So let’s just get started. My watch says it’s nine o’clock with the start with the call today. I want to thank everybody for joining us. Today’s topic you, “A tax mistake a lot of surviving spouses make and causing them to pay way too many taxes unnecessarily so. And it really just blows down to not knowing or understanding of tax law, just basic tax law. And really what we’re talking is this concept of what’s called stepped up basis. I think most everybody knows is that if you inherit an asset and then turn around and sell it your your tax liability is only on the increased value from the date that you inherited the assets. So for instance, if you’ve got a family member, maybe a parent or a sibling that paid $10 for a stock and that stock is now worth $100 and you inherit the stock when its value is $100. You can turn around and sell the stocks at $100, and that you pay zero tax on the $90 profit that your family member had accumulated while they owned the assets. So I think everybody knows and understands that and there is no tax liability.

Here’s where we see mistakes being made by surviving spouses. And this comes into play when maybe a couple buys an asset whether its real estate or a stock and they own it jointly. And then one of the spouses passes away. Well, let’s use the same $100 stock example. So you and your spouse buy stock in a joint account for $10. Now it’s worth $100. Your spouse passes away and you want to sell the stock. What are your profits for tax purposes? Well, instinctively we immediately remember what we paid for the stock; that was$10. And oftentimes we see people report a $90 profit using this example. If they sell the asset, and really what they’re doing is over reporting taxable income because they haven’t adjusted their tax basis as a surviving spouse. Because when you stop and think about it you inherited this. You owned 50% of the stock. Your spouse owned 50% of the stock. They passed away. So you get a stepped-up basis on your spouse’s interest in the property or in the asset. So in this example your cost on the stock is then adjusted or you should adjust it to $55. And now, you would only pay tax on a $45 profit. So there is a common mistake we see too many surviving spouses make when it comes time to selling assets that were accumulated during one marriage. And just be aware of that and remember that if you have a friend or family member is recently widowed or a widower. Just make sure that they’re aware of this provision and that they don’t unintentionally overpay on their taxes. Because I can tell you this; the IRS is going to call you up and say, “Hey wait a minute, you paid too much. Here’s the correct number.” I have yet to see that happen. All though they’ll be more than happy to contact you and let you know if they think you underreported or under-paid. So this is where an example comes in, where it’s very important to make sure that that you’ve done proper estate planning that you’ve got proper estate planning documents in place.

And today I just want to touch on the basics and make sure everybody’s got the basics covered and I say that because studies suggest and research shows that well over 70% of adults still don’t have basic state documents in place. And I guess that’s understandable. Who wakes up in the morning eager in anticipation, “Yeah? today let’s go talk about my estate documents.” So put those documents in place. But regardless of how old you are, if you’re an adult we think every one of legal age should have these basic documents; a will, a durable power of attorney, a health care power of attorney and a living will.

So a will: everybody’s familiar with wills that directs, who gets what property upon your passing or upon your death. But what happens if you’re incapacitated either physically or mentally whether it’s temporary or more permanent? Well, you haven’t passed away, so the terms of your will don’t kick in. That’s where you really need to have what’s called a durable power of attorney. You’re giving somebody power of attorney to act on your behalf, make decisions on your behalf from a financial legal respect if you are unable to do so. And then the health care power of attorney or health-care surrogate as the name suggests: that’s where you give permission for a person to tell the doctors whether you want a procedure done, what kind of care you want to have provided for you if you’re unable to communicate your wishes yourself.

And then finally the living will, which is kind of the misnamed I think, that’s really the document where you’re giving permission to the medical providers to withdraw life support if it appears you’re going to be in a continual vegetative state and you would just prefer to minimize the accumulation of medical expenses, if you’re future prognosis is one of no recovery. Kind of like the, if you remember, Terri Schiavo case years ago. Had she had a living will in place than any of the legal wrangling and all the media turmoil would have been eliminated. So those are the basic of the documents that really everybody ought to have in place. I will caution you to not attempt to do this on your own. There are numerous websites and books and fill in the blank forms available all over the place. You might be tempted to up to save a little bit on an attorney or a legal fee. I would just encourage you to think of legal fee not as expensive paperwork or expensive documents, but rather as what I would consider to be cheap insurance. Because you see if you or I as lay people make a mistake on these documents, which is quite often or quite common, we probably aren’t going to realize it and then we’re going to leave a mess for our heirs to clean up. And usually these messes can be taken care of. But when you look at the cost, your heirs end up paying legal fees and court costs that far exceed what you would have paid just to have an attorney create proper documents and do it right first time, so to speak, so avoid the temptation to take the shortcut. Use an attorney. Most attorneys, I think, should be in a position of quoting a fixed fee or a flat fee. So you get that up front even in writing. So you know what you’re looking at. And I think a ballpark figure probably would be somewhere in the $300-$500 range is numbers we’re hearing from client feedback.

Then the next document, not everybody needs but a lot of people should consider or at least be aware of. And that’s a document called a trust. Oftentimes it’s a revocable living trust. So it’s a document you can revoke. You can amend or change or modify as your situation and circumstances change now going forward. A lot of people have the misunderstanding that a trust reduces or eliminates the estate tax or inheritance tax and that simply isn’t true in most cases. The primary purpose of a revocable trust is to avoid the time delay and cost of probate. If you have assets that are subject to probate, and I’ll cover that in a minute. So if you have assets are subject to probate. The average probate trying to go through the probate process is about nine months, and the expense can be as high as 3% of the value of the probate assets. So probate fees can be quite expensive compared to when you look at the cost of setting up just a basic a revocable trust. So how to tell if you need a revocable trust; so a revocable trust, again, is to minimize the time delay and expense of probate. Our experience has been if you have “probatable” assets that exceed $75,000 to $100,000, then you should consider taking advantage of, or looking into using, a revocable trust. So it’s not just for people that have a taxable estate. And then I understand if there is no estate tax this year, but probably there should be one coming back into play next year it at some level. So don’t think just because you may or may not have a taxable state that you can’t take advantage of or benefit from a revocable trust. And bear in mind; when you set up the trust or if you’re using a will, those documents list who your heirs of your beneficiaries are. Well there are certain assets that are not controlled by your will or your trust and that trip that people sometimes unknowingly and sometimes can cause horrific mistakes. So what kind of accounts or what kind of assets aren’t controlled by your will or aren’t controlled by your trust. Well, in the account you owned jointly with somebody, whether it’s a spouse or even a third-party, if it’s a jointly owned account then that asset may not be controlled by your will or trust. Life insurance, retirement account, 401(k)s; Those all have beneficiary designations, and of those benefits are paid to whoever you’ve named as beneficiaries even if it’s not in line with who your heirs are or your trust beneficiaries are. And sometimes we see people get out of sorts in that regard. One situation comes to mind. We had a client years ago, he since passed away. He was an executive chef. He moved to Europe with his girlfriend to go study and work in Europe for about five years and then came back to the states. When he got back together face-to-face, he brought his wife with and here’s the interesting thing. The girlfriend that went to Europe with him is not the wife he brought home to the states. And part of the reasons they came back to the states is he had been diagnosed with terminal brain cancer and had less than I think it was less a month to live. So we started making sure he had all his proper estate documents in place for obvious reasons. And guess what we found? He had interest policies, retirement accounts all listing beneficiaries (that’s a good thing) but the beneficiary was guess who? The girlfriend that was no longer in the picture and the current wife was listed nowhere on any of his retirement benefits or insurance benefits. So we have barely got those documents updated and changed before he passed away. And we’ve seen instances where some of these accounts or documents get forgotten or neglected and assets end up transferring to people that the account longer wants to have received the assets and they’ve updated the will, they’ve updated the trust. Again the will and the trust doesn’t control accounts with beneficiaries designations like life insurance or retirement plans. And the and the other mistake we see being made really falls into more of a family planning situation and I just want to encourage everyone to the extent possible, the more you can share your basic or general estate planning strategy with your family the better off everyone’s going to be. And here’s what I mean about that. Years ago, one of our clients contacted us. They had a parent in failing health. Going to pass away in a short period of time. Racking up all kinds of medical expenses and they were just concerned that they were going to be burdened with their parents’ healthcare medical expenses once they passed on. So before we could meet to just review and let them know where they would stand financially and also from an asset protection point of view, they parent passed away. So after they made final arrangements and taking care of the arrangements and the funeral and so forth. We ended up getting together to updating and make plans going forward. And lo and behold dad, the parent dad, had left an estate in excess of $2 million to the kids. And I say kids, there was just one child. So, and this came as a total surprise to the child, because dad had always talked about being proper. Always the buying things that the discount store, the dollar store. Just living a very frugal way of life. And that’s being generous. So here we just have a frugal man. Allowing his family to think that he, he had little if any financial means behind him. And in reality, that was not the picture. And because being too, in my opinion, being too secretive. Really hadn’t done proper estate planning, and this was back when the estate tax laws were a $600,000 state tax exemption. So this gentleman left a taxable estate in excess of $1.4 million, and I think the first check that the daughter wrote was in excess of $700,000 to the IRS to pay the inheritance of or the estate tax.

And I sit back and look at this and I got to believe proper estate planning coordinated with the daughter another friends and family members that estate tax could have been significantly reduced if not totally eliminated. But you have got to involve family to a certain extent, whenever possible. And that can be tricky and we know and understand that it’s ,you know, if you got heirs that have issues that maybe they’re not fiscally financially responsible, you need to take that into account as well, but at the same time you got to take a hard look and be brutally honest. Most of our clients tell us their family members their heirs are a capable of making prudent decisions and choices using common sense and then if so, I would suggest the more you can involve your family members in at least your general strategy and decisions the better off everyone’s going to be. So just some food for thought as we look at the year’s all over, half over. We’ve got what, four months left in the year? That’s hard to believe. Just some things to be thinking about in your own personal estate planning situation.

So with that, Tony let me know if I’ve left anything out or if you’ve got comments to add and then let folks know how they can jump on the line and ask a question or share a comment.

Another shy crowd.

Indeed

Since you since you mentioned the primary s, I’ll share my two cents. I think most people on this call probably are of a similar mindset. If you don’t vote then you don’t have a right to complain, so please if you haven’t voted, please vote and make your voice heard. And then the other thing that I’ve been ranting and raving mostly to my wife she gets the brunt of this is I’ve been thinking the politics and the craziness going on in Washington now more than ever. It seems like certainly and term limits. So are most people I talked to were in favor of term limits would get frustrated that our politicians don’t mandate your or make a law for term limits, and then the thought struck me. We really don’t need to wait on them to pass a law to create term limits. If we as a society want term limits, we can force that just via how we choose to vote. So just food for thought. Not telling you what to do, but that probably would tell you what I’ve done and I still remember Shaquille O’Neal as he was heading out of town when he decided not to renew its contract with the Magic. One of his quotes was that, “Change is good.” I think that quote holds true with the political offices as well. So anyway were going to let everybody go. One last chance if you have a question or comment. Pop in now or were going to let everybody move on with the rest of their day.

Okay, well everybody thanks for joining us on the call. We will have another edition of Coffee Talk next week (next Tuesday at nine o’clock, just like today). We want to thank you for joining us and as always, if you have a question or comment you want us to address privately were happy to do that. You got an idea for a topic that you’d like to see on a future Coffee Talk, were always open to those suggestions and ideas as well. To do that, just call the office. The number is 800-393-1017 or if you want to shoot us an e-mail, the best way is the info@fmcretire.com. Bye everybody. Have a great week. We’ll see you next week. Bye now.

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… sounds great. All right, well, this is Bryan Terry from Financial Management Concepts. And we are going to just go ahead and start rolling. Last week and yesterday you got an e-mail that said “Do you really think your broker works free?” And the reason why we sent this out is I can’t tell you, honestly, how many times we’ve talked to folks over the years. We’ve set down and done an account review for someone. And they’ve said, “You know I’m not happy with my broker but you know I don’t really pay them so, you know, if I don’t pay them I can’t really be that upset about how poorly their doing. It doesn’t always go like that but that’s one example. And we’ve have always had to tell them, “You do pay them. You may not see it coming out of your account but you’re paying them.”

“Oh no, I don’t. I don’t pay them anything.”

And when we show them their accounts and their account statement, and we look at all the different mutual funds that they hold, we point out that those mutual funds are paying the brokerage firm. Fees that the broker shares them. All the time. All the time. And folks just don’t understand and it’s not disclosed that the broker they are working with is getting paid by brokerage firm for selling them these mutual funds. And it just blows them away that they and they never thought that they were paying their broker. They just figured, “I’m just in mutual funds, and that’s I’m not I’m not paying any fees and expenses to work with this broker.

Now on the other side of the coin when that same person sits down and says “how do I work with someone like ya’ll?” Now, we’re an investment advisor and wealth manager. We do financial planning and when we get into fees and expenses we charge folks a fee. And it’s disclosed we’re up front about it. And they know exactly it’s going to be. And folks end up making a comparison, you know, and it’s an apples-and-orange comparison because we don’t have mutual funds that pay us. We work for clients. We work for folks. We work for people. And what we do is we’re a fiduciary. We make decisions that are in folk’s best interest first. And we can do that because we’re not being paid by anybody else. We get paid by you if you are our client. So there’s a difference in how the two work and inevitably, you know someone who sells mutual funds tends to not have all the different services other than just investing some of your money. And we, an investment advisor/ wealth manager more often than not has a complete list of services that they provide. Things that they help you with that more than makes up for the minute difference that we always show folks. The difference between mutual fund investing and the way we invest and add up all the different services, different things we do for folks, if you were to pay for everything a la carte, you would actually end up paying more for than what you invest with your mutual fund broker for. And how can I say that? Well, if you have $100,000 invested with your broker and you are in mutual funds. Now I am using an example of the US mid-small-cap group of mutual funds. And I’m going to compare it to something called an exchange-traded fund, an ETF. And it’s a fund as well. But it’s a completely different animal than a mutual fund. The major difference really is the cost. Now the mutual funds set of US mid-small cap funds, the average cost that you don’t see (and it’s disclosed, but it’s not easy to find). It is 1.43%. So if you have $100,000 invested you’re actually paying this 1.43%. Now contrast that with an exchange traded fund ETF. The average cost for this same group of funds in the US mid-small cap arena is .51%, so half a percent.

So that’s almost a 1% difference in cost 92 basis points, and in its… So how much is that? Well, over let’s say a ten-year period, how much is that can cost you with $100,000 account? Well, if we were to take that $100,000, and we say that it’s for 10 years you’re going to get about at 8% return. And we’ll invest in either mutual funds or ETF’s. We’ll pick those areas. If you invest $100,000 for 10 years in the ETF portfolio and this is kind of a goofy number, but this is simple math just so we show you the difference. If you if you invest in the exchange traded fund portfolio you would end up with $235,000 after 10 years. And after 10 years of a mutual fund portfolio, getting the same return, you’d end up with turned $215,900. So you’re actually, over a ten year period would have, for the same exact return, …you’d have $19,100 more in your account if you were to invest in an exchange traded fund portfolio. That’s the difference in the fees and costs that you don’t see any in these investments. Almost $20,000 difference over 10 years and yet that’s not disclosed anywhere. They don’t show you, “hey here’s how much more you’re going to pay.” And you wonder where the money comes from to pay their broker if it’s not coming out of your account. Holy cow! $20,000 over 10 years and you can’t figure out where that money comes from. I am not being fair, not being kind. Folks just don’t think about it. It’s not there is not presented it’s not in-your-face. So you’d just think… I understand why folks say things are for free. They’re not paying for it upfront. In the light of it’s a big difference.

So if you are a do-it-yourself investor and you are using mutual funds, how could you do it better? How could you do it better if you’re even if you’re using a broker, how could you do it better if you are using mutual funds? Look at exchange traded funds. Look at look at lower-cost alternatives to using mutual funds if you want to save that money; you don’t want to spend that money. So what could you do? Well, number one, you could go from trading mutual funds to investing in a stock portfolio. You could be a stock picker and I’ve known folks that have done just fine getting in and out of stocks over time and taking a long-term view of the market. Lots of different things. But, I will I’ll also say I’ve seen probably more folks be less successful in trading stocks and have failed. Because if you were to use just index (we’ll just say, you know, the S&P 500, the NASDAQ the Dow). Pick an index for a benchmark for one of these stock traders and their either way above it or way below it. And most of them are way below. I’ve got a ton of background and we could talk about this some other time with highly active investors and stock traders. And I’ve seen most of those guys fail at doing that.

So expertise that’s the first that’s the first roadblock to trading stocks. Do you have the expertise to do it? It takes a ton of time. Second roadblock. Tons of time. You’ve got to stay on top of the research. You’ve got to stay on top of the trends. There’s lots of work to be done in trading a stock portfolio actively. Now, if you are going to buy-and-hold, you could argue that there’s no time involved in that. But I would also say that it if you want to eject the risk canister from your brain and you don’t mind being on a roller coaster ride once in a while, then yeah, you could sit there and not worry about, “Hey I bought this blue chip, and it’s going to do fine in the long-haul.” I’m pretty sure Enron was a blue chip at one pointing time. It would have been considered that. It’s time intensive to stay on top of those things.
And then I just touched on the last roadblock to the trading stocks as opposed to mutual funds and it’s more volatility. One stock versus a basket of stocks, a basket of companies, is going to be much more volatile in the short term, in the long term, it doesn’t really matter. It’s gong to be higher and higher likely than not more volatile. So that means roller coaster ride. And again, you’ve got to eject that risk canister out of your brain so you cannot worry about it. And for the most part, I don’t know a whole lot of folks that are comfortable with not paying attention to how much money they have or how much risk is involved. That’s really what it comes down to. It’s just, “How much money do I have? What’s there, what’s in my account?” Folks check. And that’s the risk factor. I don’t see anybody with the ability that could just ignore that unless they are 25 and have a lifetime ahead of them to invest and to not worry it.

What’s another alternative to that? Hire a professional delegated it. One that uses low costs investments. Not somebody that uses high cost mutual funds because that’s how they want to get paid or that’s what their business model is for getting paid. Not saying that’s the wrong thing, I don’t necessarily agree it’s the best way to do business, but it is, unfortunately, one way of doing business today. The SEC, today, is (and we’ve got some new legislation out for the financial markets) and the SEC is looking at how to make funds disclose fees and expenses and costs to investors. And it’s interesting. All the things that I’ve read about how they’re looking at the fees and costs and how it’s presented to folks. For some reason it just doesn’t seem like those folks are paying real close attention to how investors understand money and how things work. Because it’s just real confusing and I’m confused when I read about what the folks at the SEC are discussing. And I understand this stuff really well.

So, I guess, a last thing I would say on this is you know, when you have hidden costs in your investments in your account and you’ve got someone who put them there, you really need to understand why they are there and how those folks are getting paid. Your broker does not work for free. And if you have an investment advisor who you think works for free, whether they call themselves a broker, an advisor, a financial advisor, whatever it is, if they’re seeming to be working with you out of the goodness of their heart, just know they’re not, they maybe have a good heart, I’m not saying that, but they’re getting compensated to put those investments in your account. And all I’m saying is there’s always a better way. Tony, that’s about all I had for a commentary on that. Did I miss anything? Can you think of anything to add to that?

Not really other than to say that when it comes the disclosure of fees and things like that and you know, like Brian’s saying, I mean it’s a complex topic and it’s a complex industry. I mean we would certainly love to see it simplified and then not be… with the new legislation that will eventually change so that people are … You know you can read on one piece of paper, you know, what you’re being charged as far as fees and compensation rather than have to go through a 100 page prospectus for each investment you hold trying to figure it out. So hopefully we will get to that point, but until then, you know, I think of a lot of what we’re talking about today is that you know you have a decision you know, if your do-it-yourselfer that’s great. If your do-it-yourselfer then you should be as educated as you possibly can about the method of your investing whatever system that happens to be. You know, become expert at it. If you don’t want to spend the time, which it does take a lot of time to do, if you want to spend the time or you don’t want to have to worry about stuff like that and you want to delegate it to somebody else, make sure that you understand, you know, what your investment advisor is doing for you. You know, we like Brian was saying earlier, we are crystal clear about what we charge our clients and we’re an open book as far as explaining our investment system and things like that. So you just want to make sure that you know and understand, you know, how things are working. Because after all, it is your money. So why not take an interest in what’s going on with your money rather than just, you know, blindly, you know following the herd or listening to somebody that called you on the phone out of the blue or something like that on a cold call? You want to use caution. It’s just like if your sink was to spring a leak or something and you have a plumbing problem, you know, well if you happen to be an expert plumber, you could probably fix it yourself. However if you’re not, do you really want to trust your neighbor, who’s a car mechanic to do your plumbing? I don’t know, but those are things you should be thinking about because once again, this is your money and it’s your future. So, with that being said, BT, did you have anything you wanted to tack on, or we’ll open up the line for questions and comments?

One of the things that you did touch on is interesting, you know, the coming witch-hunt it seems like, almost from a government standpoint. Things are going to be changing evidently, and they’re pushing to change how things are disclosed. And I keep thinking that you know the fat lady hasn’t sung yet and there’s an awful lot of lobby groups that don’t want investors, or it…Were it appears, I’m not saying they necessarily don’t want this but there are groups out there lobbying for things to stay the same or things to stay relatively the same, because there’s this perception that folks don’t understand. Wouldn’t understand if they were told how this works. Haven’t been interested in finding out how works because they continue to invest the same way. So we’ll see how this new legislation and new direction of disclosure plays out. But we’ve always been completely transparent with how things work with us. And we can look ourselves in the mirror at the end of the day and be happy with how we do things for her folks. And with that said, if there’s somebody listening to this call and wants to find out they’re fees and expenses and what their costs are in their brokerage account, feel free to fax us a statement or email it to us. And if you want to give a call and say, “Hey, how would I get you to review my statement, review my account and let me know what my costs are?”

Give us a call. 407-647-7006. Ask for BT and say you’d like your account reviewed. I’ll take a look at it for you and let you know what you’re paying if you don’t know what you’re paying. That’s it. That’s the only thing I wanted to offer. So, Tony do you want to open it up for Q&A?

Okay the lines are open, so feel free to speak up if you have a question or comment.

I think I heard a pin drop. Not unusual for folks to be shy. For those of you who are shy you can always email your questions. So, second call, any comments or questions?

if you want to shoot us a question or comment just send that to info@fmcretire.com. And we’ll either make it a call topic or we’ll definitely get back to you but perhaps we’ll make it a call topic. We get some interesting questions from folks from time to time. And frequently they wind up a topic of one of these calls.
If there is nobody else that that wants to ask a question or make a comment today than will let everybody get on with their week. Anybody else? Anybody, any takers? Going once, going twice. Thanks for coming along this morning everybody. It’s been enjoyable discussing things with you all. And we’ll talk to you next week. Thanks very much.

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Good Morning everyone. Welcome to today’s call. The topic is “How to Handle an inherited IRA.” What you need to know whether you’re inheriting an IRA yourself or trying to protect your heirs. And these comments in most cases apply to not just IRA’s but also company retirement plans like 401(k)s and 403(b)’s. So just in things that you need to be aware of the rules are a little bit different compared to a traditional IRA if you will. If you are inheriting an IRA or let’s just say anybody that inherits IRA, the rules are a little different depending on your relationship to the IRA account holder or the original owner of the account. If you’re a spouse then you can, if you choose, you can have your inherited IRA if it’s from your deceased spouse his or her IRA can be rolled over into your own IRA account. But that may not always be the ideal choice, and here’s why.

Years ago we had a situation. Somebody came to us. Their husband had passed away. They had gotten what turned out to be poor advice. They had transferred their husband’s IRA to her individual IRA and the problem with that is she wanted money from the IRA to pay some living expenses and generating an income. But she had not yet turned age 59 1/2. So she was younger than age 59 1/2 and because she transferred that money to her own IRA account, she was going to be subject to the 10% early distribution or early withdrawal penalty. If on the other hand, she is simply left the money in her husband’s IRA account, she could’ve pulled the money out free of the 10% early withdrawal penalty. So that one little mistake ended up costing her of thousands of dollars in totally unnecessary penalty taxes just by not getting the proper advice.

The same holds true on if it’s a non-spouse. You’re not able to roll over and inherited IRA to your own IRA if it’s a non-spouse type of account. Then you have the choice you can either terminate the IRA account, and then you pay ordinary income tax on the entire amount. But the good news is you don’t have to pay the 10% penalty tax even if you’re not yet 59 1/2 years of age yourself. Your other option is you can leave the inherited IRA money in the IRA and you just need to re-title the IRA and we call it an inherited IRA, but usually the re-titling would look like something along the lines of John Doe deceased inherited IRA FBO (For Benefit Of) John Doe Junior, beneficiary. And now you’ve got an inherited IRA. The advantage is you can leave the money in. It can continue to grow tax-deferred. You can withdraw money at any time you pay ordinary income tax. But you avoid the 10% early withdrawal penalty tax even if you’re not yet 59 1/2. The one little catch to an inherited IRA is you have to take a minimum distribution even if you have not turned age 70 1/2 yourself. The year after you inherit an IRA you have to start taking distributions. That’s assuming that it’s an inherited IRA but if you’re a spouse and your roll money over to your own IRA you don’t have to take minimum distributions until you have turned age 70 ½.

Starting to get a little confusing here, I know. But bear with me. So the bottom line is if you inherit an IRA or anybody that inherits an IRA the money can stay in the IRA account. You’ve got access to the money without having to trigger the 10% early withdrawal penalty. You have to, for non-spouse beneficiaries, take minimum distributions based on your life expectancy.

Now a common mistake is what happens if you inherit an IRA from somebody who’s already turned 70 1/2 and they’ve already begun taking minimum distributions. While you want to make sure that the year they pass away that they in fact did take their required minimum distribution. And that’s going to be reported on their final income tax return, not yours. And then every year thereafter, for an inherited IRA, you take your required minimum distributions, if done properly, based on your age and your life expectancy tables. So if you’re an heir to an IRA and you’re younger than the person you inherited the IRA from the minimum distribution requirements is going to be lower (sometimes significantly lower) compared to what the original IRA owner was required to take.

Just a couple mistakes. Common mistakes we see people make. With an inherited IRA you do not have the ability to implement the so-called 60 day rollover rule. You know, if you’re an IRA if you got your own IRA and you want to move it to another IRA you can actually cash in your IRA account. Put the money in your pocket and as long as you redeposit into another IRA account within 60 days you don’t pick it up as a taxable transaction. That ability does not exist with an inherited IRA. You must do what is called a trustee to trustee transfer again from the original IRA to an inherited IRA or if you’re a surviving spouse to your own IRA account if that make sense for you.

The other mistake we see folks make it quite often is on beneficiary designations. Just remember, whether you have a will or trust it really doesn’t matter. Your IRA account is going to go to whoever is designated as the beneficiary on that IRA account and if there is no designated beneficiary, then it becomes part of the estate and then things can get ugly quick. If you name your estate as an IRA beneficiary or you have no IRA beneficiary then the IRA usually is deemed to be inherited by your estate and when you name an estate, the IRA account typically has to be liquidated within five years. So he your heirs lose the ability to have an inherited IRA and keep the IRA in their name their account really for the rest of their life. If the IRA beneficiary is an estate and the owner was over 70 1/2 then the required distribution schedule of the original owner has to be adhered to. Let’s see what else am I missing here, so the bottom-line is make sure your beneficiary designations are up-to-date on your IRA accounts, You want to periodically review and confirm that your beneficiary designations match your current thinking and wishes.

And here’s where things can get a little bit interesting if you will. The question we always ask clients to ask themselves when it comes to beneficiary designations. Commonly, the common strategy would be you name your spouse, if you’re married as primary beneficiary. And then if you have children, you name your children as contingent beneficiaries. Well sometimes we see folks have set up a trust, and they will name their trust as a contingent beneficiary.

A problem that could come up with that is if you have multiple trust beneficiaries. Let’s say multiple children, two, three, four kids. If the IRA beneficiary is your trust then the kids, if they want to access IRA money, they’re going to have to agree on when money is withdrawn. We’re assuming they meet the minimum withdrawal schedule or the minimum distribution schedule, but if they want to take more money out of that, they have to all agree on that and obviously more beneficiaries you have, the less likelihood they’re all going to agree on the same thing at the same time. So what we prefer to see is rather than name the trust, and here’s a question you want to ask when it comes to children or grandchildren, are they capable now if they were to inherit the IRA or their share of the IRA account today, are they able to make good common sense business decisions. They don’t necessarily need to know how to manage and invest investment monies or investment accounts, but do they have enough common sense and business sense about them that they can hire good advisors, and they wouldn’t be frivolous with their use of the IRA money? So if you’re comfortable that your IRA beneficiaries are responsible and capable of making wise choices, then we say name IRA beneficiaries individually or contingent beneficiaries in this case, you’d name them individually as opposed to naming a trust.

So that begs the question, “What happens if you got up at an IRA beneficiary or contingent beneficiary that either has a disability issues, drug / alcohol issues?” So for their own sake you don’t want to give them a lump sum access and control to their share of the IRA that they may inherit. But you still wanted to give them the use and access to those funds. Well in that case it does make sense to use a trusted beneficiary, but we would suggest in general terms that you think about just having a trust as beneficiary for that one particular beneficiary, and then you name any other family members individually if they’re able to deal with and handle money in a responsible manner. And then we’ll put handcuffs on the. You just put safeguards in place for those family members that need those safeguards for their own good for their own benefit. And again, I just can’t overstate how important it is to make sure your beneficiary designations are up-to-date and current.
I’ll share a little story with you. Years ago one of our clients was a master chef. He had an opportunity to go to Europe and train in Europe with some of the top European chefs really in the world so he left the US for about five years with his girlfriend. So before he left we made sure that all of his insurance and investments beneficiary designations were in place. And and his girlfriend was listed as primary beneficiary on his retirement money and life insurance all this good stuff. So he returns to the states about five years later. He’s now married, but to a different lady. So not the original girlfriend that he left to go to Europe with. He came back home with a different person and had already married her. And the sad part of the story is he had a severe form of brain cancer and really didn’t have a whole lot of time left. And he since passed away. So when we are updating everything, guess what we found out? The original girlfriend was still the beneficiary on all of his life insurance on all of his IRA accounts. Fortunately we were able to get all that changed and get his wife listed so she ended up receiving and inheriting his money his assets. But for a while there an old girlfriend was in line to quite a sizable inheritance that she really had no idea about it and he had totally forgotten about. So it’s just the simple things. It’s kind of like we’ve all heard this before, the Devils in the details. So, again, make sure you’ve got proper beneficiary designations on your IRAs and your 401(k)s.

The other thing you need to be aware of with 401(k)s, most retirement plans do not allow an option for an inherited or sometimes it’s called a stretch IRA. So once you’re… if you’re inheriting a company retirement plan, there typically going to want you to move the money outside of the company retirement plan. The good news is that a lot of these companies now or at least letting us move the money to inherited IRA accounts which can be done. But if left unattended, company retirement plan beneficiaries could be faced with having to deal with the so-called five-year rule and having to liquidate the account within five years after her of the account’s inherited. So what we encourage folks to do is once you’ve left the company from an estate planning point of view, there’s really not a compelling reason to leave your money in a company 401(k) account, your better bet is to transfer, which is a tax-free direct transfer, transfer those monies to an IRA account and then down the road at IRA account can be turned into an inherited IRA account. And that’s a much easier simpler process for your heirs to deal with than trying to have to maneuver the paperwork and the requirements for most company retirement plans.

Okay, so I’ve covered to some of the highlights that I wanted to go over Tony let folks know what they can do to ask questions or share a comment.

Alright, anybody have a question or a comment?

Brian I’ve actually had just a comment in regards to the inherited IRA and I don’t know if this would even be a part of a different call or something, but maybe slightly off topic, but we talked about the rules for the inherited IRA but a consideration that may even come before that would be whether or not you, as a beneficiary, if your inheriting an IRA whether or not it even make sense to do so because depending on what your own set of facts and circumstances may be in depending on who the contingents are it may be a very effective way to pass assets on by disclaiming your inheritance basically and allowing that those funds to pass to another beneficiary that you wouldn’t want to see the funds go to.

Good point. Thanks for bringing that up. And that’s why typically if it’s a couple, a married couple, will a standard recommendation would be spouses are primary beneficiaries of each others’ accounts and then contingent beneficiaries would be other family members, kids or other relatives. So a surviving spouse, then is not required to accept their inherited IRA’s interest to speak that you could, as Tony mentioned, disclaim a portion of it or all of it and basically are just telling the IRS that while you’re due this sum of money, you’re gonna reject it or turn down the gift. And in that case, the portion that you turn down would revert to whoever is listed as a contingent beneficiary. So in a family situation you know, maybe a surviving spouse has sufficient assets and monies and other accounts their own retirement plans, and so on, that it makes sense just to bypass the surviving spouse altogether and get that money into other family members. And that can be a very effective estate planning, tax planning type strategy. And again that just stresses is the importance of listing not only a primary beneficiary but also a contingent beneficiary so that you give your family as much planning flexibility as possible.

Any other questions or comments?

One other thought that popped into my mind I’ve mentioned before this lady we worked with years ago that that got poor advice transferring her husband’s IRA over to her IRA when she had not yet reached 59 1/2 and then wanting to, not just wanted, she needed to pull money out of the IRA to cover her monthly living expenses when we look at the situation he only explanation I could come up with is the person that helped her make this transfer sold her another annuity or a mutual fund, I can’t remember which, but I do recall vividly that there was an upfront commission involved that put money in their pocket. Had the money just stayed in the husband’s IRA there would not have been a commissionable event or transaction and this lady would have been able to withdraw money without any kind of a penalty tax for early withdrawals. Sometimes in the, the agent’s eagerness to affect the transaction sometimes some advice is compromised, whether it’s intentional or not. So just something to be aware of as well.

Okay, we’re almost out of time. One last chance, if anybody has a question or a comment tell us your first name and ask your question.

Okay well I guess we got another shy group and maybe folks still on summer vacation so I want to thank everybody for joining us on today’s edition of Coffee Talk. We’ll be with you next Tuesday same time, different topic which reminds me and if you’ve got a particular question or topic that you’d like to see us cover in a future call , call the office or send us an e-mail and let us know what you’d like to see us cover in a future talk. We’ll do our best to accommodate you and if you have questions about your own individual situation that you want to address with us privately were happy to help his as well just call the office or send us an e-mail, were happy to help any way we can. And with that I want to wish everybody a fantastic rest of the week and we’ll see you next week. Bye now.

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Good morning everyone. Welcome to the call. This week’s topic is maybe a little bit out of the ordinary but for us, not so out of the ordinary. One of things we encourage our clients to do is to call us or e-mail us or contact us anytime you have a question in any time you were thinking about doing something to get our input perspective so that you make the best choice for your situation. What we really want to avoid is and what we hate to hear is guess what I just did comments. So years ago, this will date me, years ago when almost no one had a cell phone there were payphones. And there were small-business opportunities where you could invest money in the payphones kind of like a vending machine route if you will. And I remember one of our clients ended up investing in a payphone company and they made all kinds of claims and guarantees that sounded too good to be true and unfortunately he ended up losing virtually all of his investments and had he contacted us first, we probably with the information that we became aware of after the fact, we most definitely would’ve done everything we could to encourage him to not put his money in that opportunity. At least he was honest. He was telling me after the fact “Well I didn’t call you because I knew if I did you would’ve told me not to do it and I really wanted to do it anyway.

Anyway in the last couple weeks, we’ve got a couple of e-mails from folks and the tone of the e-mail really can be summed up in a comment and I think we put into the e-mail announcing this call and the gist of it is “Hey Brian is this really true?” One of e-mails, and this is one of the things that have the tendency to grow legs in the e-mail chain forwarded and it just never seems to go away, but one of the questions was there’s an e-mail going around where it’s warning alarming people that I can’t remember if it’s starting next year or in 2012, companies are going to have to start including the cost of employer paid health insurance on your W-2’s, if you’re working and if you’re get a pension it will be included in the W-2 you get from your pension. And the alarm bell going off of course is wait a minute, that can increase my income that shows on my W-2 and therefore can increase my taxable income and depending on the company, some companies still pay 100% of employee medical insurance, that could add up to $5,000 – $10,000 of extra income that folks in theory would be paying income tax on. Well in this example, this is just really a half-truth. Whoever sent the e-mail out, if their purpose was to get everybody stirred up and riled up then they accomplished their goal. But the half-truth is yes, companies will have to start showing on W-2s for employees and pensioners they’ll have to start showing the medical premium health insurance premium on the W-2. However, it will not be included in taxable income. So you don’t pick it up as an increase in your income. It’s not some clandestine strategy by the government to raise more tax money. So if you have seen any e-mail order or it comes to you down the road, rest assured and this is stuff we’ve researched and checked out and all that good stuff, the bottom line is yes, If a company is paying part of your medical insurance whether you’re an employee or a pensioner or retiree eventually that’s going to make its way to a future W-2, but you’re not going to pay tax on it and it’s not going to be included in your taxable income.

The other question, we got last week was again part of the new laws that went into effect and in the new healthcare, it’s amazing what got buried into the health-care reform law. So apparently there’s now a provision that is going to require buildings, homes, office buildings and so forth to comply with a new energy and water efficiency standard. And the e-mail circulating apparently is suggesting that in the future if you want to sell your home, you are going to have to bring your home up to compliance to meet the new energy and water efficiency standards and cost estimates depending on how old your home is and what you already have or don’t have a place to bring it up to standard if your home hasn’t been built within the last couple years, it’s going to take you anywhere from $6800-$50,000 to bring your home up to this new energy and water standards. Well again, here’s where the information is almost correct. Yes, there are new energy and water efficiency standards, but they will only apply to new construction. So builders and architects don’t have to be aware of the rules make sure any new construction complies with the standards, but it doesn’t affect existing buildings so no, if you’re looking to sell a home or building you’re not going to have to retrofit and upgrade to meet these new standards. And as I got to thinking about these two e-mails and listening to last week’s news and the week before about Shirley Sherrod and she’s the lady that was forced to resigned or was fired from the USDA because of the speech or a piece of the speech that she gave showed up on YouTube. And that got me to think about just the power of technology, the power of media today and really the lesson learned and we need to continually remind ourselves 15-20 years ago, the challenge when it came to investing in financial planning was just getting your hands on good reliable, timely information. Well that no longer is the challenge today. We’re bombarded with information 24/7 365. In any form, shape or variety we want to get it. Now we can get the news on our phones of all things. So now going forward it appears to me that what we are going to have to be diligent about is half of the information that we receive we can’t just perhaps like we did 20 years ago, we can’t take it at face value and assume it’s 100% accurate even when it comes from the news media. Because the news media yes they are going to try and do the best job possible, but they’re working on limited budgets, reduced budgets, tighter time pressures they don’t always have the time to do the fact checking that what they would like to do and if we can just look at this Shirley Sherrod. I mean good grief, it made national TV, and she was depending on the report forced to resign or was fired because of this thing on YouTube. Then it comes out a day or two later, if anybody in the media would have bothered to check things out, they would have found it was taken out of context and she wasn’t the ogre that she was originally thought to be and that resulted of course and her boss and the president having to issue an apology to her. So I just want you to remind everyone and us included that we have to be vigilant in today, the information that we get and make sure that it’s from a reliable, credible source, but then not be afraid to check it out and investigate it for ourselves even further because you can’t take things unfortunately these days you can’t take things at face value. Certainly with a lot of the e-mail chains that seem to be going around and thanks to the internet along with that going on the Internet. Yes the benefit is a lot of good useful information so assess to information is certainly not a issue or problem today like it was 20 years ago, but with that comes a whole new set of the issues or problems that we have to be aware of and deal with.

So the bottom line is don’t be afraid to ask questions check things out and don’t just react to everything that comes across in the media or on the internet and sometimes there’s more behind the scenes than what meets the eye.

So those were comments and thoughts I wanted to share with you today just some stuff we saw going on in the last week or so. And now BT anything you want to add or anything I’ve left out?
BT: no it’s funny I’ve said the same thing many times to folks about an e-mail that the things that they bring to my attention is this true, take a look at this, and a lot of the things that do come across the desk today in e-mail especially the e-mail chains. There is some inkling of truth to it, but many times it’s blown out of proportion and I always find myself checking it out before I reply, before I forward, or make any comment about what I see. You know that is part of being responsible in your communications with other folks. You either know what you’re doing and talking about or you’re just throwing nonsense around and you have to make the choice to know what you are doing with it because there is a lot of it out there.

Brian Fricke: Which is why if you get our monthly newsletter, that’s why we’re always every month reminding everyone if you have questions or concerns, call us if we don’t have answers we’ve got resources that can lead you to the right answer or the right information so that you make the smartest choices possible about your situation. So you can have as close to a worry free retirement and worry free way of life as possible, and that’s one of the reasons we do these calls. We just want to be available. We want to be a resource of either directly or to be able to guide you to resources that can be of some help to you.

BT let’s go ahead and open the line to see if anybody has a question or comment they care to make and we’ll go from there. (Instructions given)

Brian Fricke: If you have any questions go right ahead. I think we may have another shy group today. Lots of people still on vacation.

BT: Did you know that we’re exactly 2 years away from the Summer Olympic Games in London today. Little tidbit there.

Brian Fricke: Okay folks, last chance, if you’ve got a question or comment to share with us then ask away.

Okay well I guess we’ve taken care of business today so we thank everybody for being on today’s call just a reminder we’re here to be the resource for you to you so during the week if you have questions or concerns about your own individual situation, please don’t hesitate to give us a call and let us be a resource for you and help you make smart choices about your money so you can accomplish what’s really important in life for you and with that we’re going to get on with the rest of our day and week and wish everyone on the a call have a great week and we’ll see you next week. Bye now!

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So it’s 9 o’clock so we’ll get started. Like I was saying just a moment ago, I am flying solo this morning so I’m running the switchboard and doing the commentary so I’ll try not to press any of the wrong buttons during the call. All the lines are on mute for the first part and we’ll open it up for questions and comments at the end.

So what we’re going to talk about today is 401K’s. Most people think that there are no costs associated to their 401K as employees being participants in their company plans and a lot of people don’t realize that there are costs associated with that. Some of which are born by the employer and some of which are, as participants, absorbed by you guys. So that’s really kinda’ what we wanted to do is bring some of that to light because really some of it’s kind of well shocking. And for those of you participate in some of those plans you may want to do your own due diligence and make sure that you’re up to speed on what’s going on in your own plan.

And kind of what I’m talking about is simply that there are many different kinds of 401K plans available, retirement plans. They’re offered by different types of vendors, if you will, whether it’s even though you may be the employee of a company, that company uses a 401K product, if you will, that’s provided by somebody else. And sometimes that’s an insurance company. Sometimes that’s a brokerage house. And typically, the larger the plan, the more economies of scale you’ll get which usually means to you that if you’re in a, you know, a company that has thousands of employees, there’s a chance that on a per-person basis your costs are going to be lower than, say, somebody that works for a company that has 5 people. So that’s kind of the difference that we are talking about is a lot of times these small business owners get involved with offering their clients these benefits and sometimes they don’t really realize the costs that are involved. It’s notorious that the more expensive ones are the insurance companies. And the insurance companies have, in the past, been the ones to be most predominant in the small business community simply because a lot of the larger plans, sponsors and what not, you know, they felt it wasn’t cost effective for them to participate in the small business community. So small businesses typically had really not very much to choose from.

The good news is that’s changing but the bad news is there’s a lot of small business that have, you know, products they bought years ago that may or may not be the most cost effective solution today. And you, as an employee, or you, as an employer, you always have to try to take a look at what’s going on in your plans just to make sure that you are getting the most bang for your buck, if you will. So, when I mention insurance companies, what we typically see is that insurance companies will wrap this retirement plan up in an annuity type of product. Annuities, when it comes to, you know, an investment type of perspective, annuities are expensive because there is an insurance element to it and insurance costs money. So typically those costs can, you know, run somewhere between 2 and 3% of plan assets. Now it used to be, years ago, that those plan charges, the plan-level charges, were basically covered by the company. So the company was paying the fee, okay, and the participants were basically paying a portion of that fee through the expenses that are passed on through the investments themselves because most 401K’s as you can probably imagine there’s a selection of mutual funds and it’s usually set Some plans have a lot of choices and some plans have just a few. But if you take a closer look at those mutual funds within your plan, sometimes, depending on the plan you are involved with, you can be surprised by what you find because what we’ve seen is that over time you know, employers are being sold these 401K solutions and they’re being told that there’s not contract charges and they’ll be able to show that there are, in fact, no contract charges and fee expenses at the plan level are relatively small. What they’re a little bit hesitant to tell you is that those fees are then being pushed out to the investments themselves and you can see those expenses on the individual investment shooting with the 2%. We’ve seen them as high as 2 ½ – 3%. And a lot of times it’s not very, it’s not like it’s listed there in black and white in big print for everyone to see. Sometimes you’ve got to do the math, add up the numbers and get the true cost of the plan so as a result, a lot of employers thinking they’re getting a low cost plan don’t really realize that that cost is merely just being shifted to the individual participants which they, as employers, are participants as well. And especially in the smalls businesses, the owners typically tend to be the largest participant in the plan just because they own the business. So as a result the problem is they don’t know what they don’t know and sometimes it’s not readily apparent. So that’s kind of what we are talking about today is just that you want to keep an eye out for things like that. And you, as employees, can really; you should take an interest in what’s going on in your own plan and take a look at those fees and expenses that are being passed on to you as a participant. And it’s usually hidden in the fine print of the prospectuses of the mutual funds. You may find it in your employee plan document. Just to give you an idea of the math that we’re talking about; you know if you assume that you have a 2 ½ or a 3 % plan, and you have $100,000 in your own particular 401K, you’re coming up to you could be paying anywhere up to $2500 to $3000 a year in plan expenses. And you don’t even see it because it’s not like its being pulled out of your account as a fee and it’s labeled a fee. It’s coming out of the mutual funds and it drops to the bottom line of the performance of those mutual funds. So you never ever see it on a statement. It just shows up in the fact that your performance is going to be that much lower because of that higher fee. So what does that mean to you over time? Well, you know, if you’re paying $3,000 a year on a plan, do the math. And you know over 10, 15, 20 years you’re talking about a substantial amount of money.

Well what would you do with that extra money? Well you probably wouldn’t want to just give it away unless it was to a charity of your choice. So these are the hidden things that we want to get across to folks and for you to be aware of so obviously if you can save $30,000, $40,000, $50,000 dollars over the lifetime of your plan, you know, that’s a new car or something; or a nice vacation. So food for thought.

So as an employee, or an employer for that matter, what’s available to you? What can you do? Well, obviously regardless of what role you’re in, you want to take an active role in what’s going on. That may be for an employee of a small business. That may be you stopping in and talking to the owner and saying, “Hey I was looking at the 401K plan.” And, you know, making your voice heard; simple as that. Because a lot of the times it may trigger something in the employer, “Oh, okay maybe it is time to look at things” There are a lot of low-cost alternatives that are available out there now because the 401K business is really starting to evolve. There are plans out there that provide a lot more flexibility. You can house them at a Fidelity or TD Ameritrade where you got low cost alternatives investment-wise so rather than investing in high expense mutual funds, you have the ability to invest in lower expense exchange traded funds. So it kinda’ depends on what kind of plan you have; how it was structured and simply bring that to the attention of your employer. It’s a good way for them to really understand that, “Hey, I’m a participant too as the owner of this business and I need to take a close look at what’s going on.” And everybody can benefit as a result.

And then, obviously, if you work for a larger plan, the odds of that happening probably aren’t as strong simply because larger company plans tend to have a much more formal process. They have investment committees, advisors, and things like that they have for the plan to keep an eye on just that kind of stuff. So they’re constantly evaluating on an on-going basis whether or not it makes sense to move the plan to another provider. And really as a small business person or participant there’s economies that can be had simply by having an advisor to the plan. Somebody that’s independent of the company and the participants to be able to take a look at that plan and from an un-biased perspective and knowledgeable about the business and be able to be educated and be able to pass that education along onto the owners and the participants. So it may be even worth it as a small business to invest in having an advisor for the plan if, of course, you can reap the rewards and the savings by doing something like that.

So, that basically covers it. I didn’t want to take up too much of everyone’s time. I was trying to keep it short. But I can see we are already at the half-way point. But we did budget 30 minutes for the call today so I’m going to go ahead and open it up to questions and comments.

Ok, the lines are open so if you have a question or a comment feel free to just speak up. State your first name if you will and go ahead with your question or comment.

Okay, it sounds like we have another shy crowd which is not unusual. So certainly don’t have to feel bad. Just a reminder, these Coffee Talk calls are for informational purposes. It may not be specific to your particular situation. We try to do it in a generalized format so that it’s informational to everyone. And just to add another side-note, the Federal government and the Department of Labor recently issued new rules when it comes to fee disclosures for providers of plans. So it will be interesting, those actually came out last month but they don’t take effect for another year. So it will be interesting to see the positioning that goes on between now and when the rules actually come into effect. Because as you can imagine if you’re in a high-cost plan and that’s made plainly aware to you then the companies that are providing those plans are running a much greater risk of losing you. So it will be interesting to see what format that disclosure takes because technically the companies today are actually disclosing their fees, they just don’t make it plainly apparent. So how those new Department of Labor rules get implemented will be interesting to watch.

DO we have any questions or comments?

Okay, well I’m going to let everyone go so they can get on with their day. Thank you once again for joining us and if you do have any questions or comments that you would like to send to us via email feel free to send them to us and we’ll be happy to address them to you. So we look forward to seeing you guys in the future and we will see you next week. Thank you.

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Hey good morning BT, it’s Brian.

Hey, good morning Brian. It’s 9 o’clock. We’re all ready to get rolling. We’ve got about 15 for comments from you and about 15 minutes allocated for questions and answers if need be. So a half an hour total. If you’re ready to get started, go ahead.

Alright, well good morning everyone. We’re going to go ahead and get started. Today’s topic is ‘How to Get Money Out of Your Retirement Account’ whether it’s an IRA, a 401K or some variation. How can you get money out without paying the 10% penalty tax? And that’s a penalty tax people pay if they pull money out prior to turning age 59.5. And there are some strategies and there’s actually some exceptions to the tax code. If you follow them to the tee, you can pull money out of the retirement account and avoid the 10% penalty tax.

There’s the good news. The bad news is you’re still going to pick up the distribution or the withdrawal as ordinary income and you report that as taxable income the year you withdraw the money. So a couple of the basics and some issues and strategies we’ve come across with. If you just have a short-term need for money… I’m thinking a couple of years ago a client of ours had an opportunity to pay off a private mortgage. The mortgage holder was in financial difficulty and they would take 50 cents on the dollar if our client could come up with the money in like a week or two. And the good news is they had some CD’s and some bonds coming due. The really didn’t want to cash them in at that moment in time because they would have paid early withdrawal penalties and so they were trying to avoid those. So what we had them do is take a distribution from an IRA account and gave that money to the mortgage holder to essentially pay the mortgage off and own the property free and clear for 50 cents on the dollar. And then their CD’s were coming due within 60 days. And they took that money and re-deposited it back into their IRA. And that did not trigger a taxable event, income tax, nor did it trigger the 10% penalty tax because there is a provision (I think everybody is aware of this) the 60 day roll-over rule. And that simply is if you pull money out of an IRA and redeposit the money within 60 days you don’t pick that up as taxable income and don’t have the 10% penalty tax.

Now a warning. You can only do this one time every 12 months. Not one time every calendar year. One time every 12 months. So you got to make sure you keep your records straight and not go to that well too often or you would trigger income and penalty tax. Another way to pull money out of retirement plan prior to 59 ½ years old and avoid the 10% penalty tax is if it’s an employer sponsored retirement plan like a 401K or a 403B and you are 55 years old and have separated service and the money is still at the company retirement plan, you can actually access your company retirement plan money at age 55, not 59.5 and still avoid the 10% penalty tax. Now a lot of people have gotten tripped up with this over the years. For instance, you can’t leave the company prior to you turning 55, leave your money with the company retirement plan, and then go back to them when you turn 55 and expect to withdraw your money and avoid the 10% penalty tax.

The rule is very clear, you have to separate from service with that company after you turn 55 and then take your distribution in order to avoid the 10% penalty tax. And this affects some folks. We’ve work with some folks that are maybe retiring early. They’re going to need money from their retirement plan account to supplement or generate income for them and if they are between the ages of 55 and 59 ½ we’ll have them leave at least a portion of their money on deposit at the company retirement plan just to avoid the 10% penalty tax. Then the question will come up, “What if I turn 55 later in the year but I separated service earlier in the year?” So let’s say you left an employer in March of this year but you don’t turn 55 until December of this year, the 10% penalty will not apply simply because you’ve turned 55 the year in which you separated service.

So what if none of that applies to you? You don’t have money at an employer retirement plan and/or you’re not yet 55 and you want to have access to money, maybe from an IRA account. There is a tax code strategy if you will. It’s called section 72T and all that means is if you set up an IRA account to take what the IRS calls a series of substantially equal periodic payments and you do not deviate from those payments then those payments will avoid the 10% penalty tax. Now, how do you set this up and how does that work? Kinda’ the details? Payments pretty much have to be the same. They have to run for at least 5 years or until you turn 59 ½ whichever time period is longer. So somebody aged 57, let’s say, they have to set up their payment plan to run for 5 years which in this case would put them at age 62. So they have to keep these payments going without deviating from them until, in this example, they turn age 62. Somebody who set up payments when they were 45. It’s not 5 years for them (age 50) it’s age 59 ½ because that’s the longer time period. And the penalty if you don’t follow these rules can be quite severe. And the penalty is if you violate the rule then all the prior year distributions are subject to the 10% penalty tax. You, of course have already paid regular income or ordinary income tax on the distribution. So imagine if you were pulling out $20,000 a year under this strategy for 10 years. So there’s the $200,000 that you’ve taken out, paid your income taxes on it, and then you violate the rules. Woops! Now you got to go back and pay a 10% penalty tax , or another$20,000, for not adhering to or not sticking with the rules.

And what can cause people to not adhere to the rules? Well sometimes it’s just lack of staying current or maintaining the payment schedule. Just the basics. The other is sometimes folks will start a payment plan like this thinking that they’ll need or want the money for a long period of time, or at least the 5 years or 59 ½ , and then something else comes up. Maybe another income opportunity, a part time job, or a different job and now they wish they didn’t have to take the distribution. So they’ve got taxable income that’s higher than what they had originally thought was going to be going on. Then it becomes really just a judgment or a numbers-crunching situation. Do you stop the payments, pay the approved penalty tax so to speak or do you continue the payments? And sometimes, depending on the circumstances, it may make sense to terminate these section 72T payments.

And the other thing that we’ll recommend quite often is if you’re going to set up what are called section 72T payments, rather than use one account for the payment, use multiple accounts. And by that I mean the IRS publishes specific guidelines as far as the interest rate assumption that you use to determine what the periodic payment amount can be. So you don’t get to pick. You know, “Gee I’m going to take $10,000 a year for the next 7 years from a $70,000 account.” It just doesn’t work that way. So you have to have sufficient money in your IRA account to justify these payments based on the interest rate in effect which can change month to month. Based on the interest rate in effect at the time you start your payment schedule. So what we’ll do to provide a little bit of safety and flexibility for our clients that utilize the 72T rule is utilize multiple accounts. So instead of using one account for 72T distributions, whenever possible we’ll set it up with multiple accounts. The monthly income is the same but we just want it spread over several different 72T accounts.

And why would we do such a thing? Well, people and circumstances change. So down the road, if someone needed to decrease their payment, rather than terminate the entire payment, we can take just the one out of maybe four or five 72T account payments, we can just take one account, stop that payment. Yeah, there’s the penalty tax that’s accrued that has to be paid. But now we’ve minimized the cost of terminating a piece of a 72T plan.

The other reason we like segregating accounts is in the event there’s ever a question by the IRS, you can point to a particular account and justify the periodic payment amounts. And then again to provide flexibility, if possible, we never want to see somebody lock up all of their retirement money in a 72T payment plan. And that’s simply to give you flexibility. So for instance, stuff happens. So if you have some of your IRA money set up under a 72T payment plan and now you have an emergency and you need $20,000, you can’t go an modify your 72T plan unless you pay the accrued 10% early withdrawal penalty. Well if you had another IRA account separate from your 72T IRA account you’d be able to tap into that account for, in this example, the $20,000. Yeah you’d have to pay the penalty tax but that’s 10% of $20,000 is $2,000 probably a much better option, not that it’s a great option, but a better option than to have to terminate a 72T distribution plan.

And if all of this is sounding a little bit involved and complicated and confusing, it is, which is why we will, whenever possible, encourage folks not to utilize a 72T payment schedule because it adds a little bit of complexity to one’s overall situation. You have to ensure that you maintain the integrity of the payments to avoid paying the penalty tax down the road unexpectedly and to a degree you limit some of your flexibility in handling your finance and having access to capital. But again under the right set of circumstances it is a viable planning option and a planning strategy.

And with that I think I’ve taken up enough time talking about this stuff. BT, have I missed anything or was I unclear on anything you think?

No! It is a complicated set of circumstances and it’s not something that we would recommend that that the novice, so to speak, take advantage of without consulting a professional. You know there are things that you need to check, like the AFR rate. You should talk about rates that change. There’s reasons for all this stuff and unfortunately the IRS has made it very complicated. I’m sitting here thinking, “Gees, if I was someone who didn’t have any idea about this or how to put it together, I still don’t know how to do it based on what you said.” And it is not because you were unclear. It’s just because it’s so darn complicated. So you know definitely it’s something that we recommend to folks when it’s appropriate, but we’ve been doing this a long long time and have done it for many folks that have retired. So it’s not something we’re new at.

Yeah you bring up a good point. This is not something you want to do yourself especially the first time. You want to have somebody look over your shoulder and guide you. And unfortunately not all financial advisors, stock brokers are up to speed on all these rules. I remember years ago a number of folks from a particular company and these folks were able to roll over, do a partial in-service distribution. So they’re still employed but they were able to roll money out of the company retirement plan over to an IRA account but they still had to leave a notable chunk of retirement money at the company retirement plan. Well, this one particular lady, we were advising her that she really wanted to generate an income stream from this and she wanted to use the 72T distribution rules and so we gave her the numbers. And this is all just based on IRS guidelines. BT mentioned AFR which is Applicable Federal Rate. And there’s 3, short-term, mid-term and long-term rate. But anyway we don’t want to get bogged down with that. So anyway, we had given her her monthly or annual distribution amount and then she tells us the big-name brokerage firm who advertises on TV all over the place is telling her she could get like 10 times the amount than what we’re telling her. And I, of course, had to tell her that somebody over there was making an error and they were incorrect. And the reason we came up with two totally different numbers, is the big, and I’ll say dumb in this case, the big dumb brokerage firm, their representative was including the company retirement plan balance as well as the IRA balance and that is totally incorrect. And unfortunately she chose to follow the big dumb brokerage firm’s advice and then a couple of years later came back to see us to see if we could help her get out of her IRS problem because we, in fact had given her the correct information. It just wasn’t the information she wanted to hear at the time.

Anyway, so enough of that. BT, let folks know how they can ask a question or make a comment.

All right everybody, here’s your chance for free financial advice. Just state your name and ask your question. It’s your turn now.

Uh 0h, I guess we have another shy group or folks are on vacation, or some of both.

Or they are just confused

Which is okay too.

Hey, this is Tony. I couldn’t help but climb up on my soap box for just one moment because it’s just another glaring opportunity in mind of you know the screaming need for tax reform. So for those of you who are not familiar with the fair tax, I would just suggest you go out and get familiar with it because if the fair tax was in place we wouldn’t even be having this conversation. I just wanted to throw that out there.

Thank you Tony. I couldn’t agree more. So Tony mentioned the fair tax which is something we whole heartedly support, endorse, encourage folks to get on the band wagon. If you’re not familiar with the fair tax they’ve got a web site it’s fairtax.org. And you can find oodles of information about how the tax system works and all that kind of stuff. And maybe in a future call we’ll maybe get somebody from the fair tax to give us kind of a summary overview of the fair tax, now that I think about it.

Okay, last chance if anybody has question, otherwise we’re going to let you get along with the rest of your week. State your name; ask your question, going once! Twice! I guess everybody’s shy this week, which is okay. We appreciate you being here. Hopefully you found this information useful and helpful. As a reminder sometimes we’ve had pas calls where things have gotten a little bit heated I guess or we’ve been challenged. And that’s okay. We’re not here to say we know everything because quite frankly if we did we’d have all the money and everybody would be lined up outside our door. What these calls are all about is to give you what we consider to be good useful information to help you make smart choices about your money so that you have the best shot possible of your own version of a worry-free retirement. But that doesn’t mean you have to agree with us all the time either. We know and understand that. And if these calls just spur you on to just think about your situation, then we’ve considered this call a success. So once again, we thank you for joining us; tell your friends and neighbors about these calls. We’d like to have more people participate, get more people informed and educated so all of us can experience our own version of a worry-free retirement.

That’s it for today. Thanks everybody. We’ll see you next week. Bye now.

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Well I’ve got 9 o’clock, so let’s get started. Well I hope everybody had a great 4th of July weekend. We’/re going to jump right into today’s call “What’s in store for the rest of the year?” and to begin with I’m going to give you a recap of what happened the second quarter and first half of year and then we’ll talk a little bit about the of what may come down the road the rest of the year. So probably I don’t need to be you telling me this already. Probably everybody’s got things kind of figured out as far as the second quarter of 2010 is concerned. It wasn’t the best of times for a US or the international stock market. Seemed like everything felt more or less in tandem. The Wilshire 5000 index, that’s just a broad spectrum of US stocks (5000 of them), was down 10% for the quarter down 4.5% for the year. Another index of the Russell 3000 (3000 stocks in that index) again was down over 11% for the quarter, down 6% for the year and if you’re curious our average account (and everybody’s accounts can be different) so some people will have done a little better some will so not quite as well. But in general terms, our average account was down about 5% for the quarter and down that little over 3% for the year. And then for clients listening in if your see your actual performance, you can just go to the online performance reporting system. the good news here is some good news we have somehow managed to avoid putting money into the Cyprus or the Kazakhstan international markets. They were down 30% and 26%, but that means we also missed out on the profit opportunities in Sri Lanka and the Ugandan markets, and they were up 15% to 20% so there is my attempt at humor for the day.

Bonds haven’t been that exciting, and we can’t get too excited about bonds as far as a long-term investment certainly is where we still put money for safe money investing. Ten-year treasuries are a little under 4%. Five-year treasuries are just under 2%. One-year treasuries are paying maybe a third of 1%. And bank CDs are paying the same if not less. So, you know what’s interesting is that while everybody thinks rates can’t go any lower than they already are and then we can’t argue with that logic. Just pointing out the obvious rates are still generally staying where they’re at if not going to lower. The 30-year yield index is now below 4% for the first time since last October’s. And in terms of a seeing a change in direction of interest rates we’d have to see this yield index go and hit 4.25% before we would consider it a significant change in direction for interest rates. And then of course in May, May 6 to be precise, we had to deal with the so-called flash crash or the crash of 245 where in less than hour US stock prices dropped 9%. That’s still being investigated by the regulatory authorities. There’s speculation that it could have been caused by a series of faulty computer automated trades that kinda’ acted in concert or had a cascading effect. And the real interesting thing for us, and we’re going to talk more about this in just a second, is the economy the US economy seems to be doing better but everybody we talked to doesn’t feel like things are better and we’re going to talk more about that in a minute.

But here is why I say that. Corporate profits are some good news, corporate profits the first quarter of 2010 the increased to almost $117 billion. The fourth quarter of 2009, corporate profits were almost $109 billion and of course we don’t have the results in for the second quarter just yet. So corporate profits certainly seem like they’re starting to increase. And I’m going to come back to that in a minute.

Changes we made in the second quarter. We got out of some of our emerging market and commodity investments, and that’s simply us following our supply and demand investment system. Today, we still have positions in US international and some commodity positions. We continue to monitor those positions individually. We’ve got to exit points, or trigger points, on each individual position and if those trigger points get hit we’ll sell the position and have money and cash waiting for a better re-investment the opportunity. We’ve come close, but we’re not quite there just yet. So depending on what this week has in store things may.

The bottom line is, I just want to remind everybody, we certainly have no way of knowing what’s next in terms of where the market is headed in the near future. And I just want to remind everybody to avoid anyone who says or thinks they do. Everybody’s got an opinion. Everybody can back it up with all kinds of research but at the end of the day just remember if somebody really knew what the heck was going on with all be lined up outside their door. They’d have all the money. And that just doesn’t exist. So we just continue to just follow our buy and sell system, which is as unemotional as we can get it. And we’re going to let that be our guiding light so to speak in today’s choppy cloudy economic environment.

And that’s what I wanted to talk a little bit about as well. There’s all kinds of so-called experts and talking heads and research and analysts and going over to the economy the market. And I just wanted to share a couple of nuggets with you. And the and the first thing a lot of talk about is, let’s call it, “heard mentality “. I’ll share an example. We got what I think is the signal of all signals as far as the peak of the real estate markets before that that bubble popped. And that’s when we got a call from a 90+ year old client, who decided that they were to become a real estate developer. They had found I think it was 10 or 15 acres of property they were carve it up into 10 or 15 home sites building lots and sell it to builders because they had read and heard that’s where the really big money is made in real estate in which I found humorous because they, of course, couldn’t answer basic questions like, “Are there, because are there sewer, water, utilities to the site?”

“What about a road access?”

“What’s the property zoned for?”

All that was foreign to them and fortunately they did follow our advice and decided not to get into a real estate development. But along these lines back in 2005 a well-known investment banking company by the name Lehman Brothers (and I think we all know where they’re at today) here’s what Lehman Brothers was saying about the housing markets in all of their economic research. They gave their most pessimistic negative outlook on housing. Their forecast was three years of 5% drops in value. So values would drop 5% a year for three years and then resume normal appreciation every year thereafter.

Interesting we all know what happened to the housing market in an we only wished it would have been that bad, but is not limited to Lehman. Allen Greenspan (these are some notes from investment conference by the way) Greenspan back in 2004 (talking about housing and the prices and so forth) was quoted in 2004 that local economies could experience speculative price imbalances, but on a national basis that would be highly unlikely. June of 2005, reassuring the world if home prices decline it likely would not have substantial implications. October 2006 back when people were bidding on homes and flipping the contracts within a couple of days so without even closing on homes his comments were along the lines of housing prices are likely to be lower than the year before but the worst is probably behind us. That was 2006, and we all know what happened to the housing market since then. And the important fact here is if there was ever a person with access to all the data and all the teams of advisers and researchers you would think it would be Greenspan or, pardon me, the Fed chairman, whoever that person might be. And they still got it wrong.

So just a bear that in mind, our observation over the years has always been what it seems like everybody wants to get into it, that’s the time, you want to be getting out. Or its everybody’s wanting to get out, that’s the time, you want to be getting in.

Now and switch gears a little bit and talk about the economy just in general terms. Why it appears that the we see these reports, corporate profits are up by billions and billions of dollars but yet on an individual basis maybe it feels like the economy ain’t doing so good. So the easiest answer, of course, is unemployment is still above 9%. Recessions typically last nine months. The one we just have gone through lasted over two years. But more important than that is maybe what some economists are calling a two-tier recovery. Large corporations as opposed to small business owners and individuals and in here’s what we mean by that. If you’re a, oh I don’t know, a Caterpillar or a GE-type company you’re experiencing explosive growth both in earnings and in profits. But if you’re a small, business or a mom-and-pop service business, you’re still trying to cope with all the negative growth and no growth issues abound and here’s the difference. Big business, really large businesses, have access to . If you need to borrow money to buy supplies, increase your inventory and you’re a large company, today you can go to the bond market and access to capital is not that big of an issue. If you’re a small business owner, you don’t have access to borrow money from the bond market. You’ve got to go to your local bank and odds are the local bank is still dealing with the underwater real estate loans, both commercial and residential and some estimates suggest it’s gonna’ take another 18 months for the banks to work through their bad loans and be in a position to really start making credit available to the small business owner.

The other interesting observation, long-term, is unions. The percentage of big business, corporations, being unionized has actually started to decline and has been declining since 1979 so that just gives the larger employers more flexibility as far as hiring and firing and reacting to economic forces than in the years and decades gone in the past. Another reason would be the savings rate in America is increasing somewhere between the 3 to 6% rate. And of course if you and I increase our savings rate, chances are we’re cutting our spending in certain areas and those areas are probably discretionary areas like going out to dinner or going to the beauty parlor and things like that but when the refrigerator breaks were goin to get a new one. We’re not going to put that off. So the smaller service sector firms were hit harder than the larger manufacturers for those reasons. And then another reason is exports. Large corporations are getting a fair amount of their revenue and profits from exports from international sales. And, of course, if you’re a small business, odds are your not exporting to any great extent. So there’s why, on the big picture, things that look like they’re improving and the numbers prove that out. But on the local level it still may feel like things have gotten much better after all.

And there is where we as investors have to do our best to keep our emotions in check. The biggest damage done to anybody’s investment portfolio is letting your emotions take over and control your decisions. Sometimes, quite frankly, we have to go in one direction even though our emotions would suggest we go in a different direction.

Well I hope you found this useful helpful. I think we’ve got a couple minutes left for questions or comments, if anybody has a question they care to ask. Tony, why don’t you let folks how they can ask a question or share a comment?

Anybody have a question or comment for us this morning. Everybody may be shy again and maybe some people are still taken a long weekend with the holiday.

That could very well be the case.

Tony did I miss anything you want to add anything to what I just covered?

Really the only thing that I would add is that for what Brian was talking about, I mean, he was touching on a lot of different areas; interest rates; the bond market; international markets; and so on and so forth and mentioning that that nobody has a silver bullet or that black box that they’re going to be right 100% of time. But the thing that I will let you know is that based on all those factors (you can tell there’s a bunch of them as far as investment decisions go) you want to make sure you have a system and process in place that’s flexible enough to take advantage of those shifts in demand, whether it’s going to the bond market or small-caps and stocks, internationally; so on and so forth. And that’s one of the benefits that we feel we haven’t played that we have a supply and demand system in place that has that flexibility to go where the demand is because quite frankly money doesn’t just disappear. You’ve heard Brian say it before it just shifts from one area to the next and the ability to identify that is what’s going to separate the better investors from the rest of the herd. So once again we feel like we got that in place. Basically, that’s all I have.

A key component to any investing system is a “sell discipline” or a “sell strategy”. I was talking with somebody a week or two ago that bought BP. There’s a name that’s been in the news lately. They bought BP after the share price dropped I think at one time the share price was over 60. They bought BP at 48 and when it dropped to 30 they bought more of it and I haven’t look lately, but to believe BP’s way below 30 these days. So how do you know how does your system identify when is it appropriate to buy as opposed to, you know, was better to sell even if selling means taking some losses and moving on?

And that’s kinda’ what Tony was alluding to. Anytime anybody purchases or makes an investment you do with the intention of losing money, you do it with the idea that your make money. The reality is that ain’t going to happen. Some of the investments you purchase aren’t going to work out the way you wanted them to. It’s very critical that you keep losses to a minimum with those positions and not get emotionally attached to them.

Okay last chance if anybody has a question or comment. Here’s your chance.

I guess we don’t have any questions or comment today, Tony.

< Tony >

No, I don’t think so but that’s okay. For those of you who are a little bit shy, if you have questions or comments you’d like to ask us off line, just feel free to shoot us an e-mail. We’ll be happy to answer those either in another call or just through e-mail or something.

< Brian Fricke >

And again for any clients listening and if you’ve got specific questions or concerns feel free again to either send us an e-mail or give the office a call. We’re happy to address your individual issues or concerns one-on-one. Not a problem at all. And with that I’m going to wish everybody a wonderful new week and beginning of the second half of the year. We’ll be back with another of Coffee Talk call next week. Until then everybody have a great week and I’ll talk to you next week.

Bye now.

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Good morning everybody. Well let’s go ahead and get started. My clock says 9:00 o’clock. Today’s topic is “Why I Think You Should Own Your Own Home Free and Clear at or Before Retirement.” And I’m also going to explain to you my ongoing $10,000 challenge or $10,000 reward. But the primary reason we think it makes sense to have a financial goal of owning your home free and clear at or before retirement, I think, is really best illustrated from the financial meltdown, the stock market meltdown, of 2008. When we go back and look at people that we’ve talked with (clients and friends) and put those folks into 2 camps, people with mortgages, people without mortgages, it should probably come as no surprise to you who had less stress, less worry in their life, especially in trying economic times: people with mortgages or people without mortgages.

From experience over the last couple of decades, we just observed that folks tend to have a less stressful a more worry free retirement way of life when they don’t have the burden of debt in their life. So, that’s the ultimate goal. It is to, we think, own your home free and clear at or before retirement. Occasionally, I get challenged on that concept on one of two fronts, which is what we want to discuss today.

And, of course, the most common objection to paying off a mortgage that we hear is, “Wow, if I do that I’m going to lose valuable tax deductions.” And I just have trouble understanding how that truly makes sense. And here’s what I mean by that. If you think about it, if you pay mortgage interest, depending on your tax bracket, you’re going to save 15 cents to maybe 40 cents for every dollar of interest you pay. So, let’s just re-phrase that. So for every $1,000 dollars of interest you pay, you’re going to save $150 – $400 on your taxes. Well what would you think of someone, maybe someone like me, that suggested you put a $1,000 into an investment knowing that it’s only going to return somewhere between a $150 and $400. To me that just doesn’t make sense.

So if I’m missing something, there’s my $10,000 challenge. Show me how that’s “net net” making me money. Yeah, your taxes might be going up if you don’t have mortgage interest to claim as a deduction, but what a lot of folks leave out of the thought process is net cash flow, because you also are eliminating a mortgage payment.

And in my book, if you want to see an example, in my book ‘Worry Free Retirement’ there’s page 112. There is an example. I’m not going to bore you with the details this morning, but there’s an example of someone that paid off a $320,000 mortgage. So they obviously lost a huge tax deduction on the mortgage interest and yet they were ahead of the game every year by almost $10,000 in net cash flow improvement to their situation. So to me the “my taxes are going up” argument doesn’t hold water.

The other argument or objection that we’ll hear from time to time, although we haven’t heard this one as much here lately, but once in a while, we’ll hear the argument or the objection, “Well wait a minute, mortgage money (especially in today’s time) mortgage money is cheap, why wouldn’t I just keep my mortgage and keep the money that I would have used to pay the mortgage off – keep it invested in a higher returning investment and the difference, or the spread, is mine to keep?” So if I’ve got a 5% mortgage and I can earn 8%, I’m making a net 3% on my mortgage balance. And in theory, that makes sense but here’s where that theory has some holes or some flaws to it.

The challenge is, when you have a mortgage, you have guaranteed a fixed interest rate for a fixed period of time to the bank. So if you’re going to play the investment arbitrage game, I think (and I do have people that disagree with me on this, and that’s okay) but I think if you’re going to play the investment arbitrage game then you’ve got to play the game like the bankers do. So you have to get a return that’s at least 2% higher than what your cost of money is. Because most banks, most bankers, when then pay interest on deposits like money markets and CD’s they want to pay a rate where they are comfortable or reasonably assured that they’re going to be able to loan it out at least a 2%, if not (often times) much higher, rate. So my argument, or my position, is if you’re going to have a mortgage you need to be able to invest that mortgage money at a 2% higher return compared to what your current mortgage rate is and that return needs to be guaranteed.

Here’s the catch, it has to be guaranteed for the same amount of time that’s remaining on your mortgage. So in the past we’ve come across folks that, you know, they can find an initial rate guarantee on whatever the instrument might be, maybe it’s a bond or a dividend paying stock, or an annuity, but at the end of the day, the rate is not guaranteed or it’s not guaranteed for the same length of time remaining on the mortgage. And if you’re doing that that’s to me an apple-to-apple comparison on the investment arbitrage. And I just find that we find that hard to do in today’s economic cycle on a purely risk-free or almost risk-free basis because the lender’s position is it’s pretty much a risk-free loan for them because if you don’t make the payments, they take the house back. And you lose your equity.

So if you’re tempted to refinance a higher interest rate mortgage don’t misunderstand me on our email alert that we sent out for today’s call. We’re not opposed to refinancing a higher rate mortgage into a lower rate mortgage if those numbers make sense. What we’re opposed to and don’t think makes sense is doing a cash-out refinance (if you could do one in today’s economy) pulling cash out and using that cash to make an investment. The stock market might look attractive, other real estate ventures might look attractive but no one understands that those are not guaranteed investments but yet the interest rate you’re committing yourself to pay back to the lender is guaranteed.

So, again, our argument is do an apple-to-apple comparison. If you’re going to pull equity out of your home to use it for investment capital can you find an investment that gives you a guaranteed rate of return for the length of time remaining on your mortgage? And we just find that hard to do in today’s economic climate.

Now I’ve had clients in the past disagree with me on this. And they’ve been willing to take the investment risks. They were comfortable doing so to attempt to earn a higher return compared to what they were doing on their mortgage and sometimes that’s worked out for them other times it has not. Just again, make sure you’re doing an apples-to-apples comparison when you’re looking at what I call the investment arbitrage.

So those are my basic comments. The one caveat when it comes to paying off a mortgage (and we’ve run across this from time to time), in a perfect world you accumulate money outside of a tax deferred account like an IRA or a 401K and you would use non-IRA, non-retirement money to pay your mortgage off. And the reason for that is if you pull money from an IRA or a 401K, that money is going to be taxable as ordinary income to you depending on your age. There could be another 10% penalty tax so the cost of paying off your mortgage could increase by roughly 20-30% if you were using IRA or retirement plan money. So depending on an individual situation sometimes we’ve told folks not to pay a mortgage off just because of where their money was allocated. But again, if at all possible, if there’s non-retirement money, we think it makes sense to seriously using that to pay off your mortgage and own it free and clear.

So with that, Tony, any other thoughts or comments. And let’s let folks know how they ask a question or share a comment.

Well actually I have a question for you as far as you know paying off a mortgage the other thought process is that, “does it make sense to make extra mortgage payments?” and pay it down at a faster rate versus a onetime lump sum payoff or, depending on the time frame, just making payments as normal.

Great question and thanks for reminding me on that one. That’s a question we get quite often as well. And again, our general rule of thumb is if in making extra mortgage payments you’re going to get rid of the mortgage within a, I don’t know, a 5-7 year time frame then go ahead and make extra mortgage payments to get rid of the mortgage. If it’s going to take you longer than 5-7 years to get rid of your mortgage then we would advocate not making extra principal payments because you’re building what we call debt equity. Your required mortgage payment is still the same. It doesn’t go down. You’re actually reducing your tax benefits, or your tax deductions but you still have to make a mortgage payment so you haven’t affected your current cash flow in a positive manner. And we’d rather see you just save and accumulate that money in an outside fund. And then depending on how much time (often times we’ll get the question of 15 year mortgage versus a 30 year mortgage) and if you look at the different payments, the payment differential, if you will take that payment differential and apply it to, golly, an S&P 500 index fund then the odds are in your favor significantly that at the end of 15 years you would have enough money in your index mutual fund to not only pay off your mortgage but have money left over. So you end up with the same net result. You own your home free and clear in the same amount of time as if you had been making extra mortgage payments but in the meantime you’ve increased your liquidity, maximized your tax deductions and paid your mortgage off and had money left over or, put another way, you end up paying your mortgage off quicker.

So, yeah, if it’s going to take longer than, let’s say, not less than 7 years, don’t make extra principal payments. Don’t do the bi-weekly mortgage payment program a lot of lenders try to encourage folks to do. Just take that extra cash flow and save it, invest it.

And that of course, brings up another point. You have to be brutally honest and candid with yourself. Do you have the self control, the discipline, to put a system in place to make sure that you save that surplus money? And if not, then maybe that would be an argument to make additional principal payments.

One more quick thought. Seems like the over-arching theme is when it comes to the financial planning process, even when it comes to something as, what you would think of as, relatively simple. “Yeah, I want to own my house free and clear when I retire.” There’s different ways to go about doing that and it’s really (we’re talking in general terms here today) but you know, as you’ve alluded to throughout your comments, is that everybody’s facts and circumstances are different and what’s good for one person may not necessarily be good for you. So that’s why it’s necessary to vet those things out completely so that you make sure you’re making the right decisions for the right reasons. You know and another thing to think about is even though you pay off your house, are you’re planning on living there for a long period of time? If you’re planning on moving two years later then you may want to reconsider.

Yeah, that’s another great point. A question we tend to ask folks is before you write that check to pay the mortgage off, how much longer do you think you’re going to own that home and be using that home. And if it’s, “gee we’re only going to be here for a few more years”, then maybe it doesn’t make sense to pay that home’s mortgage off. But maybe look at the next home as the goal for owning it free and clear. The other comments that will come along, “Well what about second homes, vacation homes, investment property?” In those cases it could be very valid to own those types of properties with some debt. You just have to be able to make sure that you can manage and service the debts.

A lot of people that got involved in real estate, you know, it’s not so much real estate as it is the financing. They were just over leveraged and borrowed too much money relative to the value of the property and some people, unfortunately, are having to deal with those consequences now. So yes, as you can tell, there’s no, even though it seems like a simple answer, there is no simple easy solutions. Everybody’s situation is different.

And that really brings me up to just a reminder. Just a spirit and the intent of these weekly calls. We’re not here suggesting that we’ve got the answers and we’re the only ones with answers. By golly, if we did, everybody would be lined up outside our door. What we want to hopefully use these calls for is to stimulate some thinking. It’s okay if you disagree with us. The biggest issue that we want to bring to light is we want to get you thinking about your situation and are you making smart choices about your money give your situation so that you have the best shot possible of your own version of a worry free retirement, however you want to define that.

Okay, Tony, I think we got a few minutes left. If anybody has a question or a comment we’ll (I think we’ve got time for a couple). Why don’t we let folks know how that works.

We are live so if anybody has a question or a comment, feel free to speak up.

Uh oh, I think we may have another shy group. You know one thing (we’ll give folks just a couple more minutes to ask a question, share a comment), the one thing I meant to share right off the bat and promptly forgot is this week I’m reminded (and hopefully everybody is) gee isn’t it great to be in America, live in America and have the freedom that we all enjoy. And unfortunately sometimes, myself certainly included, often times maybe we take for granted. When I look around the world and see some of the world and other countries, I’m always thankful and reminded that I live in the best country ever. I mean who… There’s more people wanting in than there are wanting out. Are we perfect? No. But I can’t think of a better place to live. So as we celebrate our freedom and independence this Sunday, the 4th of July, something to be mindful of and hopefully thankful for. And I hope everybody has an enjoyable 4th of July celebration and Independence Day. Okay, last chance. If anybody has a question or a comment we’re on an open party line. Don’t wait for us to call you by name because we can’t. So just tell us your first name and ask your question.

Ok, well, sounds like everybody’s getting a head start on their 4th of July weekend. So we’re going to conclude today’s call. Just a reminder we’ll be back with everybody next week with another edition of Coffee Talk. If you don’t have a copy of my book, ‘Worry Free Retirement’ if you want to get a copy, especially with the mortgage example on page 112. You can just call the office or send an email to the office. The book retails for, I think it’s , $22.00. We’ll let you have a copy for $10.00 and we’ll cover the shipping if you want a copy or two for yourself and friends. Everybody have a great 4th of July and we’ll see you next week.

Bye now.

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Good morning, this is Tony from Financial Management Concepts. I wanted to welcome everybody to this morning’s Coffee Talk. And before we get started I’m going to go ahead and throw all the lines on mute. So just if you’re new to our call just a reminder. The first part of the call we keep the lines muted during the commentary piece and then towards the end of cal well will open it up for questions and comments. So we’re going to wait a couple of minutes and Brian will be joining us remotely today and we’ll get started in just another minute or so.

Hey Tony, it’s Brian here.

Alright Brian.

So let me know when it’s time to get started we’ll get going.

We are, actually my clock was saying 8:59 so if we, actually it just clicked over to 9:00 so I guess we can go ahead and get started. All the lines have been muted so feel free to take us off!

Alright, well good morning everyone! As Tony mentioned, this is Brian Fricke. The topic of today’s call, “7 Mistakes People Make When They Hire a Financial Advisor”, and really I think we could extend it to when you hire any kind of an advisor. And some background if you weren’t on last week’s call. Last week’s call really provided me with the impetus, the motivation for the topic of this week’s call. Last week I was sharing my views on certain types of annuities. Why I didn’t like them. Some of the industry practices that I consider, quite frankly, to be just out and out deceiving. And I was challenged by one of the listeners who called in; had a comment; suggest that maybe I didn’t know what the heck I was talking about. Maybe didn’t have all my facts. Maybe was causing financial harm to folks. And of course my question of him was, “By the way, do you sell these things?” And low and behold, he did, he does.

So let me tell you what interesting stuff happened between now and then. Before the end of the day, last week, we had two unsolicited emails and phone calls from folks. One was from a person that had bought an equity index annuity. Turns out he really didn’t know and understand what he had bought and was not happy when we explained to him how the thing really worked. And therein is… I’m not going to belabor the point with annuities and variable annuities and all that. You can go to the website and listen to last week’s call if you want to get some of the back drop on that. Had another email, totally unsolicited, from a fellow that had bought a variable annuity to the thought the thing had a rider the thing was going to guarantee his principle against market loss. And then, afer the fact, came to realize and understand the only way that was going to happen was if he annuitized the contract. In other words took payments over a lifetime. And that’s not why he bought the thing. He needed money in the future for a lump sum and was shocked to find out that the guarantee didn’t apply if he pulled his money out in a lump sum.

So totally unsolicited. People thanking us just for the candid feedback and commentary. And then here’s the real interesting email that I got. And this is from another financial advisor. I’m not going to mention names because this is just his comments.
“Hey Brian, heard the talk last week. Heard the guy attack your annuity wisdom.”

And then the email just goes on that I was right. He was an annuities salesman. His prior life was that of a car salesman who turned into a mortgage broker who used to espouse sucking all the equity out of your house and putting it into life insurance contracts. And at one point had a decent sized mortgage company until, of course, the collapse came about. And now he and his partner are preaching annuities. And this is the commentary from another advisor in town. The sad part is they know nothing about money and financial planning. They don’t know enough to know that they don’t know. So with that, that got me to thining, “You know, folks are out there hiring so-called advisors and sometimes you maybe end up with a wolf in sheeps clothing.” So I’m going to share with you a couple of questions or couple of things you want to be looking for. Mistakes we see people make and also questions you want to be asking.

So mistake number one. Interviewing or talking to just one advisor or one potential advisor. If you never hired a financial advisor before or never worked with a stock broker or anybody in the world of finance, then making a decision after talking to just one person could be very harmful to your situation. And the reason I say that is you don’t have a reference of comparison. So you know, the person (the first person) you meet could be, quite frankly, a complete idiot but could certainly sound like a great advisor to you simply because you don’t have a comparison to establish a true opinion. So bottom line: you always want to talk to, or make sure you have a background of having spoken with and talked to, several different advisors so you can kind of sniff out the good ones from the not-so-good ones.

The next mistake (we see this all the time) is not doing a background or a reference check. And sometimes people will take a shortcut.

“Gee, I heard this guy on the radio. He must be good. He’s quoted in the newspaper all the time. He must be good.”

That could be a huge, huge mistake. I can tell you right now in the central Florida area there’s a multitude of so-called financial, talk-radio, ask the expert shows. I would say virtually all of them that are locally hosted, locally sponsored, all of them – the people hosting those shows are on those shows simply because their paying the radio station for the air time. And I have no problem with that. My problem with it would be if it’s not fully disclosed in plain simple language. And I don’t hear that sometimes in a lot of these shows. So don’t assume that the radio program, or the radio station, has done any kind of due diligence or extensive research to find the best advisor out there that going to give you impartial advice. Quite often the so-called radio shows are really nothing more than a thirty minute or a sixty minute commercial for the person that’s willing to pay for the airtime. And I know some of these shows, these folks are paying $70,000 – $100,000 a year for the air time. It’s amazing.

The other thing I want you to be careful of is books. Most of you know I have written a book, ‘Worry Free Retirement’. The more important part is I actually wrote the book! There are companies out there that cater to and provide services to the financial advisory industry. If I wanted to become a book author, without actually having written a book, all I have to do is pay them their money (anywhere from $3,000 – $10,000 usually) and I too can become a co-author of a book. So don’t get lulled into a false sense of security just because they appear to have written a book. Sometimes they have, other times they have not.

The next mistake we see folks making is focusing, putting all the focus, on cost. Just a word of caution, if you should hear somebody say, you know, “buy this investment, buy this insurance, you pay nothing, the mutual fund, the annuity, the insurance company pays me, you don’t pay me anything.” Run for the hills. The buyer always pays. Even in real-estate. You buy a piece of real-estate the seller pays the commission, I would argue that technically the seller may be paying the real estate agent but I would argue that the buyer is the one that actually pays the real estate agent because they’re the ones that have agreed to the price. If a real estate agent wasn’t involved in the transaction the seller could sell for a little bit lower price. The seller still gets the same amount of money and the buyer ends up paying a smaller price for the house. Now I’m not saying real estate agents aren’t a valuable resource. Most of the real estate that I’ve sold in the past, I’ve used a real estate agent. If they’re good and competent just like any profession, then they’re worth their weight in gold. Anyway I just want you to understand that there is no free lunch. Don’t get lulled into a false sense of security that the investment company is paying for the advisor. You are paying.

And then the next mistake we see folks making is sometimes they get “wowed” by credentials or designations thinking that that makes the advisor good. Most of you now I’m a certified financial planner. There are a multitude, a plethora, of all kinds of different designations. Some of which, quite frankly, you just pay a couple of a hundred bucks, take and online test, open book, maybe you got a couple of hours invested and you now have this glorified designation. That is not what the certified financial planner designation is all about. Now-a-days you have to have years and years of industry experience, pass a comprehensive exam that I think takes at least a day with a pass rate of maybe 50-55%, and that’s only after you’ve taken extensive coursework. So just because they got a fancy credential, doesn’t necessarily qualify them or mean they’ve got what it takes to deliver the goods. And even in my own profession I would always tell folks first and foremost look for a certified financial planner that doesn’t mean you stop there because quite frankly there are some not-so-good certified financial planners. There’s folks that I would not feel comfortable working with. But that’s more of a personality conflict. So you need to find somebody that not just has the credentials that can deliver the goods but you have to have I’ll call it a personal chemistry. Wow.

Okay, I’m going to cut that. As far as mistakes, we’re running a little short on time. I’m going to give you a couple of questions to ask. Certainly if you’re going to be interviewing a financial advisor. But if you already working with a financial advisor, these are good questions to ask too. Now if I had only one question to ask, the question I would encourage you to ask is, “In my dealings with you are you going to server and act as a fiduciary?”

And I’ll explain that in a minute. The answer you’re looking for in simple terms is, “Yes.”

You’re not looking for a long winded answer or a no. If you get a long winded answer or a no, my advice to you would be to move on to the next person or keep looking. What’s the significance of a fiduciary? A fiduciary is required to put their interests ahead, pardon me, required to put your interest ahead of their own. You may have recalled recently Goldman Sachs has been in the news for taking advantage or allegedly taking advantage of their customers. Well Goldman Sachs does not have a fiduciary relationship with their customers even though their customers thought they did. They have a brokerage relationship which legally, technically just requires them to meet a lower standard called suitability. They had to determine and evaluate their customer to see if what they were suggesting or recommending for their customer was suitable. That’s a whole different animal compared to a fiduciary relationship. Putting the customer’s interest ahead of the advisor or the firm.

So if I had only one question to ask any financial advisor, that’s the question I would ask. And if they’re not going to serve a fiduciary role with me, I’m not going to hire them or work with them. If I can ask additional questions, my next question would be, “Will you disclose any and all conflicts of interest that exist or might exist in my relationship with you?”

And obviously you’re looking for a simple yes answer. And here’s why I bring this up. A few months ago a client brought to us a mutual fund sale notice. They had sold a mutual fund and wanted us to know about it for tax planning purposes and at the bottom of the sale confirmation, in teeny tiny print, there was a statement that said a mutual fund revenue sharing disclosure is enclosed. So we read it. We flipped the page and read it and of course it’s in teeny tiny print that most of us would need a magnifying glass or a microscope to read. But here’s what that said.

“XYZ Brokerage firm gets payments, known as revenue sharing, from preferred mutual fund companies currently including (and there’s 10 or 12 of them, names you would all know and recognize). Revenue sharing involves the payment from the mutual fund company. The brokerage firm, its investment representatives and shareholders benefit financially from the receipt of revenue sharing payments. This creates a conflict of interest in the form of additional money paid to the firm. Payments are in addition to standard sales commissions and management fees.”

And here’s the clincher:

“While we offer many mutual fund companies. Revenue sharing creates a financial incentive for the selection and sale of funds. Virtually all of our sales in mutual funds are from these fund companies.”

Now folks this is from a company that advertises on TV, “Come talk to us, we’ll talk to you. Has your big brokerage firm abandoned you?”

Is this the kind of firm you want to be doing business with? So and then I’ll give you one other question to ask and then we’ll open it up for your questions or comments. The other question you want to ask is, “Explain to me how do you, as my advisor, get paid?” And here’s again, what you have to be careful for. Now if I were going to tell my mother or my wife what to look for my advice would be work with a fee-only financial planner or advisor. And that means that’s someone who will charge you a fee. Either a fixed fee or an hourly fee or a percentage of investments, but someone who does not get paid based on what you buy whether it’s an investment or insurance.

And here’s what I want you to be careful of. Don’t be fooled by anyone that uses the term fee-based. Fee-based usually means they charge a modest fee. So up front it looks to be affordable and sometimes cheap for the plan. But they are also able, and probably will, collect commissions on products they sell you. And you want to make sure that they fully disclose what that is. And that is the other part of my concern with the talk we had last week with annuities. A lot fo the annuities sold, people are told, “Don’t worry. Doesn’t cost you anything. 100% of your money get’s invested. The annuity company pays me.”

Well all right. Technically that’s true. But again in reality I say the buyer always pays. If there were no commissions involved the annuity company would be able to pay the investor a higher interst rate or give more benefits. So why not just fully disclose that? So my advice to anybody looking to purchase an annuity, get it from your advisor in writing what their commission is before you invest. And if you already have an annuity and you have questions about your advisor, go back ot them and just as in simple terms, “Please put in writing the commissions that you were paid when I bought this thing.”

I apologize for going on a little bit long. I think we got a few minutes left for questions sor Tony or BT , let folks know how they can get a question answered or make a comment.

Anybody have a question? Care to make a comment, here’s your chance?

Brian I have a question.

Sure

Can I presume from the conversation that you had that your fees are only the fees that the client pays you and no-one else’s fees? And second question I have which is kind of a follow up is, “Do you have access to the same investment information that say a company like Edward Jones would have or any other (I’m just bringing that name up) but any other company like that?

So to answer the fee question, yes. The only fee we receive the only compensation a firm like ours receives is directly from our client, invoiced … Clients get a quarterly invoice from us so they know exactly what their fee is every quarter. Typically it’s deducted from an investment account they see that in their monthly statement. So everything is on the up and up. All the cards are on the table. There is no smoke and mirrors with how a firm like ours does business with it’s clients. In terms of does an independent boutique planning firm like ours, do we have access to resources like some of the bigger brokerage firms (Edward Jones, Merill Lynch, Morgan Stanley, you name it)? Most certainly we do. We have a relationship with Fidelity Brokerage Services, with TD Ameritrade, with Bank of Montreal that provide us with pretty much anything that our clients need. And obviously there’s a lot of crap out there that the brokerage industry has created that we steer folks away from.

Next question, comment?

One other thought came to my mind last week, the caller I guess supporting the concept of these equity index annuities referenced. I think it was Wharton study suggesting that these things were great and wonderful and all that kind of stuff.

I’ve seen in the past other claims that here’s a tax strategy that some attorney or CPA or financial advisor has created and they’ve gone to great lengths to either patent, license or trademark the strategy.

I’ve got to tell you anytime I hear stuff like that I head for the hills. Years and years ago we saw several of these so called tax strategies that were patented, all I can tell you is since then all of these things have just blown up. None of them have worked the way they were pitched or promoted. When it comes to research from supposedly well-known institutions: Duke, Harvard, Yale, whatever the case may be. That just reminds me of something my pastor told me years ago looking at the Bible. You have to be careful. Pretty much any position you want to take and at the time he was talking about David Koresh, the guy in Waco, TX that had a religious cult following and he was quoting from the Bible bits and pieces. The same concept applied, you can pretty much support any position you want to take by quoting what we all would consider to be repeutable and credible sources if you take the quotes out of context. That concerns me when folks have to rely on so called third party reports and research. Often times when I really dig into it, those research reports are either taken out of context or interesting to find out who paid for the research. Years ago right after tax laws changed and annuities became not really a great thing tax wise, simply because of the capital gains issue. Capital gains once upon a time use to be very similar to the personal income tax or the ordinary income tax rate. Well, the Reagan tax cuts, the Bush tax cuts we got lower capital gains tax rates compared to ordinary interest tax rates. That took a lot of wind out of the sales of annuities because when you pull money out of the annuity it’s taxed as ordinary income. Well, if I’m going to have to pay tax on an investment in general terms gee I’ll pay capital gains as oppose to ordinary income. So the variable annuity industry had a research report prepared they were trotting all over the place showing that the variable annuity was still the better place to go prepared by one of the big 8 accounting firms at the time, I think it was Price Waterhouse. Well guess who paid Price Waterhouse for this report? The variable annuity industry. Come on!

It lulls people into a false sense of security if someone is hiding behind a so called creditable report. In today’s day and time you have to dig deep and find out A: make sure the report is not taken out of context and B: Who paid for the report and make sure there isn’t a conflict of interest.

Any more questions?

Last chance. If anyone has a question or comment feel free. The spirit and intent of these calls are obviously our desire to provide information to challenge thinking. Far be it from us to suggest that we have all the answers. Quite frankly if we did everybody would be lined outside our door and we would have put everybody else out of business.

That wraps it up. Thank you for joining us. We’ll see you next week. If you like the talk please share with friends and relatives to invite to next weeks Coffee Talk. Bye!

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BF: Good morning everyone. This is Brian Fricke. Toni, BT any of you guys there?

BT & Toni: Here!

BF: Have we made our announcements?

Toni: Yes we have talked about being muted.

BF: We’re going to get started then with todays Coffee Talk call. The subject is “Secrets Annuity Companies Hope You Never Find Out”

I picked this topic today really because with the gyrations we’ve seen today in the market, we’ve been getting more and more questions and inquiries about annuities. The general opening comment we hear is something like “Hey I heard there are annuities out there that can give us the growth of the stock market when it goes up, protect us from experiencing any investment losses and give us a lifetime income no matter how long we live. So who wouldn’t want some of that?

That’s what we’re going to talk about because as usual the big print gives it to you and the small print takes it away. So before you run out and buy an annuity, listen in and be aware of some of the smoke and mirror games that annuity companies can play to get at your money. Unfortunately a lot of times the people selling annuities really aren’t familiar with exactly how these things work.

The first type of annuity I want to caution everybody against is what is commonly referred to as an equity index annuity. The sales pitch is very much like what I just described “Hey buddy wouldn’t you like to capture the profits of the stock market when the stock market has a good year. Guarantee against the losses when the market has a bad year and if you want you can get an income stream that you can never outlive. Well the problem with an equity index annuity is they are subject to what are known as participation rates and cap rates. So your rate of return is tied to an index; usually a stock market index like the S&P 500, the Dow or the NASDAQ. But in an up year you don’t get 100% of the market return. You’re subject to a participation rate and usually the participation rate is somewhere in the 60%-80% range. What that means is if the market is up 10%, you get to participate in 60%-80% return, so your return is not going to be 10%, it’s going to be 6%-8% depending on the individual annuity product.

And then on top of that there is what’s called a cap rate. They are going to cap the maximum rate you could earn in any given year. And the cap rates are typically capped in the 12%-14% range so in a year like last year when the market was up 30%, you’re not going to get 60%-80% of 30%, which would be 20-24%. At best you are going to get capped out anywhere between 10%-14%. On top of that, if you want an idea as to how much money the annuity agent is making. Just find out how long the surrender charges or the early withdrawal penalty charges apply. The longer the withdrawal penalty the higher the commission. It’s really just that simple. We’ve seen some of these annuities that have withdraw penalty periods that go as long as 15 years and in some cases 20 years. Well just know and understand that the agent selling that is getting an astronomical commission. Sometimes 10%-15% of what you put into this rascal. So that’s one type of annuity we want you to be aware of and cautious of.

And then there’s also becoming very popular variable annuities. Those operate similar to a mutual fund with tax deferral so that sounds good and then you can purchase riders and the two most popular riders are the guaranteed minimum income benefit and the guaranteed lifetime withdrawal benefit. So one thing to remember with any annuity, when an insurance company is insuring the risk of a market downturn, that risk can’t be spread over a broad population. Think about it, the nature of insurance is you get a large number of people to pool modest sums of money on an individual basis so that the minority of folks that need to file a claim think life insurance. Not everybody that owns a life policy is going to pass away this year. That’s why the premiums are relative to the insurance coverage. Modest if you will. That’s because the insurance company knows everybody that has life insurance with them is not going to pass away this year. But it’s different when you’re trying to insure against a market downturn because when that happens it’s going to affect everybody. The insurance company has to make a decision if the markets go down then they either have to structure the product so the insurance company takes a big loss during a market downturn and you just have to stop and ask yourself if you are really going to be willing to do that. Or the product has to be structured or the annuity has to be structured so that the guarantees are already paid for within the structure of the annuity product itself. I’m guessing it’s more along these lines.

Let’s just dig into these popular riders with variable annuities which by the way you pay extra for, so give me some of the guaranteed minimum income benefit and the way these tend to work, every company is a little bit different, one option is your initial deposit or the money you put in is guaranteed to grow. Often times at least at a 5% per year growth. The other option is you get the actual growth of the underlying investments. A third option is you can actually lock in at different points. Usually on yearly anniversaries you can lock in different income stream points based on values at that given time. Gee that sounds like I can have my cake and eat it to. I’m going to get a minimum of 5% growth or the return of the market. And if I want to try and time things I can actually pick what I think is a high water mark to base my future income strings on. What could be wrong with that? Well, let’s look under the hood. The first thing is you have to annuitize in order to get the guaranteed minimum income benefit, so you can never withdrawal 100% of your annuity value in a lump sum. You have to annuitze or receive periodic payments usually monthly and usually it’s based on life annuities. So once you pass away whatever is left in the account goes back to the annuity company. But before you do this, you have to wait 10 years until the last step up or 5% increase in value on the annuity and then on top of that the annuity company can restrict your investment mix to a fair conservative low risk investment mix within a variable annuity. When we look at stuff like this it appears to us that the insurance company is actually taking a very small risk on all these guarantees. But let’s assume you’ve purchased something like this, you’re now ready to take an income stream, you annuitize the contract, which simply means based on your age you are going to receive a fixed amount of money on a monthly basis for the rest of your life. That can’t be too bad right? Well, a lot of the fine print with these riders in the variable annuity contracts will tell you that the annuitization formula is different than just a traditional annuity pay out. Often times they are not going to take your current age. They are going to assume you are 10 years younger because the younger you are the longer the payments go the smaller the monthly payments. The company is just going to assume that you always are going to be 10 years younger than you actually are when they determine the annuity pay out rate. Oh and they set the annuity rate. And often times surprise surprise, it’s not a competitive annuity pay out rate compared to what you could go buy on the open market. Often time the difference is as much as 40% and what that means is if you’ve got an account valued at $100K with your variable annuity company with this fancy rider that makes you feel good, you could go to a different annuity company that just sells traditional income annuities and get the same income stream for maybe only a deposit of $60K. So they are going to automatically cut the value of your annuity by 40%, you just aren’t going to see it. To me it looks like the guarantees are pretty much paid for by the policy and annuity holder themselves. They are just kind of covered up.

Another popular rider to a variable annuity that we want to make you aware of and probably you want to stay away from is what’s called a guaranteed lifetime withdrawal benefit. Basically depending on your age, they’ll guarantee that you can withdrawal from your annuity anywhere from 4-6% for life. Well that sounds good, and the advantage is if you’ve got money left over it goes to you heirs, it doesn’t stay with the insurance company like an annuitized contract would. So that sounds interesting until you look under the hood. When we look under the hood we find out the 4-6% withdrawal rates are not indexed to inflation. That’s huge especially for a younger person and I mean someone in their 60’s perhaps; that’s huge. If you take the minimum of fees, the minimum 4% distribution, we figure that you come up with about an 8% withdrawal amount coming out of your annuity contract and it could go as high as 12%. What that means is the underlying investment fund in the annuity has to be earning at least 8%-12% just to break even. So in effect, probably what is going to happen is more than half the money coming out of the annuity account every year ends up going to the insurance company so before long that money is exhausted. Not a probably for you necessarily but don’t lull yourself and don’t let the insurance company lull you into a false sense of security thinking that you are going to have a lump of money left over for your family to inherit. The odds of that happening are very low.

These are just some of the smoke and mirror games that we see the annuity companies using to attract deposits. We’ve seen numbers where last year they had deposits for new accounts attracting anywhere from $100-$150 billion of deposits. We just want to caution you to really take a look at the fine print. Certainly if you are a client of ours, if you are thinking about something along these lines we are happy to look at it for you. We just want to make sure you don’t end of with something down the road that you regret having done.

With that, let’s go ahead and open up the lines if anyone has questions or comments on this topic or any financial question or comment, we’ll be glad to hear from you. We have about 10 minutes left.

(Instructions for Q&A section)

BF: Any questions or comments?

Caller 1: I just recently took the dive, I was a former Sea World employee, and moved my funds over from my 401k into an annuity. I think I’ve gone past the “take a look” period but I was wondering according to what you’ve been saying, all annuities are pretty much smoke and mirrors type things. Obviously as you said, that insurance companies are out to make money and there is no way they are going to take our money and doing the best with our money and giving it back to us. They are going to take what they can get. What should I do?

BF: The “free look” period you are referring to is usually when you are buying an annuity you’ve got a 20-30 day right to return it and get your money back. Is this what you are talking about?

Caller 1: Yes

BF: Depending on the situation and the company you might be able to go back to the agent or the company and complain and ask for a refund. They should have had you sign off on a disclosure and policy acceptance form or receipt. If they didn’t do that then you have a stronger case to stand on. The other is you can also suggest that you are going to make complaints to the insurance commissioner in FL. That you will look into arbitration as a way to encourage or motivate them to initiate a refund. It just depends on the company. We’ve assisted clients with going down this path in the past and some companies will kind of comply and work with you and others stand firm.

Caller 1: LSW is the company.

BF: I’m not familiar with them and what their policy would be on refunds.

Caller 1: What has happened in the past. I was in the “free look” period and was looking on the internet after I bought it and someone else talked me into buying one of theirs, so I got with my agent to be fair to him and I said this guy is offering me a better deal. In the end I stayed with LSW but had exercised my “free look” period and am afraid we’ve gone past that time now. I’m just really scared. It’s my money and I’ve worked hard for it and I don’t want to see it pissed away to some insurance company. I’d rather invest it wisely but I can’t get at it. The 401k stuff is kinda tricky. You can’t invest it yourself. You have to have someone else do it.

BF: That’s not exactly the case. You can open up a self-directed IRA account with a brokerage firm like Schwab, Fidelity, TD Ameritrade; discount brokerage firms and actually buy no load mutual funds or exchange traded funds. It keeps your fees and expenses very low. And you can do it yourself if you want or you can hire a financial advisor like us. We charge clients either a fixed fee or percentage of assets fee and everything is fully disclosed and on the up and up.

Caller 1: I don’t like all these hidden fees. I didn’t know to check under the hood and even start to look under the hood. I just didn’t know what I was looking at.

BF: In your case the first step would be to see what kind of documents they had you sign. Any disclosure documents. If none of that exists then you’ve got I think a stronger case to go back to the agent and say I want my money back under the “free look” provision and because I don’t have any formal acceptance of the contract documented. Odds are they probably got you to sign something that says you’ve received the annuity paperwork. Even so, I would go back to them and just say you didn’t understand about all the fees and expenses and had you known that you never would have deposited money. Let me know you want a refund or you will file a complaint with the insurance commissioner.

Caller 1: In a nutshell Brian is what your saying is that all annuities are the same and not in your best interest.

BF: I don’t want to say that. Annuities have a place. My ax to grind with a lot of the popular annuities is the annuity company have, they are in the business of raising money. They want to raise deposits just like a bank that wants to raise deposits by attracting money with CD’s, Money Markets or whatever. That is what the annuity companies are doing as well. My ax to grind is really with some of the more exotic offerings that sound almost too good to be true and we’ve all heard that story to be true. If it sounds too good to be true, it probably is. I’m not opposed to what I would call a clean vanilla annuity. Where you put your money on deposit with the annuity company. They give you a guaranteed or stipulated interest rate for a period of time. And ideally the withdrawal period or the surrender charged period is tied to the interest rate guarantee. So if you’ve got a 5-year withdrawal period then I want a 5 year rate guarantee. If I’ve got a 5 year surrender charge period but only a 1 year rate guarantee that puts the annuity company back in the drivers seat. They can provide a very attractive first year interest and then at the end of the first year they can drop it to low market interest rates knowing that they still have me tied up for another 4 years unless I’m willing to a pay a withdrawal penalty. As long as you do your homework in that area, then I’m okay with it. If it’s a traditional variable annuity, different mutual fund options or sub accounts as they are technically known without all these extra riders which you pay for extra. Then that maybe has merit and I say maybe. My big difficulties with annuities right now is the tax deferral sounds good but especially with variable annuities, you lose capital gain tax treatment and right now even after our new higher tax rates come into effect next year and beyond, when you look at capital gain tax rates compared to ordinary income tax rates, we are and will continue to be in a lower capital gains tax bracket compared to your individual or ordinary individual income tax bracket and that just makes it that much more difficult to justify an annuity from a tax deferral perspective. And it’s very difficult to justify an annuity as the one gentleman was saying inside an IRA account. The IRA is already tax deferred. Why on earth do you need a tax-deferred account inside a tax-deferred account?

Caller2: Quick question. I was unfamiliar with the nuances involved with annuities until this conversation. Is there anything in my periodic statement that I receive, I have an Alliance annuity, that will explain or define some of these issues you are talking about.

BF: Probably not in your periodic statement. When you got your original annuity contract, it would be buried in the find print of the contract. If it’s a variable annuity you would have gotten a perspectus probably several inches thick and it would be buried inside the prospectus. If it’s a variable annuity at least once a year that have to give you an update and it will be buried in that. An interesting point is one of our clients back several months ago, we asked them to contact their annuity company to inquiry about some different fees and expenses associated with their variable annuity. They were really simple questions and the annuity company responded by sending her a 3” thick perspectus document. Here’s the information requested; have fun! A lot of good that did her. There was no way she would ever be able to find what she’s looking for in the document. So in this example, did the annuity company violate the law? No they did not. Did they violate a moral ethical standard that their customer probably was thinking existed? I think so.

Caller 3: Certainly you are very talented and are on the ball. You think you’ve presented fixed index annuities in a fair light. You’ve mentioned 5 things that are potentially inciting substantial amount of concern that may in fact not be factual. I think you’ve got a lot of good points that have a lot of merit. But you made some pretty critical mistakes in your analysis of the way that fixed index annuities works as far as how the insurance companies are compensated. You didn’t disclose that Wharton School of Business has evaluated fixed index annuities vs. just about every other possibly investment strategy out there for the last 15 years and the fixed index annuity, although it was the safest, actually had the best performance. You were off by probably by as much as 10% on your assessment of commissions. I’m just wondering if the point of this discussion was to educate or incite fear. I’ll just put myself on mute and let you answer that.

BF: Oh what a minute before you go back on mute do you sell fixed index annuities?

Caller 3: That is certainly something we would offer to clients. We don’t do anything like what you talked about and none of our clients would have been pressured or manipulated. We’ve got clients who’ve had a substantial double-digit growth opportunity on their dollars and not only growth opportunity but growth capture. You never get all the way up in the market and I think you’ve potential positioned people to be fearful of something that in some cases can be their very best option.

BF: Okay. I’m open to be proven wrong. All I can speak to is the equity index annuity contracts that we’ve reviewed and evaluated and I’ll certainly be the first to tell you have we reviewed and evaluated every contract on the marketplace? Heavens no!

Caller3: There are some deplorable ones and I give you credit for exposing certainly any company that would mislead or misrepresent that is completely understandable.

BF: And that’s my biggest concern with the equity index. I think they’ve been oversold and misrepresented by a large number of folks as providing things that they are clearly not designed to provide. The equity index annuity is really nothing more than a formula to determine the interest that the annuity company is going to credit to the annuity contract. In my simple-minded way of thinking. Why do we have to use some complicated formula message to determine what they are going to credit interest for interest wise. Just tell me what the interest you are going to credit and be done with it.

Caller3: I think that is a valid point. There are equity index annuities with a lot of clarity and a lot of straight forward opportunity and there….(can’t hear. Loud noises)

BF: Sorry I’m getting a lot of feedback and loud noises. We had to mute all the lines. Let me close by saying I was getting challenged on my views of the equity index annuities. Usually when I’m challenged like that, the person doing the challenging has a vested interest in that they sell or represent equity index annuities. That’s what it sounds like this gentleman is in that camp. We have really no ax to grind product wise. We are a fee only investment advisory firm. We don’t accept or collect commission from any product of any nature. If it’s a good investment we want to know about it and make everybody aware of it. By the same token there is a lot of junk out there that isn’t talked about nearly often enough and we want to start exposing that as well. The last comment I will make on the equity index annuities and whether I know what I’m talking about and maybe I don’t have all my facts and figures. The other thing I always look at is when I’m looking to buy an annuity, and today with technology and the internet this is really easy to do, just Google the insurance company. Most of the time in the equity index annuities I’ve looked at, when I Google the insurance company and tie on equity index annuity, ever single annuity issuer has several, not one, but several pending legal cases against them for misleading deceptive sales practices. I just have to sit back and question is that the kind of company I want to do business with. Whether they’ve broken the law or not, is that the kind of company I want to do business with? Now I’m sure there is a company out there that doesn’t have claims against them, I just haven’t found them yet. Something to think about. So check the insurance company, look at equity index annuities, the other issue is the SEC has clamped down hard over the sales practices over the equity index annuities. The bottom line folks is we are all looking for the magic button or holy grail of investing where we can have our cake and eat it too. Who doesn’t want to make money, never lose money and unfortunately those investments don’t exist. They just don’t. They can’t and don’t. If you never want to lose money, then the only place you should be putting your money is in treasury bills, notes, bonds and CD’s provided you are under the FDIC insurance limits with the financial institution. Above that, any other type of investment has an element of investment risk. Don’t let anyone tell you differently. They are wrong, wrong, wrong, to suggest otherwise.

We’ve run overtime and I want to thank everyone for joining us today. We’ll be with you next week on another edition of Coffee Talk. If you’ve got a subject matter or a question you’d like for us to address, send us an email or give us a call. We’ll be happy to discuss your question or topic in a future call. Thanks for joining us and see you next week.

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