It makes me sick to my stomach whenever I talk with folks who were whipsawed in the latest stock market crash, describe having watched their retirement, just a few years off, as it disappeared like steam in the wind. I spoke with one such couple last week, and in the middle of our conversation the wife left the room. She simply couldn’t talk about it any longer. I could hear in her husband’s voice the reflection of his emotions, seeing his wife having to deal with such sharp disappointment. You could tell he was feeling responsible. Hell, my eyes got glassy.
Enough is enough already.
Here are some thoughts about A) Why 401Ks/IRAs are cartoonishly bad vehicles to use in your retirement plan B) How gettin’ bent over the bar now is infinitely better than later. C) How even with your employer match, you lose.
What’s wrong with 401s and IRAs for Heaven’s sake?
- One losing year and you’re on a treadmill playin’ catchup. Sometimes for much longer than it took to lose your place. More than one losing year? In a row?
- The tax deduction for contributing is nickels ‘n dimes — the income taxes paid for takin’ the money out is dollars. Why would you do that to yourself on purpose?
- More than 9 of 10 employees use mutual funds as their main 401k investment. Um, that’s less than 4% annual return based on 401k manager’s own 20 year study.
- Once retired, gov’t will force you to take more out annually if you’re not taking ‘enough’. It’s downhill from there. Oh, and they decide what’s ‘enough’.
Why pay taxes and penalty now instead of retirement?
- Do your own math. How much do ya have in there now? How much at retirement? What’s your income based on say, 6%? (Gettin’ nervous are we?)
- Pay now — then create retirement income not tied to asset appreciation — or derailed by decrease in asset value.
- Create both tax sheltered and tax free retirement income — not an annual skinny dip in the IRS pool.
Hey! I has a idear — let’s not just trash what people are doin’, let’s offer ’em a, you know, solution.
- 30% down payments on all purchases.
- 5.5% fixed rate 30 year loans — fully amortized.
- NOI will never rise — as in never, ever.
- Investor cashed out 401K netting $600,000
- $100,000 will be used to purchase EIUL
- Investor is 45 years old when he starts down this path
To net about $600,000 the 401K owner would’ve had a bunch built up. I used a high number on purpose so as to demonstrate clearly that even payin’ up to or more than a quarter million bucks in taxes/penalties, you can still achieve a retirement income — after tax — that will shame what you might’ve done otherwise.
Hear’s the Plan in ‘Reader’s Digest’ form.
He takes a bit under $500,000 and buys six very well located duplexes, puttin’ 30% down plus closing costs. I’ll use what a client just closed on, so the numbers are not only real, but the ink is still dryin’. 🙂
- Price — $252,500
- NOI — $18,360 — Yeah, professionally managed.
- Cash flow per duplex — $6,318/yr — 100% tax sheltered
- Total annual cash flow — $37,900
1. Take $3,000 from cash flow each month and add it to the monthly payment of just one of the duplexes. In just over four years, 50 payments, that puppy will be debt free.
2. Rince and repeat with newly increased income, gangin’ up on another duplex — which will take just 37 months to free ‘n clear.
Here’s the chronology of how the dominoes will fall.
50 months — 37 months — 28 months — 23 months — 21 months — 18 months.
In less than 15 years — 177 months — he will have created an annual income of just over $110,000. He’ll be 60 years old. Almost half of which will remain sheltered for the first dozen years of his retirement.
Wait just a doggone minute. I has a idear! Since he’s abandoned his 401k/IRA, and isn’t putting’ in the usual $5-10k a year, why doesn’t he take the after tax equivalent and also apply it to the monthly loan reduction process?!
Now you’re talkin’ ’bout gettin’ the same results in as quickly as 10 years,
But wait — There’s more!
Less than $500,000 was used to acquire the real estate, including closing costs. There’s about $115,000 left.
What to do?
He should take $15,000 and add it to his family’s existing cash reserve account. Then take $20,000 a year as an annual premium for the EIUL he’s now gonna buy. Five annual payments will take four years and a day. He just lets it sit ’till he’s 65 — five years after he retired. He then begins to take out $36,000 a year — 100% tax free — ’till he’s 99 — somewhat past his life expectancy.
$110,000 a year from his debt free real estate — $36,000 a year from his EIUL. Total annual retirement income from Plan: $146,000 — $36,000 of which is always completely tax free. About 45% of the $110,000 RE income will be tax sheltered ’till he’s about 73.
Ask yourself a few simple questions:
1. How much will your 401K/IRA hafta have in it at retirement to generate $146,000 a year? If you assume a constant, never-ending (as in uninterrupted) return of 7% from retirement ’till ya die (Please! Stop laughin’.) you’d need about $2.1 Million in your 401K or IRA. And all of that income would be taxable. Not to mention you’d be tax-naked every April 15th.
2. (In Clint Eastwood voice/tone.) Are ya feelin’ lucky? You gonna arrive at retirement with over $2 Million in your plan’s account? Really?
3. Let’s assume you do, which is highly improbable for 95% of Americans. If you’re retired for a few years and another crash takes place, in either or both of stocks or treasuries etc., what then? You lose, that’s what.
Remember now, the income at retirement from the guy’s real estate was from the same NOI as when he bought them 15 years earlier. You really think that’s gonna be the case? Do you think that figure is more likely to go up, or down?
And finally, if it does go down a bit, the income still rocks on, albeit at a slightly reduced rate. A reduced annual income from your 401K plan will most certainly remain forever decreased due to the need for you to then gain access to your principal. Oh yeah, the government might make ya do that anyway — against your will.
Don’t be the couple I spoke to last week. There are 10’s of thousands of them in the making.
Tell me again how much confidence you have in that silly employer match? Please…pretty please with sugar on top. 🙂
Note from the Editor: Please check out Jeff’s follow-up post, “Back To The Future – Wicked Cool Retirement – OR – “Sorry, We Can’t Afford To Go…“