out of that IRA and get to it before 59 and a half penalty free.

But the main one is early retirement. And that's called the SEP rule. Substantially equal periodic payments. And if you just take out the same amount each year for at least five years and age 59 and a half, you've got to do both of those, you can get your money out. And it works out to be about as much as you should be taking out anyways, like 3 or 4% that you can take out. And you can do that penalty free. So, even early retirement is an exception.

But there is this difference between 401(k)s and IRAs. And 401(k)s, you can get to it at 55, not 59 and a half. So would that make sense if you have 401(k) money and IRA money and you're in that age between 55 and 59 and a half, what should you spend first? Well, the 401(k) money.

And this is maybe a good reason to leave your money when you leave the employer in the 401(k), at least until you're age 59 and a half, before you move it to an IRA. Now, lots of WCRs have learned they don't want to move it to an IRA anyway, while they're still earning money and contributing to their Roth IRA via the indirect backdoor Roth IRA process, it can give you a prorata issue if you got a bunch of money sitting in a traditional IRA.

So, most WCRs have learned that you go 401(k) to 401(k) to 401(k) to 401(k) when you're doing rollovers throughout your career. But once you're done earning, once you're retiring, it's okay to have that money in an IRA. It might get slightly less asset protection in your career, in your state.

But the truth is after the end of your career, your malpractice risk is dramatically lower. And so most people don't care quite as much about asset protection once they're no longer practicing medicine anyway.

So yeah, the bottom line is leave it in that 401(k) at least until you're 59 and a half, and you can pull that money out and use that for your spending. Now, there's two questions, of course, how much of your money should you spend in early retirement, and then where that money should come from.

Totally separate questions. And just because you have money in a 401(k) doesn't mean you should spend 12% of your money in a year, you've still got to do the 4%-ish kind of thing. But which money you raid and win does matter. And so, you want to have a smart strategy for that.

If you need help sorting that out, get help from a financial planner. This is the sort of thing they specialize in helping you with. And we've got a list of recommended planners on the website. Obviously, we've started White Coat Planning where they're ramping up just as fast as they can. And you can only bring clients in so quickly, you can only hire more planners so quickly. We still have lots of good firms we refer people to for years that are still on our list. If we can't get you into White Coat Planning, go see some of them and get your financial planning done.

We're not terribly partial to our own firm. We think it's a great firm. But we also know that we can't serve every single doctor in the country right now. Just the numbers don't work that way. And so, get some help if you have questions like these. And it's a great time as you're approaching retirement to really make sure you have an updated comprehensive financial plan.

Okay, let's go on to the next question here. This one comes by email. And the title is the risks of linking brokerage account to the You Need A Budget app that so many people use for budgeting.

IS IT SAFE TO LINK A BUDGETING APP TO A BROKERAGE ACCOUNT?

Dr. Jim Dahle:
It says “Thanks for the WCICON and all the work you do. My spouse and I are trying to shore up our processes of our household balance sheet based on some of the talks from WCICON in Vegas. In that vein, we wonder about the risks of linking our brokerage account info at Fidelity with You Need A Budget. When we initiate the process of linking them, Fidelity spits out a crazy amount of legalese about the risks of linking the accounts and says in so many words, they'll not be held responsible for any negative outcomes. And this has stopped us from actually linking the accounts.

We do use You Need A Budget to track our expenses. But the balance sheet gets messy when we don't have YNAB, You Need A Budget, to see the complete picture of all our transactions. Are there any real risks to linking these systems that are concerning enough to happen? And how do you handle tracking your balance sheet personally? And how do other high net worth individuals at WCI handle this process?”

Well, look at the gray hair if you're watching this on YouTube. I'm old. By the time you hear this, I will have turned 51. When we started budgeting, we used a pencil. Yeah, our first budgets had a pencil on them. And then we started using Excel, because my handwriting wasn't very good. And so we put it in Excel, and we print it out. And then we'd write on with a pencil.

I've got these budgets from 1999, 2001, we're in medical school, and we're married. And they're really fun to go back and look at. But that's literally how we still do it. We still do it manually, we don't have any of these apps, we don't have Every Dollar, You Need A Budget or MINT or any of these budgeting apps. We've never used them. We literally just went through and looked at our credit card statements and our bank card statements and put it on the computer, and then print it out on a spreadsheet.

So if you're really worried about these apps linking to your accounts, you don't have to do it. You can do this manually, it's going to take a little more work. And you're going to have a little less convenience. And maybe you'll have a little less data and a little less help making decisions than you otherwise would.

But there is a very secure way to do this if you're terribly worried about security. Now my impression is that most white coat investors using these apps are not that worried about this security, and that these connections are very secure.

You think about everything you've already linked. I use Venmo. I use PayPal. Well, those are linked to your bank account. I've got my bank accounts linked to brokerage accounts and 401(k)s and things. You're linking accounts all the time.

And all of these apps, all of these accounts have all kinds of safety features. This is a big deal for them. Yes, there are breaches of security, and they try to deal with those as best as they can. But it's not like these things have no security whatsoever. They're doing everything they can to be secure, because that's their entire business is to be secure.

There is a great article on Yahoo, actually, that I was looking at and I sent to this email questioner, and it's called, “Is it safe to link your bank accounts to financial tools and apps?” This is written by a lady by the name of Emily Batdorf, and I thought it was a pretty good article. And she talks about what it means to link your bank accounts to financial tools and apps. And she talks about whether it's safe. That's like the number two question in the article.

And she goes through all the different security systems and features that these apps use. They use encryption, and tokenization, and multi-factor authentication, and third-party security reviews, and liability protection, and biometric verification, and transport layer security. I don't even know what that is. As well as payment confirmation notifications. So every time money comes in or out, it sends you an email, or a text, or whatever.

So, use reputable apps, of course, and review their security features. Take a look at complaints, reviews, and ratings online, but recognize that these have come a long way. And they're pretty darn secure. Not perfectly secure, but they're pretty secure.

I don't think I'd spend a lot of time lying awake at night worrying about You Need A Budget being linked to Fidelity. I've already got all kinds of things linked to Fidelity, or to Vanguard, or whatever. And you've got to be smart about online stuff. You don't click on links in your email, and you don't give out random information to people who don't need to know it. And you use third-party authentication, and you have complex passwords. Hopefully, you're using some sort of password manager, like LastPass. And you're using 15-digit nonsense kind of passwords. And you're doing these good online security kinds of things that you should be doing.

But so long as you're doing all that, I don't think I'd worry about You Need A Budget being linked to Fidelity. Fidelity obviously has to cover their butt. They're going to put a page of legalese up every time you link those. But I think I'd probably go ahead and do it. If you've decided this is how we're going to budget, and this would be a lot easier if we link it to our Fidelity account, I'd go ahead and link it to your Fidelity account. I don't think I'd spend a lot of time worrying about that.

But maybe I'm a little more risk-tolerant than others. If you're not that risk-tolerant, recognize that paper and pencil still work. I guess somebody can break into your house and steal your paper and pencil, too. But this isn't that hard to do.

QUOTE OF THE DAY

Dr. Jim Dahle:
Our quote of the day comes from Benjamin Graham, who said, “Successful investing is about managing risk, not avoiding it. And the longer I invest, the more I realize that investing is about risk management, not returns. And yet so many of us in the beginning, we select our investments by looking at returns. Focus more on the risk, and I think you'll be happier in the long run.”

All right. We've got a question on the Speak Pipe about Trump accounts.

TRUMP ACCOUNTS

Speaker:
Hey, Dr. Dahle, question about the Trump accounts. If I employ my children and I'm going to do a business contribution of $2,500 into the account and use it as a business deduction, and then put in $2,500 of parent money, can you walk us through exactly how to do this so that down the line when we do a Roth conversion, that somehow the basis is isolated and I'm not paying tax on money I've already put in after tax? Many thanks for all that you do.

Dr. Jim Dahle:
Okay. This is what I would characterize as a super optimizer question. Remember, optimizing is trying to get everything perfectly right with your finances to get maximum benefit out of everything you do with your money. Satisfying is what you do once you realize that you don't have to optimize everything.

Most of us, as we move throughout our financial lives, we become less of an optimizer and more of a satisficer, but this question is definitely way out there on the optimizer spectrum. We're going to have to spend a lot of time just bringing everybody else in the audience up to speed on what's being asked here before we can really answer the question.

Maybe the first place to start this discussion is saving for your children. A lot of us want to give our children a leg up in life, and we can do that with inheritances, whether they're given before you're dead. Technically, it's not an inheritance. Somebody's going to write in. I'm not doing a correction on this. Early inheritance, we'll call it a gift. It's not actually inheritance until you're dead.

But a lot of us want to give money before they're gone, and so we try to take advantage of some of the tax breaks that have been set up in order to give money to our kids, and there's lots of cool accounts out there that you can use to help your kids. There are 529s. There are 530As. There are Roth IRAs. There are HSAs. There are UTMAs. There are annuities. There's taxable accounts. There are ABLE accounts. There's all these accounts, and you might be wondering what you should be using to save for your child.

Well, the first question to ask yourself is what the money is going to be used for. If you're saving for their education, use an education account. Typically, a 529. Often, the 529 in your state, but if your state doesn't give you a special tax break for it, maybe you just use a good one from another state like Utah or Nevada or New York or Michigan or something.

If you're saving for something else, though, you don't want to use a 529 account. It's not a great place to save for their retirement. It's not a great place to save for a house for them. It's not a great place to save for healthcare, for their 20s fund or whatever. If the purpose of the money is something different, you might want to look at some different types of accounts. If you're saving for their retirement, a Roth IRA might be where you want to do it, or a Trump account might be where you want to do it. The Trump account is also known as a 530A, by the way, for those who aren't aware of that. If you're saving for healthcare, you might want to use an HSA.

There's all these rules about when and how much you can contribute to all of these accounts. For example, a Roth IRA, it has to be earned income. If they didn't earn any money, they can't put any money in a Roth IRA.

An HSA, you really can't fund for them unless they're on a high deductible plan and they're no longer your dependent. We're usually talking about kids that are in between the ages of 19 and 26, no longer your tax dependent, but they're still on your health insurance. And if it's a family health insurance plan, you can fund a family size contribution to their HSA.

Don't write in with a correction about this, I'm right about this. You can put in a family size contribution because it's based on what plan they're on. If they're on a family plan, they can put in a family size contribution and because they're independent of you, it's their own and you can do your own full family size contribution into your HSA. There's all these different rules about how to use these accounts.

Specifically about the 530A account, this Trump account, these are brand new and when they came out, we didn't necessarily have all the details about them and now we have probably most of the details about how these are going to work. These are baby bonus accounts and the kids born for a period of about three years, I think starting in 2025, get $1,500, I think it's $1,000 from the government put into the account.

These accounts, it seems are all getting opened at Robinhood, I think is who the government has chosen to run these things, which is kind of an interesting choice. But they get $1,000 from the government.

But the rest of us, I'm not going to have any kids and from 2025 to 2028, the rest of us can still fund accounts and you can put up to $5,000 per year in thereAnd it's really cool because once they turn 18, these 530A accounts basically become traditional IRAs.

And if your kids are like most kids, they won't have all that much income in their 20s. So at some point in their 20s when they're no longer your dependent, maybe it's right as they finish college or maybe they're not your dependent during college, just like my kids, you can do Roth conversions on those traditional IRAs and do a relatively inexpensive Roth conversion.

So, if you put $5,000 a year in there from the time they're zero until the time they're 18 and then convert that in their 20s for a relatively small amount of money, you basically paid for their retirement. They'll just leave that alone until they're 65. You've paid for their retirement already. And so, that's a pretty exciting thing to do and people get really excited about that. It's a baby bonus account. It's a way to pay for your kid's retirement and they don't have to have earned income like a Roth IRA.

And so, in a lot of ways, this is a better thing to use than a UTMA, although UTMA is far more flexible if they're going to spend the money before retirement than a Trump account is. But it really just comes down to the purposes of the money and what you want to do with it.

So, lots of White Coat Investors are trying to wrap their heads around this. I haven't yet funded Trump accounts for my two kids at the time of this recording, but I probably will in the next month or two. One of them is only going to get one year's contribution because he's now going to be a senior in high school. The other kid will get six or seven years.

And the old ones, well, tough luck for them. As I've been telling them, since they were three years old, life isn't fair and they'll still get plenty of money from us, but they're not going to get Trump accounts from us. We are planning to fund those and that's a good thing.

But what the questioner is asking about here is this cool other feature about these Trump accounts. So, it turns out that lots of different people can contribute to these 530A accounts. Parents, guardians, relatives, friends, the kid can all contribute to the account.

The total annual contribution is $5,000, not counting that $1,000 government contribution. And that's supposed to actually start being indexed to inflation starting in 2028.

But the employer can also contribute to a 530A account, which is really exciting. It's up to $2,500 per year per employee, not per employee's child, but per employee, $2,500 per year, not $1,500. It's $2,500 per year that the employer can put in. And that is a deduction to the employer. So, that's cool.

And of course, they have to keep track of this basis in these accounts. I'm sure Robinhood will figure out how to keep track of all the basis in these accounts. But money you put in there as post-tax money, that's the basis that won't be taxed when you go to do the Roth conversion in their 20s. But money that comes from the employer, I don't think counts toward basis. That $2,500 isn't basis, but presumably they're going to convert it at a much lower rate than you're paying right now as a doctor. So, it can still make sense.

And so, all these White Coat Investors that are super-duper hyper-optimizers are going, “Oh, well, what if I put $2,500 of that $5,000 in personally, and I put $2,500 in there as an employer contribution? So, I hire my kid to do something, and now I'm making an employer contribution for them, or you don't even have to hire them, actually, I misspoke, because they're your kid. So it's your business, you're the employee, and it's your kid with the 530A account, and so your business can fund it. And there's a little bit of a tax arbitrage there on $2,500.

And so, this person calling in on the speak pipe is just trying to figure out how to optimize this situation. And you absolutely can do this, whether it's worth the hassle or not, you have to ask yourself how much of an optimizer you are. But that's the idea, is that, yes, you can put money in there from your business. If you're a 1099 independent contractor, you have a business, and you have a solo 401(k), you can open a Trump account for them.

Okay, the question was all about basis and how to not screw up the basis. Well, that's apparently Robinhood's problem now, they got to keep track of the basis, but it's probably a good idea to keep it in mind. Your basis for these employer contributions, you don't get basis for that, because that's pre-tax money. But the parental contributions, you have basis for, so you got to keep track of that.

When you do the Roth conversion in their 20s, you don't have to pay taxes on that again, but you're not trying to isolate basis probably, I think most people are just converting the whole thing. That's the idea is convert the whole thing, whatever it is, $100,000, $200,000, you're trying to convert the whole thing, maybe you spread it out over a few years to do it.

But the idea is not to just isolate the basis and just have that go into a Roth IRA and then leave the tax-deferred money in a traditional IRA. The idea is to convert it all to Roth. And then you don't have to worry so much about the basis.
Somebody's got to keep track of the basis. How much has to be paid in tax on the conversion. But I don't think trying to isolate the basis is a great idea. I think most people are just trying to convert the whole thing.

I hope that's helpful. I hope I've answered the question. It's a little bit of a complicated topic. We're all still kind of wrapping our heads around it because these are new accounts this year. Like I said, I've never actually even funded a Trump account at the time we're recording this. And so, how it's going to work out, I think, will be a little more clear over the next few years, but maybe not until your kids are in their 20s and we actually start doing these Roth conversions. We'll be entirely clear what to do.

But I don't think your plan should be to isolate the basis. I think your plan should be to convert the whole thing at some point once they're independent of you, but still not in a very high tax bracket.

All right, everybody out there, I know some of you had a rough day today. You're on your way home from work. You're walking the dog. You're on for a run, whatever. Nobody said thanks today. Maybe somebody died on you. I don't know. Somebody yelled at you. I don't know. But if nobody said thanks for what you do, let us be the first. Thank you.

Okay, let's take another question off the Speak Pipe. This one's about some sort of inherited taxable account.

INHERITED TAXABLE ACCOUNT

Kyle:
Hey, Dr. Dahle, this is Kyle. I'm a surgeon in the southeast. I have a question about taxable accounts. My wife inherited it from her parents. It's composed of individual stocks. The value is around $700,000. The cost basis is about $250,000. So a lot of capital gains. Currently, it's being managed by a financial advisor that are harvesting losses to offset gains.

We're paying 0.8% of assets under management. So about $6,000 per year. I'd like to start managing this account ourselves to save on the fees. We donate about $50,000 per year to our church.

My plan is to sell the stocks with the highest gains but transfer them into a donor advised fund and then sell them, donate the cash to the church. And then say we sell and we do $150,000 to the donor advised fund. We can over time buy back just a low cost index fund.

And then we can harvest losses out of that account as well. Kind of slowly transition to a low cost index fund. You see any problems with this plan? It seems like an efficient way to donate offset gains over time. And diversify it so it's not as chopped up and messy with individual stocks. Thanks very much again, Dr. Dahle, for all you do. All the best to you.

Dr. Jim Dahle:
All right, Kyle. Thanks for what you do. You said you're a surgeon in the south. It's not easy work. Thanks for doing that. However, I'm going to use you as an example for everybody else listening to this podcast. Those of you who leave questions on the Speak Pipe, we love your questions. If you go to whitecoatinvestor.com/speakpipe or you go to speakpipe.com/whitecoatinvestor, either one, you can record questions. We'll answer them on the podcast.

But for the sake of your fellow listeners, wait until you get where you're going, maybe pull into a parking lot so we don't have quite so much road noise to listen to to hear your questions. But I think we could make out everything you said. I think it's fine. I think it's a great question you've asked. And actually, there's a lot to talk about here.

The first thing we're going to talk about is inheriting a taxable account from your parents or whoever. You talk about basis, the basis being low in this account. And I have news for you. When you inherit an account, you get a step up in basis.

So if your wife's parents died this year and gave you some nasty, messy portfolio with 200 individual stocks in it, you can sell them all tomorrow, and there are no capital gains, and you can put all the money into an index fund and be done. It's wonderful.

The step up in basis is an awesome policy. And neither your parents nor you will ever pay any capital gains on any capital gains taxes on those capital gains because they just get wiped out of debt. It's the step up in basis at death. Okay, that's issue number one. Be aware of that.

It sounds to me like you inherited an account and then went to a financial advisor or your wife went to a financial advisor or whatever, and they invested it for a while. And now there are a bunch of capital gains. So this really has nothing to do with the fact that this money came from her parents originally. It's basically your taxable account, and you have a bunch of gains in it. And now you've got to decide what to do with them.

This is a problem we call a legacy investment problem. You own an investment in a taxable account, and you don't want to own it anymore, but you're hesitant to pay the capital gains taxes that would be required to change to the investments you actually want.

I've got lots of blog posts out there about legacy holdings in your taxable account. Maybe the best one is a blog post called Six Options for Legacy Holdings in Your Taxable Account. And so, I basically listed six ways to deal with those. Let's go through those.

The first one is to sell it. You always have that option. You can just sell it. Yeah, you might pay some capital gains taxes. But you know what? The only thing worse than having to pay capital gains taxes is not having to pay capital gains taxes.

Besides, some of those shares probably have losses. Some of those shares don't have much gain. And maybe you're carrying forward some capital losses that can offset some gains. Selling it is always an option. That's one way you can get rid of these things.

The second option is to just plan to sell the stock or the investment later. Maybe you'll have more money to pay the taxes later. Maybe you'll be in a lower tax bracket later. Maybe you'll be able to get some tax losses to offset those gains in the meantime, but eventually you're going to sell it.

Another option is to give the money away to a family member or a friend with a low income. This is a great way to gift money to people with lower incomes because a lot of them are in the zero percent federal capital gains tax bracket.

If they're in the zero percent long term capital gains bracket, they can sell it and not pay any taxes on it. Now, it's obviously it's not your money anymore. And I don't know that I'd get into a game where you give them the appreciated asset, they sell it and then magically gift you some money back. I think you might run into some step transaction doctrine problems doing that with the IRS, but you can certainly use it to give them money. So it's a good option, especially if they're in a much lower tax bracket than you.

The fourth option is the one you're kind of alluding to, to donate it to charity. If you give money to charity anyway, you should quit giving cash if you have a taxable account. All your charitable giving should be appreciated shares you've owned for at least a year. I actually think it's more than a year. It's not just one year. It's 366 days, not 365 days, if you really care. But that's a great way to give to charity. So, if you're a charitable person anyway, there's a great way to get rid of legacy investments.

But if you've gone through those things and you don't want to pay the capital gains taxes and you're going to hold on to this investment, you can build around it. And this can make sense if it's not that bad of an investment at all. Maybe it's an S&P 500 index fund and you would rather own a total stock market index fund. But they're basically the same thing.

You can just build around it in your portfolio and you just have it there in the portfolio and build your portfolio around that holding. So, you hold less VTI because now you have some VOO. Talking about the ticker symbols for these various funds. And that's an option. Or maybe if you end up owning a whole bunch of Nvidia and Google and Facebook, maybe you tilt the portfolio against tech stocks elsewhere. You short those stocks, you buy some puts on those stocks, but you do something fancy with your portfolio to build around those holdings and you just hold them long term, hopefully until the day you die and your heirs get a step up in basis.

There is another option. This is a relatively new option. It's called a 351 exchange where you swap a diversified portfolio of appreciated individual stocks in a taxable account for shares of a newly created ETF. That exchange defers the taxes, hopefully provides you with a little bit more diversified investment. This is particularly attractive to people who might exercise some stock options and they have a huge percentage of their net worth in just one stock. And it happens to be their employers anyway. A 351 exchange can be a good option there.

We've covered the step up in basis at death. We've covered what you do with legacy holdings in your taxable account. The first thing you do, of course, is you list them all and you list the basis on them and then becomes more obvious what to do with each of many of them with a loss. You just sell any and without gains, you just sell. And you look at how many losses you have to offset gains and you sell enough to use those up. And then you start thinking about what you want to do with the other ones that are actually going to cost you some tax money.

Unfortunately, your question is even more complicated because apparently this advisor you hired is into direct indexing, and is charging you 0.8 percent to do the management as well as the direct indexing.

We have a sponsor here at White Coat Investor called Freck, and they charge 0.09% for direct indexing. Now, direct indexing is not right for all White Coat Investors. It's probably not even right for the majority of White Coat Investors. But if it's right for you, don't pay 0.8% for it when you can pay 0.09% for it. So if nothing else, maybe I'd look into changing who's going to do your direct indexing, and that would save you 71 basis points a year in fees, which would boost your return by 71 basis points per year. That's a good thing.

But whether you should be doing direct indexing at all is a totally separate question. I think the first question you got to ask yourself if you're considering direct indexing is, can you really use more losses than you're going to get from just tax loss harvesting at the fund level? That's what Katie and I do, is we just tax loss harvest at the fund level.

If I bought some stocks in 2019 and 2020 using VTI or ITOT or VXUS or IXUS or whatever, and then the market goes down in 2020. March 2020, there's a big pandemic. Everybody freaks out. The market goes down. I did a bunch of tax loss harvesting. I swapped VTI for ITOT. I swapped VXUS for IXUS. And we booked those losses and we're carrying them forward.

Same thing in 2022. Anything you'd bought in a year or two before, you could book those losses and you carry them forward until you can use them. You can use $3,000 a year of those losses against ordinary income. And you can use an unlimited amount against capital gains.

So, it's useful to have some losses. But do you need a lot of losses? Well, it depends. Are you going to be selling something with a lot of capital gains down the road? Are you going to sell a practice or you're going to sell a business or something where millions and millions of dollars of losses would be useful to you?

If so, then maybe you should consider direct indexing. If not, and you can probably get enough losses just from tax loss harvesting at the fund level, because there's obviously that additional expense to direct indexing.

Maybe they don't do as good a job following the index as Vanguard might with their index funds. There are some downsides to direct indexing as well. And if you're not going to get a lot of benefit from those losses, because those losses go away at death. If you're not going to use them, there's no benefit to them.

So you ought to be pretty cautious before you start doing direct indexing. You ought to make sure it's actually right for you, because it's kind of a lifelong commitment. It's like buying a whole life insurance policy. This thing's not going to work out well if you dump it before death. A lot of times it's not going to work out well, even if you hold it to death. But certainly isn't going to work well if you dump it before death. Still might be the right move to get rid of your whole life insurance policy you never should have bought.

But these are things that are designed to be held the rest of your life. If you go into direct indexing, the idea is you're going to pay this advisor to do it for the rest of your life because it's a pain to change. And you're demonstrating that.

Now you have hundreds of individual stocks you own all with different basis. And you want to can the financial advisor you hired to do this a year or two ago. Well, this is going to be a pain because now you've got a serious legacy investment problem. So you got to go through all the stocks and list them, which ones have gains, which ones have losses. And it sounds like you have a whole bunch of them with gains. If you got $800,000 in value and only $200,000 in basis, you've got a lot of gains in that portfolio.

So if you don't want to do direct indexing anymore, then, yeah, move away and bring all these stocks into a brokerage account. Now you've got your brokerage account with 200 individual stocks or whatever. So you go through, list them all, look at the basis. So all the ones with the loss or without much of a gain, see how many losses you're carrying forward.

Maybe you can wipe out a lot of the other holdings. Maybe you can get that 200 stocks down to 20 stocks. And now maybe you've got 20 stocks and maybe it's, I don't know, $300,000 of value. You've already freed up half a million dollars. And you can invest that into your ETFs that you're planning to invest in. And that $300,000, maybe that's going to be your charitable giving for the next two, three, four or five years. That's a great way to flush those out of your portfolio.

So, yeah, I think you're thinking about this right way. I think your plan is good. It sounds like maybe you shouldn't have been doing direct indexing in the first place. I'm not entirely clear about that based on the information you left in the question. But I think you've identified a great way to get out of those capital gains since you're a charitable giver anyway. I think I answered that question. Complicated question, so it got a long answer.

SPONSOR

Dr. Jim Dahle:
This podcast was sponsored by Bob Bhayani at Protuity. One listener sent us this review. “Bob has been absolutely terrific to work with and has always quickly and clearly communicated with me by both email and or telephone with responses to my inquiries usually coming the same day. I have somewhat of a unique situation and Bob has been able to help explain the implications and the underwriting process in a clear and professional manner.”

Contact Bob at whitecoatinvestor.com/protuity. You can email [email protected] or you can call (973) 771-9100 to get your disability insurance in place today.

All right. Don't forget about the scholarship – whitecoatinvestor.com/scholarship is where you apply. You can write about anything you want, but you get bonus points if there's a financial angle to the essay. Apply by the end of August. You have to be a full time student. You have to be at an in-person school in the U.S. and in good standing. That's a professional school. You can't be an undergrad. But we have broadened the category so it's not just medical and dental schools.

If you want to judge, email [email protected]. We'd love to have you. We need 60 or 70 or 80 judges to help us do this. So it won't be too onerous and you'll make a big contribution to the community.

Thanks for those of you leaving us five star reviews and telling your friends about the podcast. A recent one came in from JB from South Carolina who said “Fantastic podcasts and can't say enough about WCI except I wish I'd found them many years ago. Great content. Their Fire Your Financial Advisor course enabled me to embark on a DIY path with the confidence I lacked previously.

I went back and listened to every podcast from the very beginning over the past year, and I'm amazed at the knowledge I now possess. Thank you to Dr. Dahle and the guests.” Five stars. Thanks for the kind review. It does help to spread the word.

All right. That's it. We've come to the end of another episode. Keep your head up, your shoulders back. You've got this. We're all here to help you. We'll see you next time on the White Coat Investor podcast.

DISCLAIMER

The White Coat Investor podcast is for your entertainment and information only and should not be considered financial, legal, tax, or investment advice. Investing involves risk, including the possible loss of principal. You should consult the appropriate professional for specific advice relating to your situation.

INTRODUCTION

This is the White Coat Investor podcast Milestones to Millionaire – Celebrating stories of success along the journey to financial freedom.

Dr. Jim Dahle:
Welcome back to the Milestones to Millionaire podcast, where we feature you and your stories and your successes and use them to inspire others to do the same. You can sign up to be a guest on this show at whitecoatinvestor.com/milestones.

This podcast is sponsored by Bob Bhayani of Protuity. He is an independent provider of disability insurance and planning solutions to the medical community in every state and a long-time White Coat Investor sponsor. He specializes in working with residents and fellows early in their careers to set up sound financial and insurance strategies.

If you need to review your disability insurance coverage or just get this critical insurance in place, contact Bob at whitecoatinvestor.com/protuity. You can do that today, or you can just email [email protected], or you can just pick up your phone and call (973) 771-9100.

Okay, I think this drops like the first week of July. Well, that's a big change for medical students. Really, the change is only for first year medical students, but the One Big Beautiful Bill Act, OBBBA or OBA that was passed last July changed the landscape for medical student borrowing. New students are now capped on their federal student loans of $50,000 per year, $200,000 total.

So, what does that mean? That means most indebted students are going to need some private loans to pay for medical school. You're going to take your first $50,000 as federal loans so you can benefit from the IDR program, so you can potentially get public service loan forgiveness, but the rest is going to come out as private loans. And some people are like, “Ah, this guy is falling. This is terrible.”

This is the way it was 20 years ago. There used to be a limit on how much you could take in federal student loans. Then that limit went away for a decade or two, and now only us old people remember when medical students had private loans. It wasn't that long ago, but it is the case again.

And so, we're trying to help you with this because it's so new. We've launched a new resource list to make this easier. You'll find vetted private student loans, loan companies there, and two bonuses you're not going to get anywhere else.

First one is you're going to get cash back from some of the lenders themselves. Literally, you take out the loan and they'll give you some cash, which is helpful. You can use it to maybe borrow less or pay for your other expenses, et cetera. It's a nice bonus. It's a better deal than you can get going directly to the lenders to go through the links on the White Coat Investor site.

And the second thing is we're going to give you free access to the Fire Your Financial Advisor student version of our best-selling flagship course. This is for medical students who are just starting their financial journey. You can upgrade it to the resident version, the attending version later. But you're going to get those bonuses by going through our links. And of course, you're helping to support the White Coat Investor at the same time. Go to whitecoatinvestor.com/loan. Get more information about this if you're in that category.

Second, third, fourth years, you should still be taking out federal loans. Your grandfathered in. But this is for the first years that find themselves, “Ah, I got to take out some private loans”, whether that's $5,000 or whether that's another $50,000. Let's make sure we can get you the best possible deal we can on those private loans. And then of course, going forward as the years go on, you're going to refinance those early and often.

All right, we've got a great guest today, a repeat guest. Let's get him on the line.

INTERVIEW

Dr. Jim Dahle:
We have a repeat guest today on the Milestones to Millionaire podcast. Tyson, welcome back to the podcast.

Tyson:
Thanks, Jim. It's great to be a repeat customer.

Dr. Jim Dahle:
Yeah, we had you on episode 109. That's got to be four years ago almost, where you paid off your student loans. Congratulations on that again. But here we are with another milestone. Tell us what you've accomplished.

Tyson:
Yeah, it's been a crazy four years, but my wife and I have reached a million dollars in investable assets.

Dr. Jim Dahle:
You're millionaires. Congratulations. That's awesome. And probably more than millionaires since we're just talking about the investable assets. That's great. Okay. Remind people what you do for a living, maybe what your spouse does, what part of the country you're in and how many years out you are now.

Tyson:
Yes. I'm a geriatrician at the University of Colorado. I'm the associate program director for the fellowship. When I was a guest previously, I was a geriatrician still, but at the University of North Texas teaching at my medical school. And I'm now eight years out of training. My wife is a NICU nurse, and she has been rotating days and nights like crazy whenever we make our moves. So, I’m very appreciative of her support through this journey.

Dr. Jim Dahle:
Okay. The markets have been a bit of a tailwind for you the last few years. So that's helped, but you don't get to a million dollars just from a tailwind on money you had saved in a year or two as a geriatrician. So give us a sense of what your combined income has been since you got out of training.

Tyson:
Yes. I graduated fellowship 2018, signed my first contract for $205,000 and thought I was really making it big. And now working in academics, I'm up to $230,000 a year. My wife, her pay is variable because she's a shift worker, but usually around now pretty stable around $100,000 a year.

Dr. Jim Dahle:
Okay. So you guys basically make $300,000 a year for the last eight years or so. Tell us about your net worth in total. What are your assets in besides just the investments?

Tyson:
Assets are mostly just house and investments. Housing has also been a bit of a tailwind recently, as you know. But moving from Texas to Colorado, the price difference was quite shocking.

Dr. Jim Dahle:
Yeah. Denver has the same problem Salt Lake has. You're like, “Wait, this is a moderate cost of living” and it's still less than the Bay Area, but you start wondering where your kids are going to live for sure.

Tyson:
You do. Well, I should say you might. We don't have kids, so it's not an issue for us.

Dr. Jim Dahle:
Yeah, exactly. Okay. All right. Well, tell us how you did this. Tell us the story.

Tyson:
Yeah. It started in 2018 with paying down loans aggressively and starting a little bit of a retirement account for myself. My wife started work in 2010 as a nurse, and she set aside some in her employer retirement accounts. But mostly, we used her salary to fund medical school. And that's how we only graduated with $120,000 in debt. And since 2018, paid off loans, it was about four years ago, I have really started to invest heavily in all my employer-sponsored retirement accounts.

To break it up into sections, in Texas, I did have a pension that was really hard to leave. And here in Colorado, they have since removed the pension for the medical employees that are state employees. There's still plenty of pensions out there for state employees in Colorado. But now I save in my 401(a), 403(b), 457, and we save in her 401(k), and then our HSA as well. Trying to get all our pre-tax deductions taken care of and really have hit it hard the past few years.

Dr. Jim Dahle:
Well, given your income and how many retirement accounts you have available to you, I'm assuming all of your retirement savings is in retirement accounts. Is that true?

Tyson:
Yes, that's true. I have some, or we have some in a brokerage account that if I have a bonus for the year or for the six months based on my RV use, and we know we're not going to have a large expenditure, I'll move it into a money market account in case we have some upcoming expenses or into a long-term investment account.

Dr. Jim Dahle:
And how have you decided the most difficult question in personal finance, how much to put in tax deferred and how much to put in Roth?

Tyson:
That has been tricky. I will say for me, I don't want to say I'm a low earner, but being on the lower earning end of the spectrum for a physician, it is much easier for me to fill all my accounts tax deferred rather than in Roth. When I just think of the raw numbers and how I feel psychologically applying that, I tend to do everything tax deferred and then just do my Roth IRA once a year.

Dr. Jim Dahle:
Yeah. Well, putting all that into tax deferred, given your income, I'll bet that's substantially lowering your tax bill.

Tyson:
Yes.

Dr. Jim Dahle:
Do you have any idea about how much you pay in federal taxes a year?

Tyson:
The one thing I don't do on my own is file my own taxes and my CPA sent me our summary this year, and it was about 15%.

Dr. Jim Dahle:
15%. Yeah. Because you're getting the biggest tax break available to most physicians, which is to pour money into those tax deferred accounts. Okay. So what do you invest in? What do the investments look like inside those accounts?

Tyson:
Well, I wish I could say they're exciting. I'm looking at my Excel spreadsheet right here, and they are split between, in my equities, large cap, international, and small cap. Then I try to keep about 10% bonds, but with the growth of the equity market in the past few years, I need to rebalance because I'm at about 7% bonds right now.

Dr. Jim Dahle:
Yeah. A few boring index funds.

Tyson:
Yes.

Dr. Jim Dahle:
It's amazing. And now you're a millionaire. All you did is just pour money into your retirement accounts and invested in boring index funds. And here you are a millionaire. You're not even 10 years out of training. And it basically took you the same amount of time it did for me, supposedly, not a high income specialty, but a moderate income specialty. And you got there just as quickly through your discipline. So, well done there.

Okay. Tell us how you did it. There's lots of docs out there. You look at surveys, net worth surveys, and 25% of docs in their 60s are not millionaires. And here you are eight years out of training, you're already a millionaire. What did you do differently that those docs didn't do?

Tyson:
I think we were very intentional. I do have a core belief, if you will, of you can change what you can measure or what you measure. And so, I think one of the most important things from a financial standpoint that we can measure is our net worth.

And with that, and understanding how to grow net worth, just a simple discipline with margin over time, just trying to stay disciplined and contributing to investment accounts, even when times are hard, or when times are good, and then maintaining that margin. Saving more than we spend, and then just giving it that time. The time is the part of the equation that I am understanding better and better, I think.

Dr. Jim Dahle:
And what do you think your savings rates been the last year, two or three?

Tyson:
I would say it's been between 33 to 40%. And again, that's variable, depending on my wife's shifts and the amount of when she's on night shift, the differential that she gets. We have a little bit more take home to spend when she's on nights, but I don't enjoy that. I would much rather her be working days.

Dr. Jim Dahle:
Yeah. Okay. But you're saving quite a bit of money. This is part of your success is yes, you're not making a gazillion dollars, but a whole bunch of what you are making is going toward your investments. And that's partly why they're growing so rapidly.

Okay, you guys have had a little bit of a challenge the last year or so. Do you want to talk any about that and how that's affected your financial plan or how your financial plan has helped you deal with that?

Tyson:
Yeah, it is something I do want to be sure to share, because I think it's important. Being a geriatrician I work with a lot of people towards the end of their life. And I get to hear reflections on life lived and experiences and the joys and the downsides of having a long life. And this year, my wife, my partner was diagnosed with an ovarian tumor. Fortunately, it turned out to be a mucinous borderline ovarian tumor and a borderline tumor.

I'm not a gynecologist. I'm not a gynecologic oncologist, but it is less risky than a malignant cancer. It still has a chance of recurrence and still has a chance of turning malignant if it does recur. But this major health condition really shifted my mental state when it came to money.

For some background, my partner and I met in high school, got married right out of college. And in 2020 was our 10 year anniversary. Of course, we didn't do anything big in 2020. I don't think anybody did anything big besides work and think about COVID. In 2025 is our 15 year anniversary. And we had just moved to Colorado or back to Colorado.

This year, after this major health condition, I've been able to look at spending a little bit more freely and had some psychological freedom when it comes to spending. And as a part of our major move back to Colorado, one of her caveats was that she wanted to have a place to sit outside in our backyard. And so, we're doing a major home renovation this year too.

All that to say in my IPS, I did not have a reason to look back at it with a major illness. And so, after we had this major illness, I've since gone back and revised my IPS for reasons to revise it. And that does include a major life limiting or life threatening illness. So that I keep in mind the overall goal of this money is not to just have it and hoard it. It's to enjoy life in the day to day and enjoy life in the year to year that we have.

Dr. Jim Dahle:
Do you think you've shifted your balance of how much you save for future you versus spend on current you now?

Tyson:
I don't think we've actually shifted. I haven't changed any of my contributions, but the spending comes easier.

Dr. Jim Dahle:
A little bit easier to spend money now than it used to be. Do you find yourself doing more satisficing than optimizing?

Tyson:
Oh, for sure. For sure. I really liked those terms by the way. I use them. I teach the residents and fellows. I do think I very much used to be an optimizer and now I would call myself a satisficer. If it gets me 90% of the way there, then I'm going to be happy with that because the 10% that we have could really bring extra joy.

Dr. Jim Dahle:
Well, having a million dollars saved for retirement at such a young age, that's going to double probably a couple more times while you're working. I don't know that you're necessarily at what we'd call Coast FIRE yet at this point, but it's certainly a great start to retirement savings and maybe gives you a chance to take your foot a little bit off the gas pedal and start going, “Well, what other financial goals do I have?” You mentioned sitting outside, which is much more pleasant in Colorado than Texas, as I recall. Less bugs, less humidity, et cetera. Maybe more impressive views depending on where you're at in Colorado. But do you feel like you're now focused more on these shorter term goals and longer term goals?

Tyson:
Yeah. I'm writing a plan. I had a plan for retirement and what that would look like. And being a geriatrician my expectation that was that I would not outlive my partner. And so, I wanted to have enough in retirement that she would be well taken care of. I still have that goal. That's still a long term goal.

But this event this past year has really shifted that and made life a little bit more exciting in the short term, because I look at these short term goals like this renovation that we have coming. It's going to help both of us enjoy what I like to call the small life, the day to day life. Wake up, go to work, come home, and we can all get really caught in that grind. But how do I intentionally enjoy my small life, my day to day life?

Dr. Jim Dahle:
Now, there's somebody out there that is like you were four years ago, eight years ago, whatever their geriatrician or a pediatrician or preventive medicine doc or a family practice, whatever relatively low paid specialty, and they want to be where you are, they want to be a millionaire, they want to have all these options you have and this financial freedom you have, what advice do you have for them?

Tyson:
I'll start out by saying a million dollars is achievable. I grew up in a public school teacher household and my dad would take me to McDonald's when my mom was tutoring early in the morning. And I remember the million dollar Monopoly game. I got a park place once and I was so excited because I thought this is how we become millionaires. Seven year old me.

Dr. Jim Dahle:
Nobody told you there were 10,000 park places and only two Broadway.

Tyson:
Right, I had the park place exactly. But it's achievable. You just write down your goals, your net worth measure, and then you can change that you can change what you measure. I would just encourage everyone to be active in their planning.

Dr. Jim Dahle:
Very cool. Good advice. Well, congratulations to you on your success. I'm sorry for what you've had to deal with more recently. We're grateful for you coming back on the Milestones to Millionaire podcast and give us an update as you reach your next milestone. Absolutely.

Tyson:
Thanks, Jim.

Dr. Jim Dahle:
All right. I hope you enjoyed that interview. It's always nice to have some longitudinal follow up with the people who have been on the podcast. I know a lot of you are in specialties, not like me in emergency medicine, where you don't necessarily want to see any patients more than once. And you get to follow up with patients all the time as they go throughout their lives.

I don't get that as often, but I do occasionally here at the White Coat Investor. Maybe it's an email somebody sends 10 years later after I originally answered a question for them back in 2016 or something, and they just let me know how things are going. It's really gratifying to hear how successful you all have been out there, as well as how you've been able to overcome some of the challenges you've faced.

Congratulations to all of you who've been here long term. It's a wonderful community, the White Coat Investors. And however you choose to interact with it, whether it's just listening to the podcast, or whether you're also in our online communities, or you come to our conference or something like that.

It's wonderful to build these relationships with you over time. And yes, there's a lot of you. It's hard for me to remember names and faces, always has been. It's even harder since I whacked my head in the Tetons a couple of years ago. But it's very gratifying and really keeps us all going knowing that we're helping real people out there like you.

FINANCIAL BOOT CAMP

Dr. Jim Dahle:
The match is a contribution made to your 401(k) or similar retirement account like a 403(b) from your employer. And it is often contingent on you putting some money into the retirement account.

The idea is that the employer is trying to encourage you to save for your own retirement by giving you a little bit of extra money if you will do so. However, it becomes very complicated sometimes. And it's hard to understand the language that the employers are using for this benefit.

For example, something that might be typical is that the employer will match 50% of the first 6% that you put into your 401(k). Well, what does that mean exactly? Well, 6% of what? 50% of what? Well, often what they're saying is that they're talking about 6% of your salary.

So, let's say that if you make $300,000 per year, and you put in 6% of that, or a total of $18,000, the employer will give you 50% of what you put in or $9,000. And if you put in $18,000, the employer puts in $9,000, now there's a total of $27,000 in the account. $9,000 is the match.

The most common vesting plan, meaning when the money becomes yours for this match is immediately. But there are other vesting plans. Sometimes you have to stay with the employer for perhaps as long as five years to actually be vested in the employer's contribution to the plan.

You should pay attention to that as well when you're reading your 401(k) plan document. What is the match? How is it calculated? When does it become your money? And if it's not clear from the 401(k) plan document, which HR is required to give you if you ask for it, just go into HR and start asking these questions. “What does that mean? 50% of what? 6% of what? When am I vested in the match?” And make sure you understand how the plan works.

This is a really important part of saving for retirement. For lots of docs and other high income professionals, a big chunk of your retirement savings is often in these employer plans. So you need to understand how they work. It should be a pretty high priority when it comes to saving for retirement. Not only is the money in that 401(k) or other retirement plan protected from taxation as it grows, but it's protected from your creditors too.

If you for some crazy reason are one of the very rare docs that gets sued for above policy limits and that's reduced on appeal and you have to declare bankruptcy, you get to keep the money in your 401(k). That's a great reason to put your first dollars that you're saving for retirement into an employer provided plan like that.

Okay, keep in mind that you can put in more money than the amount they will match most of the time. For example, in 2026, you're allowed if you're under 50 to contribute $24,500 into your 401(k) or 403(b) as an employee contribution.

Now the match doesn't count toward that. It's above and beyond that. The total of your contributions, the employer contributions has a higher number something upwards now of $70,000.

And keep in mind that those numbers change every year. They tend to be indexed to inflation. So, you should go to our numbers page, whitecoatinvestor.com/numbers, where you can see a current listing of all the annual contribution limits and those sorts of numbers, because they do change every year. And that makes every piece of content we make every year where we mentioned these numbers be out of date within one year. So, check that for the current year to know the exact amount that you can contribute.

I do this all the time. If I have to look something up, I quickly Google it or pull up that numbers page and just make sure I'm using the right number because it does change so frequently.

Many employer 401(k)s do not allow you to put in as much as the IRS would allow to be put into the 401(k). And that's a result of some non-discrimination testing that 401(k) and similar plans have to pass.

Basically, all the benefits of these retirement accounts cannot go to just the highly compensated employees like the docs. And if it turns out too many of them are going there, the employer has to pay penalties.

Now, all the penalties are additional contributions into the retirement accounts of the non-highly compensated employees. It's not some terrible thing, but lots of employers don't want to pay those. And so, they limit how much the highly compensated employees can put into the plans to an amount less than what the IRS would actually allow.

Keep that in mind if you're starting your own 401(k), your own practice, or if you're a sole proprietor and you're the only person working for your company, you can set up solo 401(k)s that allow you to put more money in than lots of employers would allow you to put in.

Now, you're the source of the match, of course, when you're also the employer, but it is nice to be able to get more money into that tax-protected and asset-protected account. I hope that helps you understand how employer matches work into your retirement accounts.

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Dr. Jim Dahle:
This podcast was sponsored by Bob Bhayani at Protuity. One listener sent us this review. “Bob has been absolutely terrific to work with and has always quickly and clearly communicated with me by both email and or telephone with responses to my inquiries usually coming the same day. I have somewhat of a unique situation and Bob has been able to help explain the implications and the underwriting process in a clear and professional manner.”

You can contact Bob by calling (973) 771-9100, emailing [email protected], or just going to whitecoatinvestor.com/protuity.

All right, I hope you enjoyed the podcast. We'll see you next time on the Milestones to a Millionaire podcast. Until then, keep your head up, your shoulders back. You've got this. Let's get going toward your next milestone. See you next time.

DISCLAIMER
The White Coat Investor podcast is for your entertainment and information only. It should not be considered financial, legal, tax, or investment advice. Investing involves risk, including the possible loss of principal. You should consult the appropriate professional for specific advice relating to your situation.

Dr. Jim Dahle:
One of the most common questions we get here at White Coat Investor is whether somebody should pay off debt or invest, and that question can come in a lot of different forms. People talk about whether they should prepay their mortgage or how quickly they should pay off their student loans or those sorts of questions, but the bottom line is they're asking, should I invest this money or should I use it to pay off debt, whatever the debt might be?

Well, perhaps the best advice I can give on this topic is to avoid extremes. What I mean by that is that most of the time when you have this question, there's no right answer. Either one is actually fine, but perhaps five or ten percent of the time there is a right answer. If you're giving up an employer match in order to pay off debt, you're probably making a mistake. You're leaving part of your salary on the table. If you're carrying around credit card debt with a 30% interest rate in hopes that your investments will outperform that, you're making a mistake. So there are some extremes. Avoid extremes when it comes to this question.

Just about everything else in between, I can probably come up with a situation where it might make sense to invest, but where it could also make sense to pay off debt, no matter what kind of debt that might be. Recognize these are both good things. Paying off debt increases your net worth because net worth is everything you own minus everything you owe, and paying off debt reduces how much you owe. Investing increases your net worth because it increases everything you have, so it works on that side of the equation. Both are good things to do, so don't stress yourself out trying to figure out which one to do. They're both going to increase your net worth. They're both good things, and heaven forbid that you choose the second best thing when you have two good things to choose from. It's not that big of a deal. Take a deep breath, relax a little bit, and recognize that there might be one that's a little bit better than the other for you, but it's probably six of one, half a dozen of the other most of the time.

The most important thing when it comes to building wealth, when it comes to reaching your financial goals, is to look at what percentage of your income is going toward building wealth through investing and paying down debt rather than consumption. So let's talk about seven principles that will help you determine whether you should pay off your debt or invest.

The first one is probably your attitude toward debt. Some people just hate it. They absolutely hate it, want to be out of debt just as soon as they can, and will never go back into debt. I'm not quite that extreme, but I don't like it. I disliked it enough that it was a major factor behind why I spent four years on active duty in the military. The more you dislike being in debt, the more you are likely to want to pay it off instead of investing.

On the other hand, there are people who love debt. There are people who think you should stay in debt your entire life. So there's a significant behavioral aspect to this. Sometimes the math would indicate you should carry debt and invest, but behavioral and cash flow considerations often argue for just paying it off. Because yes, if the argument really is pay off debt or invest, you can have the argument, but too much of the time people don't actually invest the difference. They spend the difference. So there's that behavioral aspect of paying off the debt. Your attitude matters.

The second factor is your risk tolerance. If you're not going to invest aggressively, you might as well get the guaranteed return available from paying off debt. If all your investments are things like whole life insurance, CDs, money market funds, and cash under your bed, and you've got debt that's at 4%, 5%, 6%, or 8%, it makes sense to pay off the debt. That gives you a guaranteed return higher than you're making on your investments.

The third factor to consider, the third principle, is what investment accounts are available to you. This had a major effect on our debt versus investing choices over the years. For example, if we had a nice tax deal being offered to us by investing in a 401(k), a Roth IRA, or something like that, we usually took it instead of paying off low to moderate interest rate debt. We paid off our mortgage in less than seven years, but we never put an extra dime toward our mortgage until we had first maxed out all our retirement accounts, our HSAs, and as much as we wanted to give to our kids via 529s and UTMAs and those sorts of things.

The fourth principle to be aware of is your anticipated investment return. That's where the math comes in. If you're expecting to earn 10% on your investments and your debt is at 2%, even if it's a variable 2%, it seems kind of dumb, at least from a mathematical perspective, to pay off the debt. Investments with high expected returns may deserve priority before paying off debt, and vice versa. Bear in mind, of course, that the only returns that count are the after-expense, after-tax, after-inflation returns. Market valuations might play into this as well. Right at the bottom of a bear market, maybe you're better off investing than paying off debt, and at a market high that's been a market high for years, maybe that's the time to be paying off debt rather than investing. There's a lot of factors that go into that. It feels like market timing, and it is, but there's no necessarily right answer to the question anyway. Why not try to time the market a little bit?

The fifth principle is the interest rate of the debt. This is the other half of that mathematical equation. If you've got 8% debt, that's a lot harder to out-invest, especially when you adjust for risk. The investments that tend to beat an 8% debt tend to be pretty risky, whereas getting that 8% return by paying off the debt has no risk at all. Once you adjust for risk, the higher interest rates are a lot harder to out-invest, so keep that in mind. A lot of people talk about, “I'm never paying off this mortgage because it's 2.5%,” and that's what they're talking about. They're talking about the effect of that interest rate.

The sixth factor is the level of wealth. You're basically asking yourself, do you need to invest on leverage in order to reach your financial goals? If you're just getting started in life and your net worth is $100,000, it probably makes sense to invest a little bit on leverage, maybe carry that relatively low interest rate mortgage a little longer than you otherwise would in order to invest more money. On the other hand, if you're 55 and you've already got $6 million and you figure you only need $5 million to live for the rest of your life, you have to ask yourself if you want to keep playing a game you've already won. Bill Bernstein would tell you, “When you win the game, stop playing.” What he's talking about is stopping the risks like leverage risk that you have from carrying debt. Of course, once you have a significant number of assets, your debt is not really moving the needle anymore. A 1% $30,000 car loan is not a factor in your life when you have $10 million. Even a $300,000 mortgage probably isn't a factor in your life at that level of wealth. The wealthier you get, the less you probably need to be trying to arbitrage the difference between your debt interest rates and what you're going to earn on your investments.

The last factor involves asset protection and estate planning, just to make this decision a little bit more complicated. Not only is this one of the more common questions that White Coat Investors have, but it's one of the more complicated ones. There are a lot of asset protection and estate planning considerations when it comes to your debt. For example, in Texas and Florida, your homestead is 100% protected from creditors in an above-policy-limits judgment not reduced on appeal kind of situation. Those are very rare, obviously, for doctors, but it might cause a doctor in Texas or Florida to pay off their mortgage faster because they know that home equity can't be taken from them if they had to declare bankruptcy. Whereas if you're in a state like Utah, where maybe you only get $80,000 of your home equity protected in that situation, maybe you're a little more likely to invest rather than pay off that debt.

On the back end of life, imagine an 85-year-old not in great health who has a bunch of taxable assets with very low basis, meaning the capital gains, if they sold them, would be very high. They might choose to borrow against the assets rather than sell the assets because the interest is not nearly as high of a cost as the capital gains, and the capital gains will be wiped out when they die and their heirs get a step-up in basis. In that situation, it might make sense not to pay off debt. In fact, it may even make sense to take out more debt rather than liquidating the taxable assets and paying those capital gains taxes.

There are lots of factors there, but in general, you can make a list of the financial order of your priorities. Of course, you're going to put things like getting your employer match at the top of the list and paying off high interest rate debt, anything higher than about 8%, toward the top of the list. Then you're going to get to things like maxing out your available retirement accounts and investing in assets with high expected returns like stocks and real estate. Then maybe you'd be interested in paying off more moderate interest rate debt, like debt at 4% to 8%, before investing in assets with expected returns in that range. Then maybe you get to the lower interest rate debt and the lower expected return assets when you make that list for yourself.

The bottom line is what really matters is how much money you're putting toward wealth building, not exactly where it goes. Just avoid the extremes when it comes to paying off debt or investing. You don't want to be borrowing at 12% to try to out-invest it, and likewise, you don't want to necessarily pay off every cent of your 1% student loans before you ever invest $1. Don't do something extreme, and you'll probably find some place that's going to work just fine for you.

The White Coat Investor Podcast is for your entertainment and information only and should not be considered financial, legal, tax, or investment advice. Investing involves risk, including the possible loss of principal. You should consult the appropriate professional for specific advice relating to your situation.