WCI #304: Roth's, 401(k)s and 529s

This is the White Coat Investor Podcast where we help those who wear the white coat get a fair shake on Wall Street. We've been helping doctors and other high income professionals stop doing dumb things with their money since 2011. Hello and welcome to the White Coat Investor Podcast. This is your host, Dr. Dashest Bath, and I'm here with Dr. Jim Dali. How are you, Jim?

I'm doing great.

Good to see you.

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I'm so excited. It's going to be sunny. We're going to have awesome speakers. Jim, you're going to be talking. Christine Benz is going to be there. We're going to have basically the who's who of physician finance there. I'm so excited to hear all the talks and the wonderful information that's going to be there. Yeah, it's going to be awesome.

And let's be honest, you know, the networking and the relaxation and wellness and all that is just as good as the talks.

Looking forward to the wellness for sure.

All right now, as we step away from that happy place, I want to talk a little bit more with Disha here this time about this comment. One of the comments we saw on the WCI survey this year. Now we survey you guys and we love getting your feedback. I think we had 2,600 people or something answer the survey this year. And one of these comments, however, I think deserves a little bit more discussion. I mentioned it earlier in a Milestones podcast we did a couple of weeks ago, but the comment read like this said and this is where we're asking for constructive criticism. It said content more relatable to divorced parents engulfed in debt related to divorce, domestic violence and child custody battles. Content seems currently rose colored and at times unrelatable to someone like me, but maybe it's not meant for people like me. And that comment hit me pretty hard. I mean, obviously we're talking about it twice on the podcast now. What are your thoughts when you hear that comment?

Fisha well, let me just say start off with saying, you know, obviously our content is it comes from a place of where we're at. And I will be the first to admit that we're very, very blessed. You know, I have not gone through a divorce. I have kids and a family and that comes with its own challenges. But I can certainly relate to, I can certainly appreciate that, you know, that you may not be feeling as heard. But I do want you to know that we do have content out there. We just I just talked to Monica Scudieri from Grab youb Slice about her divorce and how it, you know, changed her financial journey, how she really used that to get herself out of debt and all the struggles that she went through. So we do try our very best to include stories like that, even if we can't speak to it personally ourselves. I think it's very, very important that you and people like you feel included. And you know what? Some of all of us are probably going to be, you know, if we're not going through it now, I'm sure the financial implications of it are. It's very valuable knowledge for everyone. And we certainly, certainly want to include more stories like that. So if there are people out there that would like to share their stories about child custody battles, about domestic violence, gosh, please reach out to us because we'd love to Feature you and learn from your experience.

Yeah. Divorce is a terrible tragedy on so many different levels. Sometimes it's better to go through it than not to. But it's terrible financially, right? I mean, you're cutting your assets in half. Most docs are then cutting their future income in half, at least for a period like seven years. It depends, obviously, on that particular divorce agreement. So it's devastating financially. Do it twice, and it's really devastating financially. But the truth is, we're all in a different place. And personal finance and investing is a single player game. It's you against your goals. It's not you competing against, you know, the back surgeon down the street. Right. It's not trying to, you know, somehow get a higher net worth than the dual physician, family, two surgeon couple that you see at the hospital. That's not what it's about. It's about what you want and how you can get to that point. And so we try to have content that fits everybody within the spectrum of income of our audience, which probably starts at about $100,000 a year with really no cap. You know, I mean, there are certainly people who listen to the White Coat Investor that make millions of dollars a year. And we try to have content for them as well, but we also try to have content for, you know, the dentist, associate dentist who just came out, who's making $120,000 a year. You know, there are plenty of people like that in the WCI audience as well. And the other thing I've learned, and this is probably not so much through my work as the White Coat investor or my work, my clinical work, but more through a lot of my volunteer work, is what I've discovered is just about every family has got issues. Just about every family has got some dark secret in the closet. There's abuse all around us all the time. And if you feel like you're alone, you're the only one in that sort of a situation. I can assure you that you are not. And that every family's got issues. And so hang in there. It does get better. And as you're ready for content at the White Coat Investor, it'll be there waiting for you when you get to that stage of life. In the meantime, we'll try to create some more for those in these sorts of situations. And it might come down to something as simple as, like, on the Milestones podcast, we'll celebrate any milestone. Maybe your milestone is getting back to the net worth you had before your divorce. That'd be a fun one. We haven't done yet. Someone can come on and we can celebrate that with them. All right, let's get into some listener questions here. The first one off the speak pipe today is from Andy. Let's take a listen to that one.

Thanks for all that you do, Jim. My name is Andy and I'm a urologist in the Midwest. I was calling about a solo 401k question. I'm in the highest tax bracket and I've been doing some side gid income this year as an expert witness and as surveys, and I've made about $15,000. I've opened up a solo 401k and I was looking at contributing to that. This year, however, I have been doing the expert witness work at my house. I was thinking about renting my home office to myself for 12 days a year, which would cost, with comparable numbers, about $9,000. That would be deducted from my net income. However, this would lower my available contribution to my solo 401k. Should I let the tax tail wag this investment dog, so to speak, or am I thinking about this incorrectly?

Thanks.

So what he's talking about is the Solo 401. He can do employer contributions to the 401 up to 20% of the profits that he makes from his 1099 activity. And so instead of 1000ish dollars. Sorry, instead of 3000ish dollars, he'd be contributing a thousand ish if he did this method of renting out his space to his business. You know, when he was talking, the thought that came up in my mind was, why not just deduct the home office? But the caveat to that is that the home office has to be for exclusive use of your business. So you're basically using that home office for that business. I'm not sure if he would qualify if he's only doing it 12 days a year. What do you think?

Well, it depends, right? Does he use that space for something else? Because when you talk about the home office deduction, you know, the two rules are regular use and exclusive use. So you got to use it regularly. And the IRS doesn't define that. I don't know. It was once a month, regularly, I guess. And exclusive means you don't use it for anything else. And that's usually the one that trips people up. Like, I have very little space in my house. I mean, we have a place we built for wci and I'm not sure it's used exclusively. You know, portions of it, I suppose, are. But, you know, that's the hard one. Is exclusive use, because everybody wants to use their whole house. You know, you don't want to say, I'm only going in that room once a month. You know, that's not very helpful space in your house. But the big problem with the home office deduction, at least if you use the simplified version, is it's not a very big deduction. Right. You can only take up to $5 a square foot, up to 300 square foot feet. And so that's 1,500 bucks, right?

300 square feet, which is 1500 bucks. Exactly.

Yeah. It's just not a big deduction. Whereas if you're renting your house to your business, that's a much larger deduction, especially given the value of most doctor houses. Now, if your work is, you know, reviewing charts, boy, that's a. That might be pushing it a little bit to rent out your whole house for that business. The IRS doesn't require you to make good business decisions, but, boy, that one might be pushing it a little bit. I'm not sure how comfortable I'd be with that. Now, we do this for wci, but we also bring over a whole bunch of people and have a meeting. You know, those are the days that I'm writing this off, you know, renting my house from myself, where the business rents the house for myself. So I'll leave that up to you whether you choose to do that or not. But certainly that's going to be a heck of a lot bigger deduction than the home office deduction would be for you. But I don't think that's really your question. I think your question is, are you better off never having that taxable income or having taxable income that allows you to make 401 contributions? And I think the answer to that is you're better off not having taxable income. You know, the best income you can get is money you don't have to pay any taxes on at all. And you know, when you use a retirement account, you're going to pay taxes on that money. You either pay it now or you pay it later. And so I think you're better off not having taxable income if you can come up with a deduction that you would be buying anyway. You don't buy stuff you don't need or that you wouldn't use anyway. But you're better off with that deduction than you are, you know, with more retirement account space. I mean, I'm a big fan of retirement accounts, but I think that's the way the math is going. To work out for just about any legitimate business deduction.

Cool.

You know, one other thing I think a lot of people in this sort of situation ought to consider and it might not be worth it for a business that makes 15 grand. That may be the case. But you can get a custom designed Solo 401K. I'm talking about not one off the shelf at Vanguard or Fidelity or Schwab, but a custom designed one. So you're going to spend a few hundred dollars getting it set up. You're going to spend one or $200 a year maintaining it. But you can get a plan design that allows you to make after tax contributions and in plan Roth conversions, aka the Mega BackDoor Roth IRA. And if you do that, you could put all $15,000 into a Roth account instead of just $3,000 into a tax deferred account. And I think more people ought to think about that because that's probably the right answer for lots of people. A little more complex to deal with, a little bit more cost for sure, but certainly a good option. Plus, soon people are going to be able to do Roth sep IRAs.

Roth contributions, yeah.

So you can just do a SEP IRA and make Roth contribution there. But again, I think you're going to be limited to the 3000 in your case if that's what you were doing. All right, let's take a question from John, who sounds like he's got a similar issue. 1099 Income and Retirement accounts.

Hi Jim. Looking for help with a question that I cannot find the answer to. And you've always given such great advice. I appreciate that over the years. So anyhow, I am a emergency medicine physician. I typically max out my 401k every year as well as a defined benefit plan, which is great. However, I've been doing some side hustles and I have some 1099 income. So my question is twofold. One, can someone that's just working as an individual with 1099 income set up something like a simple IRA or a SEP IRA? Or do you legitimately have to have a small business llc, et cetera? And then the second question is, is this going to be worth the headache? So if I don't max out my 401k through my employer and instead, you know, let's say, use a third of that funds to set up a SEP IRA to have a separate piggy bank, if you will, to maybe invest in some alternative asset classes like some of the real estate funds that you promote through your website. I was wondering if this would be a good thing or if it's just going to be a massive headache and more paperwork to go through and perhaps create some hurdles to doing things like the backdoor IRA and things like that. So anyhow, just looking for advice on whether or not I should do this. So thanks so much.

Wow, John, great question. There is a lot swirling around in that question. This is one of those things that, you know, we need to go out in the hallway and have a chat for 10 minutes about how this all works. So it's nice and straight in your mind and then I think your decisions will be a lot easier. What would you say to him, fisha, in this conversation? Because this is going to take a while, I think, to touch on all these topics that he's mentioned.

Right. So the first thing that came to my mind was you definitely don't need an LLC to start a solo 401k or a self directed 401k. So the solo 401k, your sole proprietor, you can get an EIN from the government and just start, you know, that solo 401k and start contributing there. And that would have been the advice for from us prior to secure 2.0. But now that you can do Roth SEP contributions, the reason we would have said don't do SEP IRA would be because that would put you in the pro rata rule calculation and that all that money in the SEP IRA would count against you in the pro rata rule if you're going to do the backdoor Roth ira. But now you could do Roth contributions. So that's going to change up our calculus a bit. Do you need an LLLC for a SEP?

No, you don't need an LLC. I mean, the other problem with this whole new Roth SEP IRA thing is I don't know where to send anybody for one.

Right.

We haven't really clarified anything out or Fidelity or Schwab. Right. I mean, yes, Congress has authorized it, but nobody's offering one yet, so it's not really an option yet. Number one, I'm not sure it's better than a solo 401k for most people, but you're absolutely right that lots of docs out there do not need an llc. I don't know what your side gig is. You didn't mention whether you're just practicing medicine or what. But here's the deal. An LLC doesn't protect you from malpractice, right? So you can't just incorporate your practice and somehow you can't be sued for malpractice personally. Right? Malpractice is always personal. So for someone who's just working as a hospitalist, they have no employees. You know, they're just getting paid on 1099. They don't need an LLC. Yeah, it looks a little more official, but who are you trying to impress? They want you whether you're an LLC or not. And you don't need it for a solo 401k. So most of the time docs doing that sort of thing can just be a sole proprietor. And what you got to understand is if you're being paid on a 1099, you're in business. You are self employed, you have a small business, the form of that small business is a sole proprietorship. Okay? So don't kid yourself that you're not in business. You are in business. You can write off all your business expenses. You can go open a solo 401k. Yes, you got to get an EIN, but that's free and it takes 30 seconds. You know, I helped my daughter get one of those for a business she started the other day.

Nice.

It's just not that hard. And so you don't need an llc. When you want an LLC is when you have liability in that business, right? Like when you're doing rental properties, you know, that's a toxic asset. You want that in an llc. Provide internal and external asset protection. And sometimes it looks a little more official to be an llc, et cetera. You know, the white coat investor wasn't an LLC originally, it was a sole proprietorship. And then it became an LLC taxed as a sole proprietorship. Then it became an LLC taxed as a partnership. Then it became an LLC taxed as an S corp. Right? So there's all these different entities that there are different reasons you might want. But if you want to just keep things simple, sole proprietorship works very well. And it's perfectly fine. And you can do, you know, you can have your retirement account with that. Okay, so we talked about that. The other thing that doesn't seem to be straight in your head, I think, is how to choose a retirement account for your small business. Right? And this is a lot easier if you don't have employees. The answer, as thisa mentioned for a long time has been a solo 401. That's what you want. If you don't have employees, get a Solo 401. It's especially important if you don't have a main gig whose 401k or 403 you're using to get that employee contribution this year. That's 22,500 for those under 50. But even if your use still have that, a Solo 401 has been the right answer in the past because it didn't get prorated when you do your backdoor Roth ira. Now with this Roth SEP coming out, maybe that issue goes away because a SEP is a little easier to use than a solo 401k. You don't have to file 5500EZ. Once it gets to $250,000, it's a little bit less paperwork to set up. I don't even know if you need an EIN for a sep. You might be able to open a Sep without an EIN. I think you can, but for the most part, Solo401 is the answer. So who's using a Simple IRA? A few people with employees use Simple IRAs. It just makes sense for their particular practice, their particular business. But if you're a document and you got no employees, don't use a simple ira. It's a stupid plan. The contributions are low. It, you know, you got to leave the money in there for two years before you can roll it out. You don't have those rules with the SEP IRA. You don't have those rules with the solo 401k. You don't have to set up a retirement account, though. You don't. You know, this is not. It's not the only way you can save for retirement. You can always do it in a taxable account. Whether you put mutual funds in that account, whether you go invest in private real estate, whether you go buy properties down the street and rent them out. You know, you can do all that outside of retirement accounts. You don't have to use a retirement account. And there's plenty of small medical practices with employees, dental practices, where they do a study and they're like, this doesn't make sense for me to implement a retirement account. I'm just going to save in taxable, and they do, and that's perfectly fine. So I think you have to have all those issues straight because all your questions are like, swirled up into one. And I think you got to divide them out to really answer the questions. In your case, the answers are probably no. You don't need an LLC. You probably ought to use a Solo 401K. And that's probably about it for you. I think when you get to the end of it, that's probably the conclusion you will come to, as do most docs.

Don't forget about the backdoor Roth ira, which you can do with any earned income.

Yep. As long as you don't have. You know, remember the proration though, right? No traditional IRAs, no rollover IRAs, no SEP IRAs. At least tax deferred SEP IRAs, no tax deferred SIMPLE IRAs. Or that conversion each year will be prorated. All right. Well, we often tell the docs, the lawyers, the engineers, the pharmacists, the high income professionals out there, thanks for what they do. What I don't think we do often enough, and I know a lot of you out there listening are in this category is thank the spouses and the partners for what they do because they're often sacrificing just as much, especially those of you who got in early. And what I mean by that are those of you who married us before we were making the big bucks, went all the way through undergrad and med school and residency and fellowship and suffered right along with us. You don't get thanked enough.

Absolutely.

And that reminds me of this other comment we got from our survey recently and this person said, I really want more conversations about decisions with dual earners and kids. I feel frustrated when at least in some WCI articles, male physicians are like I travel X weeks a month and play lots of golf and my family life is great without acknowledging that those choices are made possible by a stay at home spouse. As a mom, I am very aware that one week away by myself is very limited by the fact that my husband has a very full time job that he isn't interested in quitting dialing back at this time. We have two small kids. I appreciate that recently there have been a few more diverse voices, but still wonder if that dream of retiring, dialing back, traveling a lot, et cetera is out of reach if you don't also have a full time stay at home spouse. What would you say to that commenter? Disha.

Well, I will definitely agree with you that it's tough having kids and two working spouses. You know, I would caution you to, you know, whenever we post or write or anything on social media, on the blog or whatever, we're putting on some rose colored glasses and and you know, and looking at things from a very ideal perspective. In fact, I think my posting on social media goes up when I'm actually not going through a good time in my life. But I'm trying to make myself feel better by focusing on the positives.

I thought it was supposed to be the highlight role of your life.

Isn't that what is it is highlight reels? Yeah, but like I tend to post more highlights because I'M trying to just make myself feel better, you know, life is good, like stop being in the negative. But yeah, what you're seeing from the outside is a lot of it's curated and you know, we're choosing to focus on the positives, but everyone has their struggles. I mean, this weekend my kid got strep, I worked all week in primary care. I still have a ton, like over 200 labs to go through for that. I worked a full day as a hospital is admitting and then and I was supposed to be writing my book and putting together a presentation for ACP and putting together my two presentations for WC Icon and the host script. I still have to do that, you know, and it's just insanity at all times because like my husband also works and, and he's sitting on his computer, I'm sitting on my computer, my poor child is playing by Lego with Legos by himself, you know, and it's, listen, nobody has it all together and it's a constant struggle and if it looks like somebody has it 100% together and is telling you that, they're probably lying. So don't worry.

Amen to that. You know, here's the truth of the matter. A great deal of the success that Katie and I have had has been due to the fact that she took a pause in her career. You know, when I was an intern, at the end of my intern year, we had our first child, who's now 18, in her second semester of college now, and she stepped out of the working world and she stayed home and took care of home stuff, raising kids, keeping the family going, all that sort of stuff. And that not only allowed me to concentrate on my medical career, right, Because I was in the middle of residency at that point, but also permitted me to use time when I had it to work on WCI and build wci, right? And so I look at this comment, I'm like, hey, did Katie write this? Because we have had this sort of conversation very frequently about how when I'm not working, all of a sudden I want to go on a trip, I want to go out and play. And she points out, well, when you're working, I'm also working. I mean, now she's working more than I am in wci, but this is when she was not necessarily doing that. And so the truth of the matter is that high income professional whoever is out there doing all this work and the other person is taking care of business at home, you've got to take some time off just to cover their job so they can take some real time off. You know, like Katie's going on a trip this September. She's going to Africa and go climb Kilimanjaro, do some safari stuff. This is an all girls trip. They're all going out to do this trip. It's going to be awesome. But what does that mean? That means I'm staying here and taking care of the kids and it's a two and a half, three week trip and I'll work a shift or two or three during that time. I'm working day shifts now and so when the kids get out the door and I can get over to the hospital or they can get themselves out the door or I can have a friend help our youngest one get out the door to school and I'm back by the time she gets home. But the truth of the matter is, without making specific exceptions for those times, it's just not going to happen. And I think those of us who go to work with a high income professional, we sometimes forget that some of your time off needs to be used to give that stay at home spouse a break.

Yeah, it's true. I mean, it's always a balancing act. Um, even if you have someone staying at home, you have to work with them. You know, if you have the, your spouse is working full time, it's, it's tough. There's never going to be enough time and there are always going to be reasons why you can't achieve your goals. But you've got to focus on the fact that when you believe you can achieve something, that's when you achieve it. Right. You have to believe it first. So, so focus on that goal. Find that goal and then work on the balance. The balance is never going to be perfect. The balance is consistently going to need to change day to day depending on what's happening. We're going to be talking a lot about how to get that balance or maintain that balance at the WCI Con 23 actually on Saturday is going to be all about burnout and balance. So that's going to be, that's going to be awesome. And I think, you know, the truth of the matter is there's no such thing as finding perfect balance. Just a matter of. It's a, it's a struggle. It's, it's the journey. Right? The journey is balancing these things and, and finding solutions that work for your family.

Yeah, there's an advantage to having a dual income for sure. You make more money, a lot of financial stuff gets easier. Right? You, you can pay off student loans. Faster, you can build a nest egg faster, all that sort of stuff. But there's also costs. Right. Childcare is not the least of them. And you know, there are a lot of things, a lot of benefits too, to having a stay at home spouse, a stay at home parent as well, both financial and non financial benefits. So there's advantages both ways. Don't feel like, you know, the grass is always greener on the other side of the fence. It isn't always greener on the other side of the fence. I think I've mentioned it before. I work with two general surgeons, husband, wife, team. And I tell you what, when a kid gets sick, it's a major tragedy figuring out whose cases are going to get canceled that day. Because someone's cases are getting canceled.

Exactly. And especially in these Covid days where you don't want to expose the grandparents or anything, you know. But I will say Josh stayed at home the first two years of our marriage. And they were the two most difficult years of our marriage because. Or it was the first, the second and third. But anyway, we decided because he was.

Homer, that's why he was home.

He just, he was going, he was doing his master's and, you know, and I was working full time, so. And we just, we had a newborn and we were about to have another one, so it made sense to just not do childcare for us and for him to stay at home and do his masters. But man, it was tough on him. And as soon as I'd walk in, he'd be like, here are the kids. Have fun. I'm taking some time off. And I'd be like, but I'm exhausted.

Yeah. Being a stay at home parent is not easy.

No, it's not. It's not.

It's hard.

Yeah. I think we can balance better when we both work.

I don't know if I could do it. I mean, now that the kids are older, maybe I could. But when they're, you know, three, five and under. Yeah, I don't know. That was a tough job.

It's tough.

Okay, let's talk about, let's talk some more about retirement accounts. That's what you guys call in questions about. You don't call in and ask us for our opinions on, you know, whether your spouse. Spouse should stay at home or not. So we'll talk about retirement accounts. Here's one from Leslie.

Hi, Jim. My name is Leslie. I'm a pediatrician in New York City. Thanks for all you do. My question is about a 401k retirement plan. That we have at my office, I'm a partner with another doctor. And then we have another maybe 30 employees. We've only had this 401k plan for 5 years before I even discovered White Coat Investor. And it's not a good plan. The options, it's through John Hancock and the options have high fees. Currently, I'm paying, or I believe we're all paying 1.5% per year in fees. And I'm looking to switch us out. And I just wanted advice on how to do that and where to get started. Thanks so much.

Bye.

Bye.

It's all you, Jim.

Wow. Well, I'm sorry you're in this situation. This is a really common situation. People become financially literate and they're like, oh, crap, I've been ripped off. You know, in my case, it was, well, I had a fee based financial advisor. Not a fee only, right? There's a difference. Fee based means you're paying commissions too. You know, I had a whole life insurance policy. You know, this sort of stuff happens to all of us when we figure it out finally and we're like, ah, crap, I'm paying 1.5% expense ratios, you know, I mean, I had a bunch of actively managed mutual funds I had to get rid of. So this happens to everybody. So don't beat yourself up about it. But yes, you want to change. You need a different plan in that practice for a couple of reasons. Number one, you want your money to grow faster so you can retire someday. Maybe that's the most motivating thing for you. But there's another reason you need to fix that plan, and that is that you have a fiduciary duty to your employees to provide them a good retirement plan. And this is not a good retirement plan. You are breaching your fiduciary duty. And they can sue you for it.

How? Don't scare her. She already wants to switch.

I know. Isn't this crazy, right? She just figured this out and now all of a sudden she's got all this liability she didn't even know she had. So, yeah, you got to get this changed. You know, they're probably not going to sue you, especially if you're making changes. But they could, is my point. So here's how you do it. You've got employees, I assume, right? Because if you don't have employees, you just go get a Solo 401. But if you have employees, you need to get a study of your practice, a study of your business, okay? And the study is essentially to help you decide what kind of 401k to put in place or whether to put a SEP IRA in or a simple IR in or no plan at all in. Those are basically the choices that you come down to. And who does that? Well, professionals do that. Okay? This is not a do it yourself project. Once you have employees, you need help, okay? You need a team that basically puts together the plan. You know, it includes a third party administrator, includes an actuary, usually includes a record keeper. You know, there's a custodian for the assets because you're not going to hold onto them personally. And there's often an advisor, sometimes an advisor that helps share that fiduciary duty with you. But anyway, the way you do this is you go to whitecoatinvestor.com, you go to the recommended tab, you scroll down to where it says retirement accounts and HSAs. And on that page you will find four or five companies that do this. This is what they do. They come in and they study your practice, they study your business, figure out what your goals are, what you want, help you choose between those retirement accounts and implement one. These are companies like i401k, IQ401k, that's FPL Capital Management, Wellington Retirement Solutions, Latovsky Asset Management, Imperion Carson, Ellaria Wealth Management. You know these companies. And when we put in the WCI 401k, this is who we went to. We went to these companies and they helped us design it and we had to choose one of them eventually. But these are the companies we go to because this is what they do all day long. Okay? And you will find that up front it seems like it costs a little bit more because these John Hancock folks are like, oh, there'll be no charges to set this up. Well, the reason there were no charges to set it up is because the fees are all under the table. They're charging you expense ratios of 1.5% instead of 0.05%. That's where they're making all their money. And in the long run it's going to cost you a whole lot more. So better to spend a few thousand dollars to get it set up, maybe a few hundred or even a few thousand a year to keep it going. But you can pay for that out of the practice. You can pay for it with pre tax money rather than have it be constantly eroding your account value. So yeah, you need to go get a new 401K. Sorry, that'll be a little bit of work. It's not too bad though. Lots of other people have done it before you. You can do it too.

And seriously, great job and unlearning this stuff and then identifying the problem and you're already fixing it. It's awesome.

Yeah, yeah, for sure. You know, you got to fix this stuff at some point.

Yeah.

All right. It's, you know, February is recording this. So January and February around here are like non stop backdoor Roth IRA questions. So I think here's another one from Sophie that's come in recently.

Hi there, WCI team. My name is Sophie Herbert and I'm 54. I have a IRA backdoor question. So on December 15th, I contributed $7,000 from my Wells Fargo bank account into Traditional Fidelity IRA. Then on December 22nd, I converted that $7,000.02 actually to the Roth IRA. So today, January 13th, 2023, I just realized that there's an interest earned FDIC insured deposit at Wells Fargo QPIRQ for $3.17. Not sure what to do with that. If you can give me a little in this site, because I know you did say on your tutorial that anything not done in the calendar year can be a little bit more complicated into the 8606 form. So conversion, contribution and conversion should be done in the calendar year, which not sure what to do with that $3.17. Any insight will be absolutely welcomed. Thank you for your time. You guys are awesome. And Happy New Year.

Yeah, I guess we got a little bit of a lag. We still got Happy New year's running in March 2, still New Year, Roth. So this is the pennies in the backdoor Roth IRA issue. Right. And this has got to be, I don't know, a third of the questions we get about backdoor Roth IRAs. Guess what accounts are paying interest again. And so when your money makes money, there's money left behind. If you put $6,000 in a traditional IRA and it sits there for a week before you convert it to a Roth ira, it's going to earn some interest. And it used to be that was like 37 cents and you just ignored it. Now it's like four bucks. And it actually causes you to be prorated. It's not that big a deal to get prorated on $4. Right. But the easiest way to deal with it is when you see that money left behind in the account is just to convert that as well in the same calendar year, you know, so you put it in the traditional IRA on December 15th, you move it to the Roth IRA on December 22nd. On December 28th, you see. Oh, there's $4 in there. And you move that into the Roth IRA, too. I think that's probably the best way to deal with this sort of thing. Obviously, it's too late for this person to do that, and so this person's going to be prorated. Now, that's not a big deal. Wait, because it's only $4.

Hold on. I think what she said was she transferred from Wells Fargo to fidelity for her IRAs, and then she got some interest payment into Wells Fargo.

Oh, well, that's not her. Iraq is not in the ira. So you made some interest in your bank account. That's great. Congratulations.

Yeah, yeah, I don't think that's going to matter to the pro rata rule.

Yeah, it won't.

She just got like some severance.

I can't tell exactly what kind of account she's got the $4 in, whether that's an IRA at Wells Fargo, whether she misspoke and it's the IRA at Fidelity, which is the way we usually get this question, or whether it's just, you know, not an IRA at Wells Fargo, in which case, well, you made $4 in interest. Congratulations. You'll have to pay taxes on that interest, but that's it.

Yeah, yeah. If that's just simple interest in your savings at Wells Fargo, that'll just be taxed at your regular tax rate, and that's. Yeah, you can. You'll get a form for it at the end of the year. That shouldn't be a big deal at all. And I don't think that should. That should come into your pro rata calculation at all. Now, if it's at your traditional IRA and you just had a little bit of interest in between, I think you said you contributed 7,000 and then you converted $7,002, that should not be a big deal at all. That debt rounds down.

Yeah, that's what it used to be. It used to be nobody made any interest because no banks or IRAs, the money market funds and the IRAs paid anything. So it really didn't have to worry about it. Now it actually pays something, so you get a few bucks. But here's the deal. Being prorated is not illegal. It's not that bad. A little tiny proration. Right. You put $7,000 into an IRA, you convert it to a Roth IRA and you leave $4 behind. Yes, you're going to get prorated, but, like, the consequences are nothing. Whereas if you had a $400,000 SEP IRA and then you put $7,000 into a traditional IRA and then move that $7,000 to a Roth IRA. You thought you were putting after tax money into that Roth ira. You weren't. It was almost all pre tax money. And you're going to pay taxes on that Roth conversion because you got prorated. That's a much different story than if you're leaving behind $4 in your traditional IRA. So it's important to understand how the math works on the proration. You can see that as you work your way through Form 8606, but not that big a deal if it's just a few bucks. Okay, by the way, all of you first years medical and dental students, if nobody has handed you the White Coat Investors Guide for students yet, this year, you need to sign up to be the champion for your class. You have until March 17th. That's the last day. And all you have to do as the champion, seriously, all you have to do, you give us your mailing address, we send you a few boxes of books, you pass them out to your class. That's it. That's the whole commitment. Okay? It's no big deal. You can sign up whitecoatinvestor.com champion and we're hoping to distribute a copy of that to every first year medical and dental student in the country. And last I checked, and it's been a few weeks since I checked, there were still 100 schools in the country that do not have a champion for this year. So if you haven't gotten a book, that's because your school doesn't have a champion. And we can't just ship them to the school. We need to ship them to an individual. So please sign up.

That's awesome. I wish somebody had handed me like a how to guide to get my stuff together financially as a student. Oh, my God. That would save me. That would have saved me so much money.

Yeah, I mean, I think this might be the most impactful thing we do at the White Coat Investor. Quite honestly. You know, everyone's like, oh, why didn't I learn this earlier? Why didn't I learn this earlier? Well, when would you like to get this information as a first year? So let's get it to you then. We're trying, we're trying, but we need your help. Okay, another backdoor Roth question. This one from mark.

Good evening, Dr. Dali. My question relates to funding a backdoor Roth IRA. My wife and I are two business professionals with high incomes. Every year we max out both our 401s and our backdoor Roth IRAs. We would like to save 20% of our salaries. So we first fill the 401ks, then the IRAs, and lastly a taxable brokerage for any overage in years past. To fund the backdoor Roth IRA, we built up $13,000 throughout the year in a savings account and on January 1 would do the backdoor Roth IRA rather than have that money sit in a savings account for the entire year. Would I be better off to invest that money in the taxable brokerage account throughout the year and then sell $13,000 every January to fund the backdoor Roth IRAs? If so, does it make sense that I should be selling the assets with long term capital gains? What are the implications if I sell a loss as I would have had to do this January? Thanks.

All right. What do you recommend to him?

Well, I can tell you we don't invest the money we're going to be putting into a Roth IRA at the beginning of the year just because it's too much headache. And also I, you know, anytime you put money into a brokerage account, you take the list the risk of loss. And I don't want to lose that money. I want to invest it so that I believe strongly in investing with the time horizon in mind. And I don't usually put money in a brokerage account that I need in like a year or with less than a year.

Yeah, here's the deal, right? I mean, you're doing a big backdoor Roth ira, right? So if you have to do your Roth IRA through the back door, it means you're making at least what, a couple hundred thousand dollars, right? So you're saving, you said 20%. You're saving at least 40 or $50,000 a year, right? So what's a monthly savings amount for somebody that's saving that sort of money? And maybe it's more, I don't know. That's like the minimum amount you're making because you're telling me you have to do a backdoor Roth IRA. So in reality, maybe you're saving $100,000, I don't know. But the point is, every month you're probably saving at least 6 or $7,000. Okay, so maybe your monthly savings for January goes into her backdoor Roth ira, and maybe your monthly savings for February goes into his backdoor Roth ira. And maybe your monthly savings for March through August go into the 401s and your monthly savings for September through December go into the taxable account. Now that's kind of how our savings look. It's not as easily Automated. But by the time you're having to do, you know, your Roth IRA contributions through the back door, you're kind of past the automation point. You've already got complicated finances. And so I wouldn't necessarily be putting, you know, $500 a month toward the IRAs. Come on, you make $200,000 plus, you can put it all in at once. You make enough money to do that. And so I would encourage you to not be saving up for these Roth IRA contributions over the course of the year, but to use the money that you are ready to invest then to make the Roth IRA contribution. And I think that'll work out better for you if you choose to do this. If you choose to put $500 a month away and put it in the taxable account, then yes, it's good to have long term capital gains, meaning something you've had for at least a year. Obviously you're going to pay a lower tax rate on that, but you're also more likely to have more significant gains. And so those are kind of offsetting factors. I don't think most people do what you're talking about doing, though. I think most people do what Dish and I do. You know, either have it in cash, you're saving it up in maybe November and December in cash and just let it sit in cash. So you put it in the, in the Roth ira, or this is just the money that you invest for January that's going into the Roth IRAs and hope that makes sense. Okay, let's talk about Roth versus traditional. This one's from Tim.

Hi, Jim, this is Tim in Salt Lake City. I had a thought about the age old question of investing in Roth versus traditional tax deferred accounts. We normally think that tax deferred accounts make sense if you will be paying a lower marginal tax rate in retirement than you are in your working years. And I imagine that's usually the case. But I was wondering if there's another reason why people might generally prefer to use tax deferred accounts. If your income drops before retirement age, maybe due to disability or decision to work less, then it seems good insurance to have a good tax deferred account because now you'll be able to draw on that money potentially before retirement age through all the various means that you can do so and at a lower marginal tax rate. I wonder if some people get hooked on the idea of tax free withdrawals from Roth, but then don't end up benefiting that much from them because they end up needing their retirement funds early when they're at a lower marginal rate. So do traditional retirement accounts. Tax deferred accounts serve as a sort of insurance against a drop in income earlier in life. Thanks for your thoughts.

I think Tim from Salt Lake City used to be Tim from San Francisco. I think we've had lots of his questions on the podcast over the years. But it's good to have you here locally, Tim. It's good to have you. Your comment is it feels like less a question and more a pontification, which is probably right. What do you think about that as one of the reasons to use tax deferred accounts? Tisha?

Yeah, I mean, I think that's the right way of thinking. The mad scientist has a post on Roth conversion ladders because that's kind of the strategy he used to retire early. I think he retired in his 30s and he does the fire lifestyle. So his living expenses are low and so he converts his pre tax to Roth once a year to take advantage of just those pre tax dollars at a lower income. And certainly that's a strategy that a lot of early retirees use to get more Roth money into their accounts when they retire early. I'm not sure. So I think you would still have if you actually wanted to withdraw the money from pre tax, you would still have to pay penalties, but it's a good way to get more Roth money anyway to do those conversions.

Yeah, I mean Roth's the sexy one, right? Everyone loves Roth tax free. Who doesn't want tax free income retirement? Certainly if you got to inherit $100,000 in a traditional IRA or $100,000 in a Roth IRA, you'd rather inherit the $100,000 in the Roth IRA, no doubt about it. But it is true that there are times and places where tax deferred is the right answer. And for a very high earner, let's say somebody that's in one of the upper brackets, you know, 35%, 37% bracket or whatever that has like no retirement savings, tax deferred is almost surely the right answer for you because you're not going to, you don't have that much in retirement, so there's not going to be that much coming out of these retirement accounts filling up lower brackets. And so it makes a lot of sense for everybody to start their retirement savings with tax deferred accounts, you know, when you're in those upper brackets, because you're almost surely going to get that money out at a lower tax rate than what you're saving when you put the money in. And if something Bad happens to you. You know, you get disabled, you don't work. As long as you think you're going to work, your income drops, whatever, then yeah, you're really happy you did tax deferred instead of prepaying those taxes at 35% or 37%. Now, as you go throughout your career, you become wealthier and wealthier and all of a sudden you realize, wow, I got a ton of money and everything I take out of retirement accounts now in retirement is going to be in the top bracket. Well, you're kind of to the point where you've got a super saver problem. And those people ought to be doing Roth all the time. But for the most part, early on and during your peak earnings years, the answer is going to be tax deferred accounts for most people. There's a reason. It's the rule of thumb. Now, are there all kinds of exceptions we can all come up with? Yes, there are exceptions. And if you're an exception, do Roth. But this is like the anti exception, right? This is someone who is a high earner for five or six or seven years and then is done. Yeah, man. Tax deferred is the way to go for you for sure.

Absolutely. Totally agree.

All right. Our quote today is from Paul Samuelson. He says investing should be more like watching paint dry or watching grass grow. If you want excitement, take $800 and go las Vegas. Why is that so hard to remember? People forget that, right? They want their investing to be exciting and exciting. Investing is usually bad investing.

It's because of Hollywood. Apparently all investors are like dealing on the and waiting for the bell to ring at Wall street and making 5,000 calls, according to Hollywood.

Right. Last night was the Super Bowl. So I watched the super bowl and I noticed there were no ads for crypto at the super bowl this year.

Yes, surprisingly.

Yeah. So that's what happened to exciting investments. They sponsored the super bowl last year and this year there's nothing. I think one of the college football bowl games was a crypto bowl as well, and that didn't happen this year either. So exciting investments are exciting. They do tend to come and go. They don't tend to be good. In the long run, you might get.

Trolled by a whole bunch of crypto people on Twitter. I'm just saying, after this drops.

Exactly. Well, I'm not sure which is worse, getting trolled by the crypto bros or getting trolled by the whole life salesman, but we get both all the time. All right, we've got a military doc Ryan. Thanks for your service, Ryan. Let's see how we can help you.

Hi Dr. Dali, I have Roth and 529 questions for you. I'm a military doc in my early 40s PCSing this summer at which time my wife will be leaving her clinical pharmacist job. This year we are in the low end of the 24% tax bracket and will dip into the 22% tax bracket for the next three years while my wife isn't working. When I retire and get a real job in 4 years we will be in the 32 or 35% bracket. Before we PCs, we will max out her non matched 401k which will have about 75,000 at that time. We plan on rolling all of her 401k into Vanguard within the 60 day limit to ultimately end up in her Roth IRA to grow tax free for at least 16 to 20 years. Could you let us know whether or not this needs to be done all at once into her Roth or can we use a rollover Iraq to spread out the backdoor taxes over 2023 and 2024? Finally we have a single 529 in my wife's name that we plan on using for our two children as well as one semester of tuition for our six nieces and nephews by changing the beneficiary every one to two years. Knowing we have one post 911 GI bill for our two kids and that all these beneficiaries are at least two to four years apart in age, is this approach wrong? And instead should we open additional 529s allocated to each child? Thank you so much.

What the heck man? You just fit an entire financial plan into a minute and a half. All right, which piece of that you want to take? Disha, because there's about six pieces I think we need to talk about.

So there's some rules here that I'm not familiar with. He said the required six month window for the rollover. Does he have to roll everything over into an IRA?

The 60 day window? Here's the deal. Never do a rollover. Technically a rollover is when you take possession of the money and then you've only got 60 days to get it into the other account. Whether the other account's a rollover IRA or a Roth IRA or some other 401. Whatever it is, you only got 60 days and if you botch it, it's like you just took the money out of the retirement account. You got to pay the taxes due, plus penalties if you're under 59 and a half. So that is not the good way to do these transfers. What you want to do is just contact the institution that it's going to and have them pull the money over directly. So you're doing a direct transfer and not actually taking possession of the money. They might take longer than 60 days, hopefully not usually happens in about three weeks. But then you never take possession of it. So you don't have to worry about the 60 day time limit. You don't have to worry about the fact that you can only do one a year and you won't get burned having to pay penalties. So always do direct transfers. I mean, the only reason anybody would ever purposely do a rollover would be if they're trying to use that money in between. And I've seen some crazy people try to like close a real estate transaction using that money during that 60 day period. And you can imagine what happens when your closing gets delayed or the mortgage doesn't come through or there's a holdup with the inspection or whatever. And now you're caught holding the bag, paying penalties. So don't do that. 60 days is not a long enough time period. But that's what he's talking about.

Okay. I didn't know if it was like a military specific rule or not.

No, no, that one applies to everybody.

So that's good to know actually because I've rolled over a couple of retirement accounts now and the direct transfer was never an option that I was told about.

That's weird. They always wanted to send you a check.

Yeah, they. Yeah. And then it was a complete headache because then I get a check and then the next institution would want a different form and then blah, blah, blah. And the form didn't have the right information. Which Secure 2.0 now fixes that. Form has to be standardized, but doesn't go into effect till 25, I think. But. But yeah. So that's. That's great information. Thank you for sharing that.

Yep. For sure. All right. I don't know where to start with all those questions. I guess we could talk about the 529s to start. Do you put it all in one? 529? I don't do that. I got a gazillion 529s. I've got 34 nieces and nephews and I have a 529 for every one of them as well as one for each of my kids. I don't have one for my spouse and I don't have one for me. So all the money. The nice thing about putting it all into lower generations originally is there's not later. You know, this weird gift tax stuff you might have to worry about if you have an estate tax problem and when you move it to that generation. So I just started with the next generation. I think that's a good place to start your 529s. In Utah, we get a tax credit of 5%, basically of whatever we put in a 529. But there's a limit. Like, you only get it on the first $4,000 that goes into an account. And so it would be stupid for me to put it all into one account. Then I'd only get a tax credit on the first 4,000 that went into that account. Whereas if I spread it out among 38 accounts, then I get it for the first $4,000 that goes into each of those accounts. And so I'm a big fan of not putting it all in 1 529. I don't know why you'd want to do that. I guess it's only one account to manage, so that's nice. But it's not like these are hard to manage accounts. You know, they're kind of set it and forget it. So I don't know that I would do that. Do you have 529s for your kids, Disha?

Yeah, absolutely.

Do you have one or do you have multiple.

No, I have one for each.

Yeah, one for each. Yeah. I think that's the way most people do it.

Yeah, it's pretty easy. But I'm not sure. He said he had an account for his wife. I'm not sure that already has money in it that they're trying to figure out.

Yeah. It sounds like this is what he's got, is this account for his wife. And then the plan is to later change the beneficiaries, split it into multiple accounts, which, I don't know, maybe it came from. From her parents.

Yeah.

529S haven't been around that long, so maybe that's what it is. If that's what it is, then you're kind of stuck dividing it up at some point, whether you do it this year or next year or whenever. I guess it doesn't matter. But if you're starting these accounts, you know, just start them for the next generation. I get these people who are like, I don't know, they're just really worried about this or something. And they start them before the kids are born. Right. They're like, we might have kids Someday, let's start a 529. I'll put it in my name and I'll front load it. I'll put, put five years worth of contributions into it. And then later we'll change the beneficiaries. Come on, you got 18 years to save up for college. It's not that expensive. If you have the money now to front load of 529, you're not going to have any trouble saving up for college for these guys. Even if they go to Harvard and even if they go to dental school afterward, you're going to have enough money. You can wait until they're born and a few more weeks until you can get a Social Security number for them and open them with them as the beneficiary from the beginning. If you want to front load them, then for five years, that's okay with me. But this starting them before they're born, I think is just nonsense. Go save in your taxable account. The money will be there. You know, I mean, congratulations, if you're that wealthy, that this is even an option for you. Because when my kids were born, there was no way I could put money in a 529.

No.

You know, about 90% of the money that went into their 529s has gone in the last three or four years. I think we just didn't have the money.

Yeah.

And I think that's the way most people are.

Yeah, we were too busy paying for my school. Still, three years later, you got student loans.

What else was he asking about? He was asking about Roth conversions. And so here's the deal. You're in the military, right. We talked earlier about tax deferred versus Roth. And the general rule of thumb is in your peak earnings years, you want to use tax deferred. Right. Other years, you want to use Roth. Well, it doesn't sound like you're in your peak earnings years yet. Sounds like you're going to get out of the military and make more money later. And so that means everything you're doing now should be Roth. And that's the general rule for most military members. It was such a lame thing when I was in. Right. We had the TSP. TSP is great. At that time, it was the cheapest 401 in the country. Even Vanguard and Fidelity didn't have these super low cost expense ratios. I think the expense ratio at 1 year in the TSP was like 0.025 or something. I mean, it truly was the cheapest one in the country. But they didn't have a Roth option the whole time I was in. That didn't come until after I got out, which was a real tragedy because military members often will have a pension that fills up those lower brackets, number one. Number two, they're not taxed that high. You know, a good chunk of your pay is allowances, this basic allowance for housing, basic allowance for subsistence. That's not taxed. When you get deployed, a big chunk of your income isn't taxed. Most of them, if they're smart, have chosen a state that doesn't have a state income tax. So they're not taxed. Right. So of course you want to use the tax free account. You know, military members almost always should be 100% Roth all the time. If they have some tax deferred money, they probably ought to convert it, which you are doing. So kudos to you. That's the right move. You do want to do a Roth conversion. How long do you want to spread it out over? That's up to you. Right. It is reasonable if it's a big conversion, to spread it out over two or three or four years. That's fine to do. Keep in mind, if it's sitting in a rollover ira, it's going to cause a proration of a backdoor Roth IRA if you do one of those each year. And so maybe you just wait and don't do the conversion step of the backdoor Roth IRA for three or four years, which is fine or whatever. But keep that in mind that if it sits in a rollover IRA for a few years, it will cause proration of any conversions that you do. It doesn't matter in the end, as long as you convert it all, it's all the same.

Yeah. Can he, like, transfer portions of it to the IRA and then convert it?

It's all about the 401, right? If the 401 lets you do these partial withdrawals, you know, if you're like, okay, I want to convert $80,000 this year, let's pull 80,000 out of that old 401k into the Roth IRA and that's it, that's what we're going to do. Great. And the next year you take another $80,000 out or whatever. Yeah, you can do that as long as the 401k allows it. They may say if you're going to take 80 out, you got to take it all out. 401s can have weird rules a lot of times.

That's true. It's very different.

But there's lots of opportunities in the military for some cool tax arbitrage stuff. When I got out, I had a bunch of tax exempt money after tax money basically sitting in my tsp and I pulled it all out along with all the tax deferred money. Then I put the tax deferred money back in because you're not allowed to put tax exempt money into the tsp. And so I still have a TSP in there, but I was able to get the tax exempt money out and convert that to a Roth ira. So lots of cool opportunities while you're in the military. Thanks for serving. You know, there's a reason you're in the lower tax brackets because we don't pay you that well to be in the military. So thanks for being willing to do that for us and defend our freedom.

Yeah, thank you so much.

All right, well, I think we're out of speak pipe questions. Is there anything else you're feeling like telling the audience today?

Athasia, Keep your head up, shoulders back. You've got this. We can help.

I like that at some point in our financial lives, it will be time to buy a home. A physician mortgage can be a good vehicle for a young doctor who's just out of school and has a more effective place to use their money than on a big down payment. These loans allow doctors to secure a mortgage with fewer restrictions and a lower down payment than a conventional mortgage. But if you're further advanced in your career or deeper into your journey to financial freedom, buying a home with a conventional mortgage and then later on potentially refinancing that loan to a better rate with a shorter timeframe could be a great move. Wherever you are in your financial journey, make sure you use the mortgage that will be most financially beneficial for you. Hop over to our recommended tab to learn more about all of your mortgage and refinancing options@whitecoatinvestor.com mortgage you can do this and the White Coat Investor can help. All right, thanks. For those of you who've been leaving us a five star review telling your friends about the podcast, we've got a recent one from Mindy Goo just this month actually. Said Great podcast, super informative and helpful podcast. I just saw the link for Pearson Ravitz, one of the advertisers on the website. I really thought he had been saying Pearson Rabbits. Oh no, I guess I need to pronounce myself a little bit better. But we do appreciate the five star review, so thank you for that and for spreading the word about the white coat investor.

Yeah, and sorry to Stephanie.

Well, for those of you who are at the conference, you're probably not listening to this. You're probably sitting in a conference class or out by the pool or something. But we do want to meet you. While you're here, come see us. And for those of you who are not at the conference, you can still come virtually. If you want, sign up@wcievents.com otherwise we'll try to package it up in a few weeks and you can get a hold of that content along with cme. Use your CME fund to buy that and otherwise we'll tell you all about it in one of these episodes after we come home from the conference. So thank you for listening. We'll see you next time on the White Coat Investor Podcast.

Keep your head up, shoulders back. You got this and we can help. Have a good day. The hosts of the White Coat Investor Podcast are not licensed account accountants, attorneys or financial advisors. This podcast is free entertainment and information only. It should not be considered professional or personalized financial advice. You should consult the appropriate professional for specific advice relating to your situation.