How Many Errors Can YOU Spot?

[Ron Van D]

If they don't know what to major in, they should just get their general education courses out of the way at a community college. Universities (and their costs) are for serious students... not for "finding yourself".

It's been said, "I'd rather have them sleeping at my house during their college years than me sleeping on their couch during my retirement years".

I'm not a big fan of paying for college for the kids. I see no sense in jeopardizing your own future just so your kid can get a better paying job. (Heck, my son was making 30 grand cleaning carpets while he was in college, 55 grand after he got out - didn't need a college degree for that!)

Life has changed over the years. Folks used to retire at 65 and have the courtesy to die by 70. Now I run into folks who have been receiving a pension longer than they worked for the company (recently met a man who has drawn a pension for 22 years, after working 20 years for "the man". With life expectancies rising, the first priority should be taking care of ones "Golden Years".

 

[scagnt83]

Do we really want to get into a debate of the intricacies of 401k plans?

1) Maximum loan available: $50,000. Take out the loan, and it reduces the amount that's left for compounding (or losing) with the selected asset allocation.

Repayment of said loan... is with after-tax dollars which are taken out of the employee's paycheck. If employee leaves... loan is "called" within 60 days, or it is deemed an early distribution and a 10% penalty on the balance.

I know you didn't bring that up, but I thought I'd start with that. So, if we're talking about the efficiency of a 401k plan for an employee, this is a vital disclosure that most people may not think about.

And I'm pretty sure that a 401(k) loan is not considered reported income when filing for FAFSA for the subsequent year because it's a loan, not "income".

2) Maximum # of loans: Last I checked, 401k plans only allow 1 type of loan at a time - personal and residential and a maximum total outstanding loan of $50,000. So, if we're going to compare liquidity provisions... let's be sure we get it ALL out of the table. You'd have to have no current outstanding personal loan in order to obtain a new maximum loan. Don't get smaller loans, unless you can repay it and then obtain a higher loan amount.

3) Yes, your BALANCE in the 401k plan will be higher - probably for the first 10 years compared to a permanent life insurance policy. So yes, there may be more CAPITAL available for the reasons you mentioned. That doesn't mean it's a smart source to borrow from.

If they WITHDREW the money from their 401k plan - under a hardship provision, to NET $50,000... they'd probably have to liquidate an additional (mandatory) 20% for federal withholding ($60,000) and a 10% penalty (make it $66,000). (10% Penalty applies to 401k, but not to traditional IRA.)

If we want to use the same calculation, $66,000 at 7.2% for 20 years = $264,000. Yet, compounding in a fully taxable vehicle, all $264,000 will be fully taxable income when distributed in retirement.

My point was not about loans or hardship withdrawals (it is a 10% minimum federal withholding for hardships, and a $10 minimum for state). And yes you are correct that you may take only 1 loan at a time.

I was not advocating using a 401k to help fund college. 401k funds should be deferred until retirement and not used for anything else.

My point was simply that comparing $20k pretax vs. $20k after tax is not an apples to apples comparison without adjusting for the pretax benefits.
$20k after tax is the equivalent of $25k pretax.


Obviously the 401k makes more sense for a higher earner than it does the average joe. But the AGI reduction is not to be taken lightly.
For a couple making $100k household income; if they max out 401Ks ($36k), that would take them from a 25% bracket down to a 15% bracket.

The combined savings of the AGI reduction and the tax bracket reduction would take them from $25k in taxes owed down to $9,600 in taxes owed.

That means the 401k contributions free up an extra $15,400 in income!

So instead of "not maxing out a 401k".
Max out a 401k.... then put the extra $15,400 those contributions create into an IUL or WL!!


Think about it in college funding terms. Max out the 401k for retirement. Then that creates an extra $15k for college funding in whatever funding vehicle you choose...

 

[wln417]

Boy the cost of living in SC must be very low.

$100,000 income minus $36,000 for 401k minus $9,600 for taxes leaves them with $54,400, and you're going to take another $15,400 for an IUL? What did I miss?

 

[scagnt83]

Boy the cost of living in SC must be very low.

$100,000 income minus $36,000 for 401k minus $9,600 for taxes leaves them with $54,400, and you're going to take another $15,400 for an IUL? What did I miss?

It was just an example... I used $100k to make the math easy.

My point is that with the 401k there is $69,800 after taxes/investments, vs. $39,000 after taxes/investments if you go the after-tax route.


The main point is that contributing to the 401k frees up extra income vs. after-tax savings that does not, especially if it drops their tax bracket.

$12,500 pretax is equal to $10,000 after taxes.
8% tax deferred is 8%.
8% taxable is around 6.5% after taxes. (assuming 15% fed & 5% state cap gains)

 

[DHK]

My point was not about loans or hardship withdrawals (it is a 10% minimum federal withholding for hardships, and a $10 minimum for state). And yes you are correct that you may take only 1 loan at a time.

I was not advocating using a 401k to help fund college. 401k funds should be deferred until retirement and not used for anything else.

My point was simply that comparing $20k pretax vs. $20k after tax is not an apples to apples comparison without adjusting for the pretax benefits.
$20k after tax is the equivalent of $25k pretax.


Obviously the 401k makes more sense for a higher earner than it does the average joe. But the AGI reduction is not to be taken lightly.
For a couple making $100k household income; if they max out 401Ks ($36k), that would take them from a 25% bracket down to a 15% bracket.

The combined savings of the AGI reduction and the tax bracket reduction would take them from $25k in taxes owed down to $9,600 in taxes owed.

That means the 401k contributions free up an extra $15,400 in income!

So instead of "not maxing out a 401k".
Max out a 401k.... then put the extra $15,400 those contributions create into an IUL or WL!!


Think about it in college funding terms. Max out the 401k for retirement. Then that creates an extra $15k for college funding in whatever funding vehicle you choose...

Last time I checked, we had progressive income taxation with various tiers of brackets.

$100k may be in the 25% bracket... but 25% bracket does NOT mean you are paying $25k in taxes.

First, you have the standard deduction of $12,600 for MFJ.

MFJ Tax Brackets:
If taxable income is not over $18,450... your tax is 10%

If taxable income is over $18,450 to $74,900... your tax is $1,845 + 15% of excess over $18,450.

If taxable income is over $74,900 to $151,200... your tax is $10,312.50 + 25% of excess over $74,900.

I'll stop there.

The 25% tax bracket only affects the income above $74,900. So, if a MFJ couple was earning $100,000... only $25,100 of income is affected by the 25% bracket = $5,025 in taxes... not $25,000 on $100k of income.

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So we take $10,312.50 (tax owed on income up to $74,900) + $5,025 (tax owed on amount over $74,900) and subtract the standard deduction of $12,600 = $2,737.50 NET TAX.

Let's not forget mortgage interest tax deduction and child tax credits... and we have to ask ourselves... WHAT TAX?

Why defer taxes now? You could effectively be in a 10% bracket right now!

Yet, when pulling money out of a qualified plan in retirement... it's fully taxable with (hopefully) no dependent offset and if your mortgage is paid off, no interest deduction.

Of course, we haven't discussed the volatility of the underlying investments in the qualified plan either.

 

[scagnt83]

Obviously I was being overly simplistic to make a point and keep math easy so I could do it all in my head quickly.

Anyway you go about it the 401k frees up extra income. Any comparison you make using pre vs. post tax is not a fair comparison unless you account for the front end benefits of the pretax contributions. That was my point.

You can nitpick my purposefully over simplistic math all you want... but I can go back and adjust numbers to make it work out with the same benefit.

And my point is investment neutral. If you really want to get into the nitty gritty numbers throw a match on that 401k, then account for the reduced contributions after-tax... then we can talk.

Again, you know as well as any on this forum that I am a fan of permanent life. But my point is not about 401k vs. life insurance.
And even if you do compare the two they actually come out pretty damn close in the end. Even in an income scenario if you use a SPIA or IA/Rider.

But in a roundabout way I was trying to give you a sales idea on how to possibly free up funds to put into an IUL. I dont think it should be an "either/or" argument. (assuming they are the correct type of prospect)

 

[DHK]

That's okay... cause I felt nitpicked too.

But there's a difference between talking about pre- vs post-taxes and saying there's a $25k tax on $100k.

For a working family, taxes aren't much of an issue... so deferring them doesn't really make sense, unless you're in a much higher bracket and phased out of a lot of the deductions available.

 

[scagnt83]

That's okay... cause I felt nitpicked too.

But there's a difference between talking about pre- vs post-taxes and saying there's a $25k tax on $100k.

For a working family, taxes aren't much of an issue... so deferring them doesn't really make sense, unless you're in a much higher bracket and phased out of a lot of the deductions available.

I wasnt trying to beat you up. But generally speaking the pretax advantages are often overlooked. Especially here on the forum.

And most "working families" are getting tax refunds and not paying taxes at all other than 7.5% FICA. So you are correct!
If you dont pay income taxes then a match is the only real benefit of a 401k.

For people who actually pay income tax it makes a lot of sense... even if that is only about 30% of the country... lol.

 

[DHK]

BTW, I also don't discount qualified plans when there is a match on contributions... as long as there's a REAL match. (At least 50c for every $1.)

The match, as we know, is deductible by the employer as a business expense.

But as we look at the future taxation of that plan for an employee, I look at it this way:

Every $1 adds an additional 50c = $1.50. Employee contributes 2/3 of that and the employer adds the additional 1/3.

As long as your anticipated taxes will be less than 33% in retirement... this is a good deal. Essentially, your employer is paying your taxes in retirement on this retirement fund. It simply "passes through" the account, and you might get to keep a portion of it too. It just depends on what taxes look like in the future. Your own contributions and growth come out "tax free" as long as the employer's match is paying the taxes.

But does it make sense to put in more than what the company matches? Probably not, because that amount will be hit with the higher taxes on distributions... so I'd recommend a tax-free account.

 

[HoosierLife]

Okay so you guys got to take this down and put on the lower shelf for an FE person like myself.

I get the leave in the money in the 401(k) until retirement. I understand why it's more important to save for retirement first than fund for college.

I need somebody to explain to me the ins and outs of using a UL or WL policies cash value for this purpose.

Also, would healthy issues affect the strategy at all? I'm in decent health but I am overweight, which would write me up and make my premium is higher. And my wife had cancer for years back, so that's going to make finding her insurance difficult anyway.

What about insurance for the kid? I was planning on purchasing a 10 or 20 pay $50-$100,000 whole life plan for the kid anyway.do they have a cash rich permanent policy that would be good in the situation?

And then so is the idea is that you take loans out against the policy and pay it back with whatever funds, plus the interest? How is that actually saving for college? If I have to pay the money back in it's got to come from somewhere.

Or am I putting money into this permanent policy instead of putting it into a 401(k) or 529 or whatever 500 policies these other financial advisors you're talking about?

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BTW, I also don't discount qualified plans when there is a match on contributions... as long as there's a REAL match. (At least 50c for every $1.) The match, as we know, is deductible by the employer as a business expense. But as we look at the future taxation of that plan for an employee, I look at it this way: Every $1 adds an additional 50c = $1.50. Employee contributes 2/3 of that and the employer adds the additional 1/3. As long as your anticipated taxes will be less than 33% in retirement... this is a good deal. Essentially, your employer is paying your taxes in retirement on this retirement fund. It simply "passes through" the account, and you might get to keep a portion of it too. It just depends on what taxes look like in the future. Your own contributions and growth come out "tax free" as long as the employer's match is paying the taxes. But does it make sense to put in more than what the company matches? Probably not, because that amount will be hit with the higher taxes on distributions... so I'd recommend a tax-free account.

Well then that's another question I have. My wife's employer matches up to five percepts and her 401(k). And I have been wondering where we should put additional money into other than the 401(k). What are some good text free accounts?