Podcast #168 Show Notes: Retirement Accounts vs Real Estate

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Should you pull money out of retirement accounts or skip investing in retirement accounts in order to invest in real estate? No. With this pandemic and change in physician incomes, many have been looking at other sources of income outside their medical practice.  I worry when someone is being told to pull money out of their retirement accounts before they need to spend it in retirement or before required to by the government. I think you need to be a little bit worried anytime someone is recommending against something that is so beneficial to you, like retirement accounts are for doctors.  But I totally understand that real estate investing is really attractive to people. It is a great asset class with a lot of benefits. But I never invested in real estate, outside retirement accounts, until I had maxed out my retirement accounts. I recommend you do the same. In this episode I discuss why, with the tax benefits, estate planning benefits, and asset protection benefits provided you in retirement account contributions. But I also talk about what your other options are to still invest in real estate if you choose.

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Quote of the Day

Our quote of the day today comes from David Swenson who said,

“Sensible investors rely on themselves. A strategy of professing ignorance and handing assets to a trained professional invites failure.”

I agree with that. You still have to be involved, both in your business and in your own personal finances.

Retirement Accounts vs Real Estate

The topic for this episode was triggered by this email I received,

“I know you’re familiar with the Semi-Retired MD program to advise and teach MDs on real estate investing. They’re actually pulling money out of 401(k), etc. I contribute $75,000 plus a year, closer to $90,000, maybe, to retirement accounts. I’m faced with the dilemma of not contributing to the cash balance plan in order to use the money for real estate investing. Honestly, that sounds crazy to me. It’s a huge tax savings upfront that I doubt can be regained even in smart real estate investing. What are your thoughts on this?”

I always worry when someone is being told to take money out of retirement accounts before they need it to spend in retirement or before they’re required to by the government as a required minimum distribution. It always makes me worry that you’re being sold something. I think you need to be a little bit worried anytime you see someone recommending against something that is so beneficial to you, like retirement accounts are for doctors.

But I totally understand, too, that real estate investing is really attractive to people. It’s a great asset class. I invest 20% of my portfolio in real estate. It has a lot of benefits. The returns are solid. The correlation with your stocks and bonds is low to moderate. There are some unique tax advantages, mostly depreciation that can be passed through to cover that income from the real estate so that it can be tax-free income sometimes if it’s structured properly. There are lots of benefits to real estate.

I think a lot of doctors got a bit scared this spring when they saw their paychecks go down, didn’t get their raises, or were asked to take time off they weren’t planning on taking off. They started really looking at side gigs and passive income kind of stuff more seriously.  That said, I never invested anything in real estate, at least outside of retirement accounts, until I had maxed out my retirement accounts. I think those benefits are so huge for doctors that I wouldn’t pass them up.

Benefits of Investing in Retirement Accounts

There is the big tax benefit. Just having tax protected growth on that money, not only for the rest of your career, but for 20 or 30 or 40 years in retirement, is massive. It is a huge benefit to be able to not pay taxes on your dividends and interest and capital gains as that money grows.

In addition to that, most doctors, maybe not the super savers of you out there, but most doctors are going to save money at a much higher tax rate during their peak earnings years than they are going to pull that money out at in retirement. Remember, when you pull that money out, for most doctors, those tax deferred retirement accounts are going to be a large part of your taxable income in retirement. You can use that to fill the brackets.

If you’re married, the first $24,800, the standard deduction, that comes out those accounts every year is tax free. Then you get another $19,000 that comes out at 10%, another $50,000 that comes out at 12%, another $75,000 that comes out at 22%. I mean, that arbitrage between the tax rates is super, super valuable as well.

That’s why I’m very hesitant to tell people to pass up contributions to these retirement accounts, no matter what the investment is going to be that you invest in otherwise. It has to be a heck of an investment to make up for that.

But wait, there is more. What else is the retirement account good for? It facilitates your estate planning. All you have to do is name a beneficiary, no need to hassle with a trust; that money doesn’t go through probate. It goes immediately to your beneficiary when you die. So retirement accounts have these great estate planning features as well.

One feature that matters a lot to doctors, maybe it shouldn’t matter as much to them as it does, but doctors are all terrified of being sued above policy limits and losing everything. In most states, your retirement accounts, the protected ones, the 401(k)s as well as your IRAs, receive substantial asset protection.

In many states, even if you had to declare bankruptcy because of some crazy one out of 10,000 suits above policy limits, you’d still get to keep everything in your retirement accounts. While you can try to protect real estate with LLCs, et cetera, outside of retirement accounts, that protection is not nearly as good as what is afforded retirement accounts.

So, between the tax benefits, the estate planning benefits and the asset protection benefits, I really would not pass up on retirement account contributions in order to invest in real estate.

Other Real Estate Investing Options

So, what are your other options? Ideally, you’re saving so much that you can max out your retirement accounts and still invest in real estate. That is actually pretty easy for a lot of doctors because they don’t have great retirement account options. Maybe an HSA isn’t right for them, so they have a backdoor Roth IRA, maybe a spousal backdoor Roth IRA, and maybe a 401(k). That’s not uncommon for many employee doctors. That’s all you have. If that is the case, it shouldn’t be hard to invest above and beyond the retirement accounts because you need to be saving 20% of your income and you can’t get 20% of your income into retirement accounts.

But if you have some huge cash balance plan available to you, that becomes a little bit harder. If you’re able to put $100,000 or $200,000 a year into retirement accounts, it can be tough to save more than that, on a physician income. And so, I empathize with you there.

There are other options above and beyond that. For example, you can just invest in real estate inside your retirement accounts. Most of you know about real estate investment trusts. Most of these are publicly traded on the stock exchange, and you can buy them in a mutual fund, just like you can any other stock. You can just go buy the Vanguard real estate investment trust index fund. You can buy that in your IRA or maybe it is available in your 401(k) and you can get real estate exposure in your portfolio using that.

There are other real estate companies. There are other real estate funds. TIAA has a real estate fund. But you can just buy publicly traded real estate inside your retirement accounts. That is relatively easy to do. If you want to buy private real estate, you can do that inside retirement accounts, as well. However, they have to be special retirement accounts, self-directed retirement accounts.

It’s relatively easy to open a self-directed IRA or self-directed Roth IRA. If you have an individual 401(k), you can get a self-directed individual 401(k) instead of just opening a cookie cutter one at Vanguard, Fidelity, or Schwab. You can actually hire a company to basically write the plan document correctly so that you can have that feature in your 401(k).

My 401(k) right now has that feature. We haven’t actually used it, but I told them to throw it in there when they designed the plan. I needed some other features that I needed a customized plan for, primarily mega backdoor Roth IRAs. But our plan has that feature. It’s not that hard to get. So, if you are using an individual 401(k), you can just set it up so that it allows for self-directed investments like that. That is a great option. I have a couple of providers of self directed retirement accounts I recommend.

You can even buy individual properties. You want to buy the house down the street and rent it out? You can do that inside your self-directed IRA or self-directed 401(k). Just keep in mind that every dollar that goes into that property has to come out of the retirement account. And every dollar that comes out of that property has to go into the retirement account. You can’t mix this with your personal assets. So, it’s a little bit more complicated that way. But it is something that can be done.

You do need to be a little bit careful about unrelated business income tax. This applies in a self-directed IRA, but not a self-directed 401(k). Basically, if that property is leveraged, you may end up still paying taxes, even though it’s inside your IRA. So, learn about those rules if you’re going to have a leveraged property inside a self-directed IRA.

If you’re really into real estate, you took this Semi-Retired MD course, and you really want to get started, but all your money’s in retirement accounts, you can take a 401(k) loan. You can borrow the maximum of either $50,000 or 50% of the balance, I guess, whichever one’s lower, from your 401(k) and use that as a down payment on a property.

Then you can slowly pay back your 401(k). It has to be paid off over five years. Remember, if you separate from the job, you have to pay that back by the time the next tax day rolls around. So, if you borrow the money in January and you quit, you have to put money back into the 401(k) by the next April 15th, unless you file an extension, then you have till October. So, that could give you quite a few months of being able to use that after you quit a job. But if you stay with the job, you have five years to pay it back. So that’s an option.

The last option, of course, is just withdrawing money from your retirement account. I don’t think that’s a good idea. That is a big tax hit for a working doctor because you’re going to pay at your ordinary income marginal tax rate. For most of us, that’s 32%, 35%, 37%. Plus, you have to pay a 10% penalty. So, you might be pulling that money out at 40% or 50% effective tax rate. That is not a good deal. It has to be a heck of an investment to do that.

So, I would still try to max out my retirement accounts and invest in real estate in addition to that, if you so desire. Remember that real estate is optional. Many doctors, including myself and the Physician on FIRE, became wealthy, even financially independent, doing nothing outside of boring, old index funds invested mostly in retirement accounts.

Even now only 20% of my portfolio is in real estate. It’s just an asset class. It’s a good asset class, but it’s just an asset class. Don’t put it on some pedestal that it doesn’t necessarily deserve like many real estate gurus, books, blogs and courses do. Especially, if you actually like what you do and you are willing to work a reasonably long career.

Now, if you’re trying to become financially independent in six years out of residency, you’re probably going to need to take a fair amount of risk, both entrepreneurial risk and leverage risk, and that’s the sort of thing that real estate can help you with. But if you’re okay with a typical 20- or 30-year career and saving 20% or so of your gross income, you will get to financial independence without ever touching real estate. So, I hope that makes it clear on how those two factors can mix together for you.

Reader and Listener Q&As

Stable Value Funds

A stable value fund is essentially a portfolio of bonds that is insured to protect the investor against a decline in yield or a loss of capital. So, the owner of a stable value fund will continue to receive the agreed-upon interest payments regardless of the state of the economy.

It is a common option in some retirement plans. It’s not all that dissimilar from the TSPG fund. The idea behind this for federal employees is that you get treasury bond yields with money market risk. So, you’re getting a bond-like instrument. The yields are usually a little bit less than you can get with bonds because something has to pay for that insurance, but you can’t lose principal value.

So, think of it like a money market fund on steroids. It is fine to use it in your portfolio, if that is an asset class you want in your portfolio. This is a very low-risk thing to invest in. Don’t expect super high returns out of it, but at the same time, you’re not taking a ton of risk on with it.  Almost all of the ones I’ve looked at that are in people’s 401(k)s are fine to use. Some are obviously better than others.

Changing Allocations in Your Investing Portfolio

A listener asks how should your asset allocation change as you approach retirement? There is no Bible on this topic. Everyone has an opinion and no one really knows whose opinion is right. In the long run, the more aggressive the asset allocation, the more likely it is to have higher returns. But at the same time, your ability to tolerate fluctuation and volatility in the value of your portfolio is lowest around the time of retirement. This is known as sequence of returns risk.

The idea is that your returns in those last few years of your working career, your accumulation stage, and the first few years of your retirement, or your distribution phase, are much more important to your overall lifetime portfolio performance than any other years. The idea is to have those years be a little bit less volatile.

Some people call this a bond tent, increasing the percentage of bonds for five years before retirement and five years after retirement. Other people set a formula up in advance that every year of their career, they’re going to go down in their stock to bond ratio by 1%. So maybe they start out at 75/25 and each year they go down to 74/26, 73/27, etc. year by year until they get to the retirement date. It is fine to have that written into your investment plan, as well.

I think that’s the key, though. Just pick a plan, something reasonable, and put it into your investment plan. Thus far, I basically kept my portfolio static throughout my career. Basically 60% stocks, 20% bonds, 20% real estate. And that works for me. I may just carry that on through into retirement because I’m pretty tolerant of the fluctuations. You may just choose a static portfolio as well. But I think the key is to write it down, put it in your investing plan, and follow it.

My recommendation is you look at all your money for retirement, even if that includes a taxable account, as one big portfolio. You’re not necessarily changing each account’s asset allocation. You just want to change the overall asset allocation, as needed.

Fixed Index Universal Life Policy

“Our new CEO recently championed and introduced a new retirement plan option based on a split dollar life insurance loan regime plan he had at his prior job. The underlying product this plan is using is a fixed index universal life policy. I read extensively on your site about the perils and disadvantages of FIUs. However, since this plan is being administered through my institution, its structure is different than that of commercially available FIUs in that my hospital system decreases my salary to the amount I select, then places that amount as a pretax loan plus a 15% match on top to cover the majority of insurance and death benefit expenses.

While I understand the annualized returns on this product are very unlikely to rival an after-tax stock portfolio, the ability to decrease my income tax burden while also giving me the ability to loan money out to myself tax free seems very attractive. Do you see this as a beneficial vehicle for retirement and/or decreasing my annual taxable income? And if so, how do you recommend I determine how aggressively I should fund this new option?”

This is a complex question. I have a post all written about split-dollar life insurance. I’ve titled that “Why I hate split-dollar life insurance.” It will run at some point in the next few months because I get this question by email pretty frequently from people whose hospital is putting a split-dollar plan in place.

I think the best way to think about this, to be able to understand what’s going on, is that a cash value life insurance policy is being sold to your employer. If you remember that, you will understand split-dollar life insurance.

Is it a benefit? Well, think of it this way. If somebody else is going to buy me a whole life insurance policy, I’m going to take it. It’s not that the asset doesn’t have value. It does have value. I wouldn’t buy it myself, but I’ll take it if someone else is going to buy it for me.

With the split-dollar life insurance plan, what your employer is usually saying, and every one of these is a little bit different, is that I’ll pay part of it. So, the employer is now paying part of it and you are paying part of it. Well, now is it worth it to you? It is harder to say. If they’re paying a big part of it, it certainly is. If they’re only paying a tiny part of it, maybe it isn’t.

So, the first thing I might do, if this was something coming from my employer, is try to talk my employer into offering me something else. Maybe putting a cash balance plan in place instead. Or talk the employer into paying the lion share of it, at which point it is probably worth taking for you.

But if I found myself paying for the majority of the premium, I get a lot less excited about it. Then all the downsides of dealing with cash value life insurance come into play. I’ve outlined these many, many times on the blog and on this podcast. In essence, it isn’t that there are no benefits to it. It’s just that you end up paying too much for the benefits.

You can see why an insurance agent would go to your employer and try to sell this sort of a plan to them. Now they don’t have to go to the individuals. They can just go to one company and, all of a sudden, they’ve sold 30 policies or 100 policies or 300 policies. Obviously, there are some massive commissions there and this agent is making out like a bandit.

So, keep in mind what is happening with the split-dollar life insurance policy. A cash value life insurance policy is being sold to your employer. All you have to decide is whether they are paying for enough of it, that it’s worth it to you to pay for the rest, in order to get the benefit.

Typically, what happens when you separate from the employer is you can take the policy with you. You can buy it, essentially from the employer and take it with you. But then what do you have? You have a cash value life insurance policy that you really have no need for, trying to convert it into some sort of weird retirement plan for you.

Now this post I have coming out is going to go into all the nitty gritty details. There are several different types of these. They call it an economic benefit plan. They call it an equity arrangement. They call it a loan plan. I go through what you should do with it in that post.  I’ll also discuss whether you should keep it after you separate from the employer. But I end that post with a section about whether the employer should offer this benefit. My opinion is no. If you’re an employer, don’t get suckered into buying these things. Offer your employees something they really want. If you’re going to put a bunch of money into a benefit, put a cash balance plan in place rather than a split-dollar life insurance plan. It’s not that awesome, no matter what that agent is telling you.

I think in this case, you said that the employer’s only given you a 15% match. So, they’re only paying for 12% or 15% of this policy. That doesn’t sound very awesome to me. I might just pass on it and just take the money in salary and invest it elsewhere.

But really, if you’re going to invest in this thing, it’s a lifelong commitment. You really need to understand it, understand what you’re buying, how it is likely to perform under various different economic situations, and go from there. That gets even more complicated when it’s not a whole life policy they’re offering, when it’s an index universal life policy. Now you’ve have a gazillion moving parts that you have to keep track of.

The bottom line is if the employer buys a lot of it, you might as well take it. If you’re having to buy all or almost all of it, I’d probably pass on it.

TIAA Investments

“TIAA has a couple of unique products. TIAA traditional and TIAA real estate account. I’d like to know your thoughts on these unique investments and how they would fit into one’s portfolio. Would you consider the TIAA as part of the fixed income portion of one’s asset allocation? If so, what percentage of the fixed income should it be, in your opinion? Would it be reasonable to use this instead of TIPS? For the real estate account, would you recommend investing in it if one has allocated 5% to 10% of one’s portfolio to real estate?  I know a lot of academic physicians work for universities that have access to these TIAA products.”

In general, TIAA is considered to be one of the good guys in the financial world. Both of these are common holdings in 403(b) plans. The fixed annuity is not a terrible option. It’s not a bad substitute for fixed income. It’s not going to act exactly like nominal bonds. It certainly isn’t going to act like TIPS. So, I don’t think it’s a TIPS substitute.

But if you want to include that as part of your fixed income allocation, I think that’s reasonable. I’d set a percentage for it. If you look back at this over the last year, returns were about 3.7%, so not too bad. They have a couple different types. One was 3.1%, one was 3.7%. I’d expect bond-like returns out of it. I think that’s fine to use.

As far as the real estate, there is a TIAA real estate account, which comes with the ticker Q-R-E-A-R-X, which really doesn’t have that awesome of returns over the last year. The expense ratios on these things are moderate, in the 0.55 to 1% range. A lot of people like it in that it holds real estate directly, rather than buying real estate investment trusts.  I’m not sure its performance has really been all that awesome the last few years.  I don’t hear people talking about it nearly as much as they used to.

TIAA also has a mutual fund. I’m not sure how the two are related, but this is an institutional fund, which I wouldn’t be surprised if that is in your 401(k), either. It’s T-I-R-E-X ticker. If you look at that over the last few years, it has 10 year returns of almost 12%. So that’s not too bad. Year to date this year, it is down about 7%, which isn’t too bad considering how real estate has done. It’s got an expense ratio of 0.51%, which is pretty high for an institutional fund, but not terrible as mutual funds go.

If you want to use that for your real estate holdings, I think that’s perfectly fine. I think I like that a little bit better than the real estate account. But it’s a little bit hard to see how the two of them interact with each other.

Again, if you want exposure to those asset classes, and they’re available in your 401(k), I think those funds are fine to use.  I don’t think it’s some terrible investment. I don’t invest in either one of them, but then again, I don’t have access to TIAA investments in my 401(k). So, it wasn’t even an option for me. Lots of people’s 401(k)s are a little bit unique that way. This is something that your 401(k) may have in it.

 

Roth Conversions

“I have a question regarding 457(b) Roth conversions and backdoor Roth. I just finished my training. I have a governmental 457(b), which I can do a Roth conversion to this year. And I was planning on doing that because it’s going to be a relatively low-income year. I also wanted to do a backdoor Roth conversion. I was wondering if there’s any reason that I can’t do both in the same year. So, I was hoping to do the 457(b) Roth conversion and a $6,000 backdoor Roth IRA contribution. Is there any rules or reasons that that should be not okay?”

If your 457(b) allows for Roth conversion, do it. Does a backdoor Roth conversion in the same year affect that? No, it doesn’t. People worry a little bit about the pro-rata rule for the backdoor Roth IRA. But remember that only applies to IRAs. SEP IRAs, simple IRAs, traditional IRAs, rollover IRAs, et cetera. It doesn’t apply to 401(k)s, 403(b)s, 457s, et cetera. All that stuff has nothing to do with the pro-rata rule for the backdoor Roth IRA. So, it’s perfectly fine to do both, a Roth conversion of a 401(k) or a 403(b) or a 457(b) or even a traditional IRA and a backdoor Roth IRA in the same year.

Disqualified for Disability Insurance

“I’ve contacted several of your trusted recommendations for disability insurance. They’ve all been very professional and helpful. Unfortunately, I have a medical condition that disqualifies me from getting disability coverage. I made the mistake of not enrolling in my employer’s group coverage when I first started at my hospital. My spouse works full time, and, if needed, we would be able to live off of his income. I wanted to see what adjustments you would recommend we should make in our financial plans, accounting for me not being able to hold disability coverage.”

This is an unfortunate situation because your best option, if you can’t get individual disability insurance, is work for someone that gives you a group disability insurance. I suppose you could change jobs, but outside of that, you may not be able to get a group policy.

One option might be going through a professional association. Your county medical association may have something set up. Maybe your specialty association has something set up that you could do. It’s worth looking into those things. But in this situation, you’re telling me you can live off your spouse’s income. In that case, maybe you don’t need disability insurance at all.

There are a lot of dual doctor couples out there that don’t carry disability insurance. They view each other as their disability insurance policy and feel like they could live off the other person’s income completely. I wouldn’t say that the majority of dual doctor or dual income couples do that. I think most of them probably buy at least a little bit of insurance on each of them, but it’s certainly an option. So, it’s not the end of the world. I’d be much more worried if you were married to a stay at home partner of some kind that didn’t have substantial earnings.

The other thing that you can do is just try to hit financial independence a little bit earlier than you otherwise would. When you become financially independent, you drop your disability insurance anyway, so that may also be an option. Maybe not now, but within a few years, especially on a dual income. You can save a lot of money on a dual income and reach financial independence pretty early. Even if you’re not quite there yet, the closer you are, the less risk you have from a disability. It just doesn’t hurt you that much when you become disabled.

Of course, you can also try again when the medical condition stabilizes. If you’ve been cancer free for five years, you can often go and get disability insurance. Maybe if your medical condition, whatever it is, becomes more stable, you can get a policy, even if it excludes that medical condition. So, don’t be afraid to check back in a few years. You may be surprised what you can get.

 

Investing Cash for Short Term

“My wife and I have been saving for a down payment on a house and have about $200,000 of cash saved up. But due to shenanigans from our employer, we have realized that we no longer want to work for this hospital for the long-term. So, we have put our house buying plans on hold. We’ll be looking for new jobs, probably even looking at a new city due to our noncompete clause. Thankfully, we have rented, as you suggested, and that is going to be a great boon to us. But we’re now pushing our house buying time estimate out to the three- to five-year range. What do you think you would do in this situation with the cash? Would you hang on to it since it’s still relatively a short investment horizon? Or would you deploy some or even all of it according to your written investment plan?”

This is why I tell people to rent until they know they like the job and the job likes them, for situations just like this. But now you’re three to five years away from buying a house. For whatever reason, that seems a little long to me. It would seem to me, if you change jobs in a year, within six months or a year of being there, you may know you’re now ready to buy. So that might only be a year or two away. But you’re telling me three to five years, I’ll take you at face value.

What should you do with the money that you don’t need for three to five years? There are lots of options. The first one is just leave it in cash. If you’re sure you don’t want this money for three years but you want the exact amount with no worry of it going down in value,  you can leave it in a savings account. You can leave it in the money market fund. It’s still going to be there. It’s fine to do that for any kind of short-term investments. A lot of people like the rule of thumb to not put anything in stocks or real estate that you need in the next five years. This money would fall into that category.

What else could you do? If you know you’re not going to buy anything for the next three years, you could buy a three-year CD. You get a little higher rate than you will in a savings account by doing that. You can take on a little bit more risk and you can put it into a short-term bond fund, or even a longer-term bond fund, intermediate fund, maybe.

In general, you want to keep the duration of the fund shorter than the time period when you’ll need the money. So, using that philosophy, you would stick with a short-term fund until you’re maybe a year out and then switched to a money market fund.

But if you’re willing to take more risks, you could put it into a balanced fund. Something like Vanguard Wellesley Income Fund. It’s about 35% stocks, 65% bonds. It’s a pretty good long-term fund. I think long-term returns over decades are like 9%-10%. But if you look at its worst year, it’s only like minus 5% or 6%. So, you could lose money there, but you’re probably not going to take a massive, massive hit on a fund that is 65% bonds.

You could also just move this money into your regular asset allocation for long-term investments and plan to start saving up again for your down payment and save it up between now and when you need the money. That would be a reasonable option, as well. I wouldn’t necessarily feel like you have any bad options there.

Retirement Withdrawal Strategy

“My question is regarding retirement withdrawal strategy. I am thinking down the road a bit. First, let me give you an idea of my financial context. I am 47 years old and I project that I will retire in 10 or so years. My portfolio will be approximately two thirds taxable, 20% to 25% tax deferred, which is currently a cash balance plan. 10% to 15% in a Roth IRA/HSA. I would presumably roll my cash balance plan over into a traditional IRA upon retirement. So, I have read a little about withdrawal strategies and want to get your thoughts. I have read about two similar yet different strategies. First, beginning at age 59 and a half years old and after retirement, I would withdraw enough from the tax deferred accounts to fill up lower tax brackets to use for spending. Next, I would dip into the taxable account.

Second, similarly, beginning at age 59 and a half and after retirement, I would withdraw enough from the tax deferred account to fill up the lower tax brackets, but then convert that money to a Roth IRA. So, spending would come from the taxable account brackets solely. Both are similar with the goal of trying to minimize the required minimum distribution by 70 and a half, but differing approaches as to what to do with that money. Do you agree with one of these approaches or are there any other approaches that you would recommend?”

 

He is trying to decide between two strategies. But in reality, there are two questions mixed together here. The first question is “Should he do Roth conversions?” And the answer to that is almost certainly, yes. This is someone who’s retiring at 57. He won’t have to start taking social security until 70. That gives you 13 years to do Roth conversions. With someone who has a big, huge taxable account and a relatively small Roth account, that wouldn’t be a bad idea to convert some of that tax deferred money to a Roth account.

Now, the idea is as you go along through the years, that you just convert the amount that takes you up to the top of the next tax bracket. So, if you find yourself in the 24% tax bracket, you would only do enough conversions that it would take you up to the top of the 24% tax bracket each year. So, that’s probably going to be a good idea for you to do Roth conversions.

The other question is, “Well, how should you spend the money? How should you pull the money out?” And there are a few general principles here with lots of exceptions to them.

As a general rule, you want to spend taxable money before tax protected money. You really have to keep in mind those benefits of retirement accounts. They protect your money from taxes as it grows. You don’t want to pay taxes on dividends, capital gains, any other types of distributions, as it grows. You only have to pay taxes when you take money out of the account. So, keep that in mind. As a general rule, if you’ll spend taxable first and then get into your tax protected accounts, you will end up with more money.

Also, as a general rule, you only want to use tax deferred money up to the top of the nearest bracket. Then if you need more money above and beyond that, you’d take from your tax free or Roth accounts. The idea with that is you can mix and match there enough and essentially set your tax rate in retirement. But when you have all three types of accounts, you have a lot of flexibility in choosing how exactly you’re going to withdraw from those accounts. You can essentially, if you want to, have lower taxes one year than another.

Keep in mind as you start spending a taxable account that you want to generally spend the high basis assets first. The stuff that doesn’t have much of a tax bill. For example, if you bought stuff at a share price of $100 and you’re selling at the share price of $110, you only have to pay long-term capital gains taxes on $10 a share. The rest of it comes out totally tax free.

But if you have low basis shares, you paid $10 per share, and now it’s worth $100 a share, that is going to cost you a lot more in taxes. So, if you’re planning on leaving money to charity or leaving money to your heirs, who would get a step up in basis at your death, you may not want to sell those low basis shares. That may be a reason to instead use retirement account money instead of taxable money.

So, like I said, lots of exceptions there. Especially if you’re in poor health, you’re in your last few years of life, this is not a great time to be selling low cost basis shares. Take advantage of that step up in basis at death and just spend from your retirement accounts in that situation.

But most of the time, your heirs would love to have a stretch Roth IRA left to them. That’s even better than a taxable account, even with the update in basis. So, lots to talk about there as far as retirement strategies. But the key is to individualize it, look at your tax bill, look at where you expect it to be throughout retirement, where it is during the accumulation phase. Then you can make some smart decisions about how to use money to lower your overall tax rate for you and your heirs throughout retirement.

Ending

Thanks for sharing the podcast with your friends and colleagues. Keep your questions coming on the Speak Pipe.

Full Transcription

Intro:
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. Here’s your host, Dr. Jim Dahle.
Dr. Jim Dahle:
This is White Coat Investor podcast number 168 – Retirement accounts versus real estate. Does your business accept credit cards from patients? Do you think you’re overpaying? You aren’t alone. Merchant Cost Consulting has the ability to reduce your credit card processing fees without switching your payment processor or management software.
Dr. Jim Dahle:
You keep everything you have in place and have the experts at Merchant Cost Consulting reduce your credit card processing fees to the bottom line. All you have to do is send over statements, receive an audit of the potential savings and let Merchant Cost Consultant reduce your fees. It’s that simple. For more information, go to whitecoatinvestor.com/merchant.
Dr. Jim Dahle:
Our quote of the day today comes from David Swenson who said, “Sensible investors rely on themselves. Strategy of professing ignorance and handing assets to a trained professional invites failure”. I agree with that. You still got to be involved, both in your business and in your own personal finances.

Dr. Jim Dahle:
It’s been an interesting day today. It’s still July 7th, same day we recorded last week’s podcast. We did that interview with Jesse Mecham of You Need a Budget last week, but in between our power came back on. We have been on generator power this morning, we lost power. And so, we’ve been running power cords everywhere from the generator to record the podcast. That was the first time we did that without actually having any city power. Now we’re back on regular power. And so hopefully this goes just fine.
Dr. Jim Dahle:
I actually just got back with my family from a backpacking trip. We went with our three younger kids up to the Sawtooth Mountains in Idaho and went backpacking for a few days. This was the first time our five-year-old actually had to walk the whole way. And so, she didn’t have a pack. Everybody else had a pack of about a quarter of their body weight, but she did not. And so, it was interesting to see how she would do. She has been most of the time hiking with a bag of Skittles in her hand. That seems to be her go-to hiking food that keeps her motivated.
Dr. Jim Dahle:
But, the last day, the two older kids decided they didn’t want to be backpacking anymore. And so, they wanted to put both of those last two days into one day and shorten the trip by a day. And so, we actually walked out over nine miles on the last day and the five-year-old did great. So, we’re very proud of her.
Dr. Jim Dahle:
July is one of those times when we compress all of our work in just a few days, it feels like so that we can go on some trips with the kids. And that’s the way our July is going to be. We’ve got a rafting trip coming up as well as a trip out to do some canyons in Colorado in the Ouray area that we’re looking forward to.

Dr. Jim Dahle:
There is actually one other trip Katie and the kids are going on, but I just could not fit one more trip in and actually get all the work I needed to get done in a month. Between eight shifts and all the White Coat Investor work, it was just a little too much. So, she’s got an extra trip in there that I won’t be going on, but looking forward to some more in August, I hope.
Dr. Jim Dahle:
If you didn’t hear last week, I’m putting out a call for conference speakers for WCI con 21. This will be the first week of March in Phoenix pandemic allowing, obviously, we’ll make that call later this fall. But if you would like to be speaker, I’d like you to apply. You can do so at whitecoatinvestor.com/facultyapp.
Dr. Jim Dahle:
The breakout sessions are going to have three general topics. The first is wellness.
The second is basic financial topics and the third is advanced financial topics. So, you’ll need to choose between those when you apply. And of course, if you were applying under the wellness category, your talk will need to qualify for continuing medical education and dental continuing education. So, keep that in mind as you apply, we’d love to have new speakers. We’d love to have speakers we’ve had in the past, but please apply there.
Dr. Jim Dahle:
Thanks for what you do. I know you’re out in a pandemic. It’s scary, just going to the grocery store is scary. As sports teams start back up and events start happening again. It’s scary just to go to work. And it introduces a level of anxiety, I think, into all of our lives that we didn’t have six months ago. Thank you for putting up with that. You’re doing it a lot more than many, many professions are, and please be careful out there.

Dr. Jim Dahle:
If you have not seen our recommended pages, one I wanted to highlight to you today is our financial advisor page. We revamped this in the last year based on feedback from you guys. We got feedback from people saying, “Hey, I can’t tell who I should hire. You got 50 people on a page, and I can’t tell the differences between them”. So, we set it up so that there are some premium listings at the top and you can really get to know these advisors.
Dr. Jim Dahle:
If you need help putting together a financial plan or you need help managing your assets these are people you can trust. But, over the last year we brought each of them on the podcast for a few minutes and recorded that segment with them and put that into their listing, there on that page. So, you can actually get a sense of who they are and what their philosophy is before you ever call them up.
Dr. Jim Dahle:
We’ve let them put videos up there so you can see what they look like. We’ve got more information, an entire additional page of information about them. So, hopefully, you find that more useful. Send us feedback, what you find useful and what you don’t. And we’ll try to serve you even better next year than we are this year.
Dr. Jim Dahle:
All right, let’s get into the topic of this podcast. I called it “The Retirement Accounts Versus Real Estate”. But it was triggered by this email I got, who said, “I know you’re familiar with the Semi-Retired MD program to advise, teach MDs on real estate investing. They’re actually pulling money out of 401(k), et cetera. I contribute $75,000 plus a year, closer to $90,000, maybe, to retirement accounts. I’m faced with the dilemma of not contributing to the cash balance plan in order to use the money for real estate investing. Honestly, that sounds crazy to me. It’s a huge tax savings upfront that I doubt can be regained even in smart, real estate investing. What are your thoughts on this?”
Dr. Jim Dahle:
And I do have some thoughts on it. I always worry when someone’s being told to take money out of retirement accounts before they need it to spend in retirement or before they’re required to by the government as a required minimum distribution. It always makes me worry that you’re being sold something. I think the classic example is this guy I blogged about a few years ago and he was calling it “Missed Fortune” back then. I think he’s calling it a “Live Abundant” now, but he’s a local guy here in Salt Lake City.
Dr. Jim Dahle:
And basically, his philosophy is, “Borrow all the equity out of your homes, pull all the money out of your 401(k)s and buy universal life insurance with it”. Index universal life. That was the whole philosophy. And of course, he’s getting these massive commissions on these huge universal life policies. And you wonder, “Well, why is he telling you to do that?” Because that’s the only place most people have money. It’s in their retirement accounts and in their home equity.
Dr. Jim Dahle:
And so, I think you need to be a little bit worry anytime you see somebody recommending against something that is so beneficial to you, like retirement accounts are for doctors. And they’re even more beneficial to doctors and they are to most people.
Dr. Jim Dahle:
But I totally understand too, that real estate investing is really attractive to people. It’s a great asset class. I invest in real estate. 20% of my portfolio is in real estate. It’s got a lot of benefits. The returns are solid. The correlation with your stocks and bonds is low to moderate. There are some unique tax advantages, mostly depreciation that can be passed through to cover that income from the real estate. So, that it can be tax free income sometimes if it’s structured properly. There are lots of benefits to real estate.
Dr. Jim Dahle:
I think a lot of doctors got a little bit scared this spring when they saw their paychecks go down or they didn’t get their raises, or they were asked to take time off they weren’t planning on taken off. And they started really looking at side gigs and passive income kind of stuff a little bit more seriously. And so, I kind of get what the attraction is there.
Dr. Jim Dahle:
That said, I never invested anything in real estate until I had maxed… At least outside of retirement accounts, until I had maxed out my retirement accounts. I think those benefits are so huge for doctors that I wouldn’t pass them up. I mean, there’s not only the big tax benefit, right? Just having tax protected growth on that money, not only for the rest of your career, but for 20 or 30 or 40 years in retirement is massive. It is a huge benefit to be able to not pay taxes on your dividends and interest and capital gains as that money grows.
Dr. Jim Dahle:
But in addition to that, most doctors, maybe not the super savers of you out there, but most doctors are going to save money at a much higher tax rate during their peak earnings years then they are going to pull that money out at in retirement. Because remember when you pull that money out for most doctors, those tax deferred retirement accounts are going to be a large part of your taxable income in retirement. And you can use that to fill the brackets.
Dr. Jim Dahle:
If you’re married, the first $24,800, the standard deduction that comes out of those accounts every year is tax free. Then get another $19,000 that comes out at 10%, another $50,000 that comes out at 12%, another $75,000 that comes out at 22%. I mean that arbitrage between the tax rates is super, super valuable as well.
Dr. Jim Dahle:
That’s why I’m very hesitant to tell people to pass up contributions to these retirement accounts, no matter what the investment’s going to be, that you invest in otherwise. It has to be a heck of an investment to make up for that.
Dr. Jim Dahle:
But wait, there’s more. Right? What else is the retirement account good for? Well, it facilitates your estate planning. All you have to do is name a beneficiary, no need to hassle with trust, that money doesn’t go through probate. It goes immediately to your beneficiary when you die. And while the stretch IRA has been a little bit neutered, as of late, you still get a stretched IRA, you still can stretch that money out for 10 years. And actually, you don’t have to take any required minimum distributions in those 10 years.
Dr. Jim Dahle:
And so, retirement accounts have these great estate planning features as well. But, one feature that matters a lot to doctors, maybe it shouldn’t matter as much to them as it does, but doctors are all terrified of being sued above policy limits and losing everything. In most states, your retirement accounts, at risk, the protected ones, the 401(k)’s as well as your IRA’s receive substantial asset protection.
Dr. Jim Dahle:
In many states, even if you had to declare bankruptcy because of some crazy one out of 10,000 suits above policy limits, you had to declare bankruptcy, you’d still get to keep everything in your retirement accounts. And while you can try to protect real estate with LLCs, et cetera, outside of retirement accounts, that protection is not nearly as good as what is afforded retirement accounts.

Dr. Jim Dahle:
So, between the tax benefits, the estate planning benefits and the asset protection benefits, I really would not pass up on retirement account contributions in order to invest in real estate.

Dr. Jim Dahle:
So, what are your other options? Well, ideally, you’re saving so much that you can max out your retirement accounts and still invest in real estate. That’s actually pretty easy for a lot of docs because they don’t have great retirement account options. Maybe an HSA isn’t right for you them so, they got a backdoor, Roth IRA, maybe a spousal backdoor Roth IRA, and maybe a 401(k). That’s not uncommon for many employee docs. That’s all you have. And if that’s the case, well, it shouldn’t be hard to invest above and beyond the retirement accounts because you need to be saving 20% of your income and you can’t get 20% of your income into retirement accounts.

Dr. Jim Dahle:
But if you’ve got some huge cash balance plan available to you, that becomes a little bit harder. If you’re able to put a $100,000 or $200,000 a year into retirement accounts, it can be tough to save more than that, on a physician income. And so, I empathize with you there.
Dr. Jim Dahle:
But there are other options above and beyond that. For example, you can just invest in real estate inside your retirement accounts. Most of you know about real estate investment trusts. Maybe most of these are publicly traded, right? They’re traded on the stock exchange and you can buy them in a mutual fund, just like you can any other stock. And you can just go buy the Vanguard real estate investment trust index fund. And you can buy that in your IRA or maybe it’s available in your 401(k) and you can get real estate exposure in your portfolio using that.
Dr. Jim Dahle:
There are other real estate companies. There are other real estate funds. TIAA has a real estate fund. We’ll talk about a little bit later in the podcast. But you can just buy publicly traded real estate inside your retirement accounts. That’s relatively easy to do. If you want to buy private real estate, you can do that inside retirement accounts as well. However, they have to be special retirement accounts. They have to be self-directed retirement accounts.
Dr. Jim Dahle:
It’s relatively easy to open a self-directed IRA or self-directed Roth IRA. If you have an individual 401(k), you can get a self-directed individual 401(k) instead of just opening a cookie cutter one at Vanguard or Fidelity or Schwab or wherever. You can actually hire a company to basically write the plan document correctly so that you can have that feature in your 401(k).

Dr. Jim Dahle:
My 401(k) right now, the White Coat Investor individual 401(k) has got that feature. We haven’t actually used it, but I told them to throw it in there when they designed the plan. I needed some other features that I needed a customized plan for primarily mega backdoor Roth IRAs. But our plan has that feature. It’s not that hard to get. So, if you are using an individual 401(k), you can just set it up so that it allows for self-directed investments like that. That’s a great option.
Dr. Jim Dahle:
You can even buy individual properties. You want to buy the house down the street and rent it out? You can do that inside your self-directed IRA, or self-directed 401(k). Just keep in mind that every dollar that goes into that property has to come out of the retirement account. And every dollar that comes out of that property has to go into the retirement account, right? You can’t mix this with your personal assets now. So, it’s a little bit more complicated that way. But it is something that can be done.
Dr. Jim Dahle:
You do need to be a little bit careful about unrelated business income tax. This applies in a self-directed IRA, but not a self-directed 401(k). But basically, if that property is leveraged, you may end up still paying taxes, even though it’s inside your IRA. So, learn about those rules if you’re going to have a leveraged property inside a self-directed IRA.
Dr. Jim Dahle:
So, here’s another option, right? If you’re really into real estate, you took this Semi-Retired MD course, and you really want to get started, but all your money’s in retirement accounts. Well, here’s another option. You can take a 401(k) loan. You can borrow the maximum of either $50,000 or 50% of the balance, I guess, whichever one’s lower, from your 401(k) and use that as a down payment on a property.

Dr. Jim Dahle:
And then you can slowly pay back your 401(k). It has to be paid off over five years. Remember if you separate from the job, you have to pay that back by the time the next Tax Day rolls around. So, if you borrow the money in January and you quit, you got to put money back into the 401(k) by the next April 15th, unless you file an extension, then you have till October. So, that could give you quite a few months up to 21 months of being able to use that after you quit a job. But if you stay with the job, you got five years to pay it back. So that’s an option.
Dr. Jim Dahle:
The last option of course, is just withdrawing money from your retirement account. I don’t think that’s a good idea. That is a big tax hit for a working doctor, because you’re going to pay at your ordinary income marginal tax rate. For most of us, that’s 32%, 35%, 37%, something like that. Plus, you got to pay a 10% penalty. So, you might be pulling that money out about at 40% or 50% effective tax rate. That’s not a good deal. It’s got to be a heck of an investment to do that. I guess it’s a little bit worse than not contributing at all, and that you then have to pay the penalty, but they’re both pretty bad.
Dr. Jim Dahle:
So, I would still try to max out my retirement accounts and invest in real estate in addition to that, if you so desire. Remember that real estate is optional too, right? Many doctors, including myself and the physician on FIRE became wealthy, even financially independent, doing nothing outside of boring, old index funds invested mostly in retirement accounts.
Dr. Jim Dahle:
Even now only 20% of my portfolio is in real estate. It’s just an asset class. It’s a good asset class, but it’s just an asset class. Don’t put it on some pedestal that it doesn’t necessarily deserve like many real estate gurus, books, blogs and courses do. Especially, if you actually like what you do. And you are willing to work a reasonably long career.
Dr. Jim Dahle:
Now, if you’re trying to become financially independent in six years or something out of residency, you’re probably going to need to take a fair amount of risk, both entrepreneurial risk and leverage risk and that sort of thing that real estate can help you with. But if you’re okay with a typical 20- or 30-year career and saving 20% or so of your gross income, you will get to financial independence without ever touching real estate. So, I hope that makes it clear on how those two factors can mix together for you.
Dr. Jim Dahle:
All right. Our next question also came in via email. “I’m very interested in a stable value fund in addition to my total bond market fund. Have you any opinion or writing on the topic as a rather confusing instrument that is new to me? One is offered in my 401(k), it might be an interesting article to write”.
Dr. Jim Dahle:
Well, first of all, let’s talk about stable value funds. A stable value fund is essentially a portfolio of bonds that is insured to protect the investor against a decline in yield or a loss of capital. So, the owner of a stable value fund will continue to receive the agreed upon interest payments regardless of the state of the economy.
Dr. Jim Dahle:
So, it’s a common option in some retirement plans. It’s not all that dissimilar from the TSPG fund. And the idea behind this for federal employees is that you get treasury bond yields with money market risk. So, you’re getting a bond like instrument. The yields are usually a little bit less than you can get with bonds because something’s got to pay for that insurance, but you can’t lose principal value.

Dr. Jim Dahle:
So, think of it like a money market fund on steroids. So, it’s fine to use it in your portfolio, if that’s an asset class you want in your portfolio. This is a very low risk thing to invest in. Don’t expect super high returns out of it, but at the same time, you’re not taking a ton of risk on with it. So, I think it’s fine to use.
Dr. Jim Dahle:
Almost all of the ones I’ve looked at that are in people’s 401(k)s are fine to use. Some are obviously better than others. If you start Googling around, you’ll see, I think this is as of the third quarter of 2019, I see funds from Putnam, from Invesco, Wells Fargo. And you look at the returns on these. And for the year prior to the third quarter of 2019, the returns were about 2.7%.
Dr. Jim Dahle:
So, they’re not stocks. Your returns or even in the long run will probably be a little lower than bonds, but you get that stability of principle. So, if that’s attractive to you, I think that’s fine to invest in. It’s a reasonable option to have in a 401(k). Think of it as a money market fund with a little bit higher yield.
Dr. Jim Dahle:
Okay, let’s take our next question off the Speak Pipe. This one comes from Jason.
Jason:
Hi Dr. Dahle. First, I wanted to say thank you for playing a huge role in my financial literacy and also getting me on track after making a few financial mistakes early on in my career. So, my question is in regards to asset allocation and how it changes as we get closer to our retirement date. When do you consider changing the allocations in your different accounts when you’re 20 years, 10 years, 5 years away from your retirement time? Thank you for all that you do and look forward to hearing from you.

Dr. Jim Dahle:
Okay. Jason is basically asking how should your asset allocation change as you approach retirement? And there is no Bible on this topic. Everyone’s got an opinion and nobody really knows whose opinion is right. Because in the long run, the more aggressive the asset allocation, the more likely it is to have higher returns. But at the same time, your ability to tolerate fluctuation and volatility of the value of your portfolio is lowest around the time of retirement. This is known as sequence of returns risk.

Dr. Jim Dahle:
And the idea is that your returns in those last few years of your working career, your accumulation stage, and the first few years of your retirement or your distribution phase are much more important to your overall lifetime portfolio performance than any other years. And so, the idea is to have those years be a little bit less volatile.
Dr. Jim Dahle:
Some people call this a bond tent, right? And so, the increase, the percentage of bonds for five years before retirement or five years after retirement. Other people set a formula up in advance that every year of their career, they’re going to go down and their stock to bond ratio by 1%. So maybe they start out at 75/25 and each year they go down to 74/26, 73/27, et cetera. Year by year until they get to the retirement date. And it’s fine to have that written into your investment plan as well.
Dr. Jim Dahle:
I think that’s the key though. Just pick a plan, something reasonable and put it into your investment plan. Thus far, I basically kept my portfolio static throughout my career. Basically 60% stocks, 20% bonds, 20% real estate. And that works for me. I may just carry that on through into retirement, because I’m pretty tolerant of it. I’ve got more than I need. I can tolerate the fluctuations. And so, you may just choose a static portfolio as well. But I think the key is to put it, write it down, put it in your investing plan and follow it.
Dr. Jim Dahle:
Keep in mind, Jason, you mentioned, how do you change your asset allocations in different accounts? My recommendation is you look at all your retirement accounts, all your money for retirement, even if that includes a taxable account as one big portfolio. And so, you’re not necessarily changing each account’s asset allocation in response to age. You just want to change the overall asset allocation, as needed.
Dr. Jim Dahle:
All right, let’s take our next question off the Speak Pipe. This one comes from Thomas.
Thomas:
Hello, Dr. Dahle. I am a hospital employed anesthesiologist three years out of residency working for a large private not for profit hospital system in the Southeast. I currently max out our hospitals 403(b) and 457 plans, have it 401(a) contribution from my institution and max out my Roth IRA. Our new CEO recently championed and introduced a new retirement plan option based on a split dollar life insurance loan regime plan he had at his prior job. The underlying product this plan is using is a fixed index universal life policy. I read extensively on your site about the perils and disadvantages of FIUs.

Thomas:
However, since this plan is being administered through my institution, its structure is different than that of commercially available FIUs and that my hospital system decreases my salary to the amount I select. And then places that amount as a pretext loan plus a 15% match on top to cover the majority of insurance and death benefit expenses.
Thomas:
While I understand the annualized returns on this product are very unlikely to rival an after-tax stock portfolio, the ability to decrease my income tax burden while also giving me the ability to loan money out to myself tax free seems very attractive. Do you see this as a beneficial vehicle for retirement and or decreasing my annual taxable income? And if so, how do you recommend I determine how aggressively I should fund this new option? Thank you again for everything you do. And I hope this email finds you well.

Dr. Jim Dahle:
Okay. So, this is a complex question. I have got a post all written all about split dollar life insurance. I’ve titled that “Why I hate split dollar life insurance?” It’ll run at some point in the next few months because I get this question by email pretty frequently once or twice a month probably from somebody whose hospital is putting a split dollar plan in place.
Dr. Jim Dahle:
I think the best way to think about this, to be able to understand what’s going on, is that a cash value life insurance policy is being sold to your employer. If you remember that you will understand split dollar life insurance.
Dr. Jim Dahle:
Is it a benefit? Well, think of it this way. If somebody else is going to buy me a whole life insurance policy, I’m going to take it. It’s not that the asset doesn’t have value. It does have value. I wouldn’t buy it myself, but I’ll take it if somebody else is going to buy it for me.
Dr. Jim Dahle:
And so, with the split dollar life insurance plan, what your employer is usually saying, and every one of these is a little bit different is that I’ll pay part of it. So, the employer’s now paying part of it and you are paying part of it. Well, now is it worth it to you? Well, it’s harder to say if they’re paying a big part of it, it certainly is. If they’re only paying a tiny part of it, maybe it isn’t.
Dr. Jim Dahle:
So, the first thing I might do, if this was something coming from my employer is trying to talk my employer and offering me something else. Maybe putting a cash balance plan in place instead. Or talking to the employer into they really want to do this and think it’s awesome, into paying the lion share of it at which point is probably worth taking for you.
Dr. Jim Dahle:
But if I found myself paying for the majority of the premium, I get a lot less excited about it. Then all the downsides of dealing with cash value life insurance come into play. And I’ve outlined these many, many times on the blog and on this podcast. In essence, it isn’t that there are no benefits to it. It’s just that you end up paying too much for the benefits.
Dr. Jim Dahle:
And you can see why an insurance agent would go to your employer and try to sell this sort of a plan to them. Now they don’t have to go to the individuals. They can just go to one company and one hospital, one CEO, and all of a sudden, they’ve sold 30 policies or 100 policies or 300 policies. Obviously, there’s some massive commissions there and this agent is making out like a bandit.

Dr. Jim Dahle:
So, keep in mind what is happening with the split dollar life insurance policy. A cash value life insurance policy is being sold to your employer. All you have to decide is whether they are paying for enough of it, that it’s worth it to you to pay for the rest, in order to get the benefit.
Dr. Jim Dahle:
Typically, what happens when you separate from the employer is you can take the policy with you. You can buy it, essentially from the employer and take it with you. But then what do you have? You have a cash value life insurance policy that you really have no need for, trying to convert it into some sort of weird retirement plan for you. So, you got to keep that in mind.
Dr. Jim Dahle:
Now this post I’ve got coming out is going to go into all the nitty gritty details. There are several different types of this. They call them an economic benefit plan. They call it an equity arrangement. They call it a loan plan. And I go through what you should do with it. And that post to be running here within the next few months, I’m sure.
Dr. Jim Dahle:
I’ll also discuss whether you should keep it after you separate from the employer. But I end that post with a section about whether the employer should offer this benefit. And my opinion is no. If you’re an employer, don’t get suckered into buying these things. Offer your employees something they really want. If you’re going to put a bunch of money into a benefit, put a cash balance plan in place, rather than a split dollar life insurance plan. It’s not that awesome, no matter what that agent is telling you.
Dr. Jim Dahle:
I think in this case, you said that the employer’s only given you a 15% match. So, they’re only paying for 12% or 15% of this policy. That doesn’t sound very awesome to me. I might just pass on it and just take the money in salary and invest it elsewhere.
Dr. Jim Dahle:
We mentioned real estate at the beginning of the podcast. Maybe this is money that you could invest in real estate. Just put them out in a taxable account instead of messing around with this cash value life insurance plan.
Dr. Jim Dahle:
But really if you’re going to invest in this thing, it’s a lifelong commitment. You really need to understand it, understand what you’re buying, how is likely to perform under various different economic situations and go from there. That gets even more complicated when it’s not a whole life policy they’re offering, when it’s an index universal life policy. Now you’ve got a gazillion moving parts that you got to keep track of. So, good luck with that.

Dr. Jim Dahle:
The bottom line is if the employer buys a lot of it, you might as well take it. If you’re having to buy all or almost all of it, I’d probably pass on it.
Dr. Jim Dahle:
Okay. Our next question comes in via email. This one is about TIAA. The email says, “TIAA has a couple of unique products. TIAA traditional and TIAA real estate account. I’d like to know your thoughts on these unique investments and how they would fit into one’s portfolio. Would you consider the TIAA as part of the fixed income portion of one’s asset allocation? If so, what percentage of the fixed income should it be in your opinion? Would it be reasonable to use this instead of TIPS? For the real estate account, would you recommend investing in it if one has allocated 5% to 10% of one’s portfolio to real estate? Feel free to use these questions in your podcast. I know a lot of academic physicians work for universities that have access to these TIAA products”.
Dr. Jim Dahle:
In general, TIAA is considered to be one of the good guys in the financial world. Both of these are common holdings in 403(b) plans usually is where you find them. The fixed annuity is not a terrible option. It’s not a bad substitute for fixed income. It’s not going to act exactly like nominal bonds. It certainly isn’t going to act like TIPS. So, I don’t think it’s a TIPS substitute.
Dr. Jim Dahle:
But if you want to include that as part of your fixed income allocation, I think that’s reasonable. I’d set a percentage for it. And that’s what it would be in my portfolio. If you look back at this over the last year, returns were about 3.7%, it looks like. So, not too bad. They have a couple different types. One was 3.1%, one was 3.7%. So, I’d expect, bond-like returns out of it. I think that’s fine to use.
Dr. Jim Dahle:
As far as the real estate, I’m not entirely certain what you have in your portfolio. There are a couple of different options there. There is a TIAA real estate account, which comes with the ticker Q-R-E-A-R-X, which really doesn’t have that awesome of returns over the last year. The expense ratios on these things are moderate, in the 0.55 to 1% range. A lot of people like it in that it holds real estate directly, rather than buying real estate investment trusts. And so, some people have liked it over the years for that reason. I’m not sure its performance has really been all that awesome the last few years. And so, I don’t hear people talking about it nearly as much as they used to.
Dr. Jim Dahle:
TIAA also has a mutual fund. I’m not sure how the two are related, but this is an institutional fund, which I wouldn’t be surprised if that is in your 401(k) either. It’s T-I-R-E-X. It’s the ticker for it. And if you look at that over the last few years, it’s got 10 year returns of almost 12%. So that’s not too bad. Year to date this year, tit’s down about 7%, which isn’t too bad considering how real estate’s done. It’s got an expense ratio I think of a 0.78% as I recall. Let me look that up. No, 0.51%, which is pretty high for an institutional fund, but not terrible as mutual funds go.
Dr. Jim Dahle:
And so, if you want to use that for your real estate holdings, I think that’s perfectly fine. I think I like that a little bit better than the real estate account. But it’s a little bit hard to see how the two of them interact with each other.
Dr. Jim Dahle:
So again, if you want exposure to those asset classes and they’re available in your 401(k), I think those funds are fine to use. I don’t think it’s a rip off. I don’t think it’s some terrible investment. I don’t invest in either one of them, but then again, I don’t have access to TIAA investments in my 401(k). So, it wasn’t even an option for me. Lots of people’s 401(k)s are a little bit unique that way. The military and Federal TSP is unique. It’s got the G fund that nobody else has. This is something that your 401(k) may have in it. And I think it’s fine to use just like it might be fine to use a stable value fund like we talked about earlier.

Dr. Jim Dahle:
All right, let’s take our next question off the Speak Pipe. This one comes from Brett.
Brett:
Hi, Dr. Dahle. Thank you for everything that you do. I have a question regarding 457(b) Roth conversions and backdoor Roth. I just finished my training. I have a governmental 457(b), which I can do a Roth conversion to this year. And I was planning on doing that because it’s going to be a relatively low-income year. I also wanted to do a backdoor Roth conversion. I was wondering if there’s any reason that I can’t do both in the same year. So, I was hoping to do the 457(b) Roth conversion and a $6,000 backdoor Roth IRA contribution. Let me know what you think if that’s okay, or if there’s any rules or reasons that should be not okay. Thank you very much.
Dr. Jim Dahle:
All right, so this question is really two questions. 457(b) allows for Roth conversion. Any reason I can’t do this? No, there’s no reason you can’t do that. If it allows you to do a Roth conversion, do a Roth conversion. Does a backdoor Roth conversion in the same year affect that? No, it doesn’t. People worry a little bit about the Pro-Rata rule for the backdoor Roth IRA.
Dr. Jim Dahle:
But remember that only applies to IRAs. SEP IRAs, simple IRAs, traditional IRAs, rollover IRAs, et cetera. It doesn’t apply to 401(k)s 403(b)s, 457s, et cetera. All that stuff has nothing to do with the Pro-Rata rule for the backdoor Roth IRA. So, it’s perfectly fine to do both, a Roth conversion of a 401(k) or a 403(b) or a 457(b) or even a traditional IRA and a backdoor Roth IRA in the same year. No problem there.
Dr. Jim Dahle:
All right. The next question is also off the speak pipe from an anonymous caller.
Speaker:
Hi, Dr. Dahle. Thank you for everything you do. I’m a family medicine physician practicing in Pennsylvania. I’ve contacted several of your trusted recommendations for disability insurance. They’ve all been very professional and helpful. Unfortunately, I have a medical condition that disqualifies me from getting disability coverage. I made the mistake of not enrolling in my employer’s group coverage when I first started at my hospital. My spouse works full time and if needed, we would be able to live off of his income. I wanted to see what adjustments you would recommend we should make in our financial plans, accounting for me not being able to hold disability coverage. Thank you so much. And I look forward to hearing your response.

Dr. Jim Dahle:
Okay. This is kind of an unfortunate situation. This caller can’t get individual disability insurance due to medical conditions, already passed on a group plan that they could have had. That’s unfortunate. Because your best option, if you can’t get individual disability insurance is work for somebody that gives you a group disability insurance. I suppose you could change jobs, but outside of that, you may not be able to get a group policy.
Dr. Jim Dahle:
One option might be going through a professional association. Your county medical association may have something set up. Maybe your specialty association has something set up that you could do. It’s worth looking into those things. But in this situation, you’re telling me you can live off your spouse’s income. In that case, maybe you don’t need disability insurance at all.
Dr. Jim Dahle:
There’s a lot of dual doc couples out there that don’t carry disability insurance. They view each other as their disability insurance policy and feel like they could live off the other person’s income completely. I wouldn’t say that the majority of dual doc or dual income couples do that. I think most of them probably buy at least a little bit of insurance on each of them, but it’s certainly an option. So, it’s not the end of the world. I’d be much more worried if you were married to a stay at home partner of some kind that didn’t have substantial earnings.
Dr. Jim Dahle:
The other thing that you can do is just try to hit financial independence a little bit earlier than you otherwise would. Because when you become financially independent, you drop your disability insurance anyway. I don’t have any disability insurance. I don’t need it anymore. And so, I dropped it. When you’re financially independent, you can do that. And so that may also be an option. Maybe not now, but within a few years, especially on a dual income. You can save a lot of money on a dual income and reach financial independence pretty early. And even if you’re not quite there yet, the closer you are, the less risk you have from a disability. It just doesn’t hurt you that much when you become disabled.
Dr. Jim Dahle:
Of course, you can also try again when the medical condition stabilizes, right? Even something like cancer. If you’ve been cancer free for five years, you can often go and get disability insurance. And so, maybe if your medical condition, whatever it is, becomes more stable, you can get a policy, even if it excludes that medical condition. So, don’t be afraid to check back in a few years. You may be surprised what you can get.

Dr. Jim Dahle:
Our next question is from an anonymous caller. Let’s take a listen.
Speaker 2:
Hi Jim. Thanks for taking my question and thanks for what you do for the White Coat community. My question is, my wife and I have been saving for a down payment on a house and have about $200,000 of cash saved up. But due to shenanigans from our employer, we have realized that we no longer want to work for this hospital for the long-term. So, we have put our house buying plans on hold. We’ll be looking for new jobs, probably even looking at a new city due to our noncompete clause. Thankfully, we have rented as you suggested, and that is going to be a great boon to us. But we’re now pushing our house buying time estimate out to the three- to five-year range. What do you think you would do in this situation with the cash? Would you hang on to it since it’s still relatively a short investment horizon? Or would you deploy some or even all of it according to your written investment plan? Thanks in advance.

Dr. Jim Dahle:
All right, so you got all this money saved up for a house, and now you’ve decided you don’t want to buy a house. That’s fine, nothing wrong with that. In fact, that’s why I tell people to rent until they know they like the job and the job likes them. For situations just like this. But now you’re three to five years away from buying a house. For whatever reason, that seems a little long to me. It would seem to me, if you change jobs in a year, within six months or a year of being there, you may know you’re now ready to buy. So that might only be a year or two away. But you’re telling me three to five years, I’ll take you at face value.
Dr. Jim Dahle:
What should you do with the money that you don’t need for three to five years? Well, there’s lots of options. The first one is just leave it in cash. If you’re sure you don’t want this money in three years and you want this exact amount and you don’t want to have to worry about it going down in value, you can leave it in a savings account. You can leave it in the money market fund. It’s still going to be there. It’s fine to do that for any kind of short-term investments. A lot of people like the rule of thumb to not put anything in stocks or real estate that you need in the next five years. And this money would fall into that category.
Dr. Jim Dahle:
What else could you do? If you know you’re not going to buy anything for the next three years, you could buy a three-year CD. You get a little higher rate than you will in a savings account by doing that. You can take on a little bit more risk and you can put it into a short-term bond fund, or even a longer-term bond fund, intermediate fund, maybe.
Dr. Jim Dahle:
In general, you want to keep the duration of the fund shorter than the time period when you’ll need the money. So, using that philosophy, you would stick with a short-term fund until you’re maybe a year out and then switched to a money market fund.
Dr. Jim Dahle:
But if you’re willing to take more risks, you could put it into a balanced fund. Something like Vanguard Wellesley Income Fund. It’s about 35% stocks, 65% bonds. It’s a pretty good long-term fund. I think long-term returns over decades are like 9%-10%. But if you look at its worst year, it’s only like minus 5% or 6%. So, you could lose money there, but you’re probably not going to take a massive, massive hit on a fund that is 65% bonds.
Dr. Jim Dahle:
You could also just move this money into your regular asset allocation for long-term investments and plan to start saving up again for your down payment and save it up between now and when you need the money. And that would be a reasonable option as well.
Dr. Jim Dahle:
So, lots of options here. I wouldn’t necessarily feel like you have any bad options there. I guess the bad option would be buying Bitcoin on leverage with money you need in a year. That’s probably not wise. But of all these things we’ve talked about, you could argue any of them are reasonable to do.
Dr. Jim Dahle:
All right, let’s take our next question from Dean.
Dean:
Hi Jim. This is Dean from the upper Midwest. My question is regarding retirement withdrawal strategy. I am thinking down the road a bit. First, let me give you an idea of my financial context. I am 47 years old and I project that I will retire in 10 or so years. My portfolio will be approximately two thirds taxable, 20% to 25% tax deferred, which is currently a cash balance plan. 10% to 15% in a Roth IRA/HSA.
Dean:
I would presumably re roll my cash balance plan over into a traditional IRA upon retirement. So, I have read a little about withdrawal strategies and want to get your thoughts. I have read about two similar yet different strategies. First, beginning at age 59 and a half years old and after retirement, I would withdraw enough from the tax deferred accounts to fill up a lower tax brackets to use for spending. Next, I would dip into the taxable account.

Dean:
Second, similarly, beginning at age 59 and a half and after retirement, I would withdrawal enough from the tax deferred account to fill up the lower tax brackets, but then convert that money to a Roth IRA. So, spending would come from the taxable account brackets solely.
Dean:
Both are similar with the goal of trying to minimize the required minimum distribution by 70 and a half, but differing approaches as to what to do with that money. Do you agree with one of these approaches or are there any other foster approaches that you would recommend? Thank you so much for all that you do.

Dr. Jim Dahle:
Okay. Lots of complexity in this question, actually. Dean’s got two thirds of his money in taxable, about 20% in tax deferred and 10% or 15% in a Roth or a tax-free account. Plans to retire at 57. He’s trying to decide between two strategies. But in reality, there are two questions mixed together here.
Dr. Jim Dahle:
The first question is “Should Dean do Roth conversions?” And the answer to that is almost certainly, yes. This is someone who’s retiring at 57. He won’t have to start taking social security until 70, I guess it would be. And so that gives you 13 years to do Roth conversions. With somebody who has a big, huge taxable account and a relatively small Roth account that wouldn’t be a bad idea to convert some of that tax deferred money to a Roth account.
Dr. Jim Dahle:
Now, the idea is you go along through the years that you just convert the amount that takes you up to the top of the next tax bracket. So, if you find yourself in the 24% tax bracket, you would only do enough conversions that it would take you up to the top of the 24% tax bracket each year. So, that’s probably going to be a good idea for you to do Roth conversions.
The other question is, “Well, how should you spend the money? How should you pull the money out?” And there are a few general principles here with lots of exceptions to them.
Dr. Jim Dahle:
As a general rule, you want to spend taxable money before tax protected money. And so, you really got to keep in mind those benefits of retirement accounts. They protect your money from taxes as it grows. You don’t want to pay taxes on dividends, capital gains, any other types of distributions, as it grows. You only have to pay taxes when you take money out of the account. So, keep that in mind. As general rule, if you’ll spend taxable first and then get into your tax protected accounts, you will end up with more money.
Dr. Jim Dahle:
Also, as a general rule, you only want to use tax deferred money up to the top of the nearest bracket. And then if you need more money above and beyond that, you’d take from your tax free or Roth accounts. And the idea between that is you can mix and match there enough and essentially set your tax rate, set your tax bill in retirement. But when you have all three types of accounts, you’ve got a lot of flexibility in choosing how exactly you’re going to withdraw from those accounts. And you can essentially, if you want to have lower taxes one year than another, you probably can.
Dr. Jim Dahle:
Keep in mind as you start spending a taxable account that you want to generally spend the high basis assets first. The stuff that doesn’t have much of a tax bill. For example, if you bought stuff at a share price of $100 and you’re selling, or the share price of $110, you only have to pay long-term capital gains taxes on $10 a share. The rest of it comes out, totally tax free.
Dr. Jim Dahle:
But if you have low basis shares, you paid $10 per share, and now it’s worth $100 a share, that is going to cost you a lot more in taxes. So, if you’re planning on leaving money to charity or leaving money to your heirs, who would get a step up in basis at your death, you may not want to sell those low basis shares. That may be a reason to instead use retirement account money instead of taxable money.
Dr. Jim Dahle:
So, like I said, lots of exceptions there. Especially if you’re in poor health, you’re in your last few years of life, this is not a great time to be selling low cost basis shares. Take advantage of that step up in basis at death and just spend from your retirement accounts in that situation.
Dr. Jim Dahle:
But most of the time, your heirs would love to have a stretch Roth IRA left to them. That’s even better than a taxable account, even with the update in basis. So, lots to talk about there as far as retirement strategies. But the key is to individualize it, look at your tax bill, look at where you expected to be throughout retirement, where it is during the accumulation phase. And then you can make some smart decisions about how to use your taxable tax deferred and tax-free money to lower your overall tax rate for you and your heirs throughout retirement.

Dr. Jim Dahle:
All right. I think we probably got to wrap up. This has been going long enough. Our sponsor today is Merchant Cost Consulting. Thank you to them. If your business accepts credit cards from patients, you may be overpaying. You aren’t alone. Merchant Cost Consulting has the ability to reduce your credit card processing fees without switching your payment processor or management software.

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Dr. Jim Dahle:
Also, if you’re in need of a financial advisor, check out our recommended list of financial advisors. You’ll find that at whitecoatinvestor.com under the recommended tag. And that are new and improved listings there, that will really allow you to get to know the advisors before you even call them up.
Dr. Jim Dahle:
Thanks for leaving us a five-star review. Thank you for telling your friends about the podcast and spreading the word. This is obviously information that every doctor needs to hear at some point, whether it’s medical school residency, your early attending years, or your late attending years, better, late than never. But please, the only way we can get this information out is with your help.
Dr. Jim Dahle:
Keep your head up, shoulders back. You’ve got this and we can help. Stay safe in the pandemic. We’ll see you next time on the White Coat Investor podcast.

Disclaimer:
My dad, your host, Dr. Dahle, is a practicing emergency physician, blogger, author, and podcaster. He’s not a licensed accountant, attorney or financial advisor. So, this podcast is for your entertainment and information only and should not be considered official personalized financial advice.