(Complete Show Notes Below)
In the 52nd episode of the Financial Procast:
Here we go again, slaughtering sacred cows. Of course, if you followed us for any length of time none of this will come as any great surprise to you.
You don’t have look far and wide to find financial talking heads extolling the virtue of using your 401k to stash away money for your retirement. Frankly, it’s sort of nauseating.
And I suppose I shouldn’t just single out 401ks as being way over-hyped because the same zeal also applies to all other types of qualified retirement accounts. The financial media LOVES these things. They’re always talking about the power of tax-deferral, the “free money” your company gives you…yada, yada, yada.
This debate sits front and center for us.
On a regular basis we work with people who are at retirement or rapidly approaching that time. And they realize as they stare into the abyss the impending tax liability that faces them.
Please believe us when we tell you, the psychological and emotional impact of this should not be underestimated. Money is emotional and writing big, fat, juicy checks to Uncle Sam brings out the worst of the emotions.
For many folks, the tax refund now turns into a substantial tax bill.
Conventional Wisdom is Bogus
The most common mistake we see other financial planners and individuals make is to assume that after retirement you will be in a lower tax bracket. While it may be true in some instances, more often than not, we just don’t see it.
And I will add, this is in our experience at a practical level…not hypothetical. Unfortunately too many advisers only seem to work in textbook hypothetical scenarios.
Do you really want your plan to be that you will have less income when you retire? Why would you plan to have less?
If conventional wisdom actually works, you won’t have just the money you put in the plan, you’ll have those dollars plus all the dollars that get added to the pile through appreciation, interest etc. along the way. So, that means you’ll be paying taxes on a much bigger pile o’money.
Don’t Discount Risk
Another common tenant of using qualified retirement plans is to project out into the future using a hypothetical rate-of-return—typically we see people using 8-10%(which is ambitious).
To even approach getting those type of returns, you’ll have to take on a substantial amount of market risk. That means over the years you’ll have to get comfortable with some degree of volatility that’s associated with the stock market.
If you survive the wild ride and your balances come out exactly where you projected, why would you want to give a substantial amount of that money to the government?
You took all the risk and now you’re going to give them half of it? Doesn’t seem like such a great deal to me.