TRANSCRIPT
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#6 - Why the Right Questions Can Save Your Retirement
Wendy McConnell: Welcome to the Simply Retirement podcast with your host, Eric Blake. I'm Wendy McConnell. Now, we're talking about that quote. You're saying that what is more damaging is when somebody is sure of something that's not actually true.
Eric Blake: That's exactly right. When you think that ‘this is the way it is,’ and before it's too late, you find out you’re incorrect and it costs you, whether it's financial mistakes, tax mistakes, or whatever the case might be.
Wendy McConnell: That seems to be a big problem of late, right?
Eric Blake: It is, and it ties to today’s conversation. We're going to be talking about the ten questions you should ask your financial advisor. These are going to be a little different from what most people would think. There are a lot of resources out there. The Certified Financial Planner’s website has a list of ten questions. If you go to letsmakeaplan.org, they have great questions, too. But they're going to be centered around how the advisor gets paid and what services they offer. Those are all great questions, but what we're talking about today is more specific to an individual or a woman who’s going to be retiring soon or is recently retired. How does she know whether her financial advisor understands the implications, the distribution rules, and the tax rules around getting money out of her retirement accounts? That's going to be the focus of these ten questions: How do you know whether your advisor can help you in this area? I say it all the time, when it comes to working with a financial advisor or being a financial advisor, it's very difficult to specialize in everything. The questions that a 45-year-old may have are going to be a lot different than a 65-year-old’s questions. And that's what we're going to focus on today.
Wendy McConnell: I think one of the problems we have now is that financial advisors have gotten reputations like used car salesmen. There's a trust issue because people have been swindled. It's important to ask the right questions.
Eric Blake: Hiring a financial advisor can be really intimidating, especially if you either haven't worked with one in the past or there’s been a divorce or the client’s been widowed. In many cases, the husband is the one who handled a lot of this stuff, and now — when it falls on the woman's shoulders — you need to make sure you're asking the questions that you feel confident are going to get you the right answers and make sure you're on the right track.
Wendy McConnell: We want to be prepared both mentally and financially.
Eric Blake: Right, because from a financial planning perspective, retirement is such a different game. In many cases, you've got the emotional aspects. You've left a job that you've been in for 20, 25, 30 years. Now, you’re asking what do I want my life to look like? What am I going to be doing? How am I going to pay for it? You have the financial aspects that most people think about most: Do I have enough money? How much am I going to be able to live on? But the emotional component really comes into play too, because your money is going to be paying for the way you'll spend the next 25, 30, 35 years of your life.
Wendy McConnell: It's important to keep in mind that this is a whole different ballgame from when you're gathering money in the accumulation phase. You want to make sure that you’re with a financial advisor who understands all the rules.
Eric Blake: Absolutely. That's one of the things that we'll talk about. I want to outline these ten questions and where you can find them. They're out there.
Ed Slott is an industry guru for financial advisors, but also for the public. He has what he calls IRA help. That's his website, but he's on PBS. He's written numerous books and they're great resources. He also has what he calls his elite IRA advisor group, and these are advisors who have decided to work with him and his team. They get his expertise, and it comes with a lot of study. We meet twice a year for at least two days to talk about case studies tax law and distribution planning, IRA planning, all these different aspects, and they require that you take a quiz after these sessions to make sure you understand. It's really important that you have a financial advisor who understands what's going on and is staying up to date.
Wendy McConnell: What could happen if you're given the wrong type of information?
Eric Blake: Well, I'll give you an example. We had a client a few years ago. We had a relationship with a bank, and the bank had referred her because she had made a pretty sizable deposit into her account, and she didn't know what she was going to do with the money. She’d recently been widowed and didn't know what to do with these funds. She was supporting families. She had a daughter who was staying with her.
She had grandchildren, and she needed to figure out how to best manage this money.
We sat down and we found out that the money she’d deposited had formerly been in a 401K account. Who knows how it happened? Most likely a misunderstanding of how this stuff works. She’d been encouraged by the custodian to distribute the money so that she could use it.
There are a lot of problems with that. The biggest problem was that because she took money directly from the 401K, there was a mandatory 20% withholding on those funds. She took the distribution, and they withheld 20%.
And this was somebody who had very little income at the time. The amount of taxes was likely way more than it should have been, and she didn't have a choice as to how much to withhold, or if she wanted to withhold anything at all. So, the big chunk went to Uncle Sam, and she got what was left over.
Fortunately, because we met shortly after this distribution occurred, we walked through the potential solutions and she fell within the 60-day rollover period so she could take the money out of her bank account, deposit it directly into an IRA, and it was considered a rollover and no longer taxable.
Unfortunately, it happens quite a bit, not understanding the rules, paying the 20%. If you don't get that money put back into an IRA, it’s still taxable, even though it's already gone to Uncle Sam.
Wendy McConnell: And you can't get that money back?
Eric Blake: You can get it back if you roll the money back into an IRA within 60 days. And when you file your tax return you can get a refund on that 20%. But most of the time, the timing doesn't work out perfectly and you’ve got to come up with that money from somewhere else, from savings or wherever it might be. You have to come up with that 20% to make the rollover whole.
Let's say you had $100,000. You take a distribution from the 401K so you can deposit it in your bank account. You have a $100,000 check, but 20% gets withheld immediately, so what you actually receive is $80,000.
If you can come up with $20,000 and put $100,000 into an IRA within that 60-day window, none of that amount is taxable. Now, consult your tax advisor, all those good disclaimer things that we have to throw out there, right? But if you can get $100,000 back into an IRA within 60 days, then that amount is no longer taxable. For her, she wasn't aware of she wasn't aware, and she was told by this firm that liquidating was her best option. Take a full distribution so you can spend the money. In many cases, that's not the best option. At least evaluate other options first. She could have just rolled it directly into an IRA herself and avoided the whole 20% mishap.
Wendy McConnell: So for argument's sake, what if we don't have the extra $20,000 and can only roll over the 80? Does that mean we just lose that 20%?
Eric Blake: You don't. Let's use the same numbers that we were talking about before. Take a distribution of $100,000, get a check back for $80,000 and $20,000 has gone to Uncle Sam. If you're in a situation where you can roll that money into an IRA, the $80,000 is no longer taxable, but the $20,000 is still a taxable distribution. Anything you can put into an IRA within 60 days is no longer taxable and whatever you can't remains taxable. If I can put $50,000 in, that leaves me $50,000 that has been distributed and is going to be taxable. The worst part for her was the amount. It can push people into higher tax brackets.
Wendy McConnell: So just to clarify, if I get the check for $80,000 because the government has taken $20,000 and I decide I'm going to roll over the $80,000 but I can't come up with the $20,000 that's already been deducted, are you saying that when I do my taxes the following year, I’ll get money back?
Eric Blake: They taxed you on $100,000. You put $80,000 into an IRA, that’s no longer taxable. The $20,000 is still taxable but may push you into a higher tax bracket. You’re going to owe taxes on the $20,000. It depends on your tax situation as to what the final implications are going to be, so you would have to wait until you file your tax return to get any potential refund you might be owed. That’s if you could complete a 60-day rollover.
Wendy McConnell: Boo. That's how I feel about that. Okay. Let's get into these questions, Eric.
Eric Blake: All right, so we know retirement income planning requires specialized knowledge in IRA distribution planning because, for most people, their IRA is their 401K. It’s their largest retirement asset. The very first question you should ask an advisor is whether they have expertise in this area, and what proof do you have that that you’re an expert, that you specialize in retirement distribution plan or IRA distribution? Ask the hard questions. There's nothing wrong with that.
Ask, “How would I know? What books have you read? What books do you read on the topic?” You know, there's continuing education for financial advisors. If you're not staying on top of changes and tax laws, you're falling behind. You're probably going to miss something. Going back to our quote, if you recommend something that isn't accurate, you might have trouble of your own. It's a matter of understanding. If you’re interviewing me as a potential financial advisor, ask what books I’ve read. The other thing I would say is to look at the books to see if they look like they've been opened recently. If they’re pretty stiff, like they haven’t been opened a while, you might want to wrap it up pretty quickly and say let me go talk to somebody else. Those books don't look like they've been cracked in a long time.
Wendy McConnell: You're also looking for some professional training, right?
Eric Blake: Absolutely, ask what continuing education are you pursuing? It's okay to ask those types of questions. I'll use my example again, where twice a year we're attending two-day meetings, sitting in a classroom talking about tax law changes, talking about implications of different scenarios.
We'll talk about Secure Act 2.0 and Secure Act Original Secure Act, Super Secure, Act 2.0. All these different things that sound crazy but that your adviser needs to understand, and you need to have confidence that your advisor understands.
Wendy McConnell: I was in the insurance business for the blink of an eye, and part of the upkeep of having my license was continuing education. Is there anything like that when it comes to financial advisors?
Eric Blake: Yes, specifically for financial advisors. There's always some level of continuing education. In my case, as a CFP-certified financial planner, I've got 30 hours every two years that I have to do, and there's an ethics course that's involved too. But back to the questions, if I'm going to be a specialist in retirement distribution planning or IRA planning, what am I doing as far as continuing education specific to those areas?
If you're interviewing a financial advisor, have them identify what they’re doing to stay on top of tax laws, IRA laws, all these different changes that we've seen change in the last few years. What are you doing that's going to help me? Because ultimately, it's about you knowing that this advisor is going to have the expertise and knowledge to guide you through the decisions you're going to have to make.
Wendy McConnell: Do you feel like every time you finally get it down, they go and change everything and you have to start all over again?
Eric Blake: I call that job security. A lot of times we have a do-it-yourselfer, our clients are very intelligent and there are aspects they most likely could do on their own. But do they have the time, and do they want to do the work to understand the tax laws? There have been some significant changes in the last couple of years, just since 2019, and again. When Congress is making these decisions, when we get politics involved, that changes the whole ball game, and then you have the IRS trying to interpret what Congress’ intentions were. I can give you all kinds of stories about the craziness of some of the tax laws that are going into effect right now in 2023 as a result of Security Act 2.0.
Wendy McConnell: So let's just state the questions, for the record.
Eric Blake: Number four is, “How do you stay current on key tax laws, and what services and resources do you rely on to stay up to date? Can you show me an example?” I've got a 210-page booklet that was the content we went through in our last two-day meeting, all updates on the tax laws. A lot of it is examples so you can recognize a scenario when you see it.
Wendy McConnell: And number five is, “What is the latest IRA tax rule you’re aware of and when did it occur?” Let's talk about number six.
Eric Blake: Number six is, “How do you determine the best option for my lump sum distribution and what are all my choices?” There are situations where the lump sum distribution goes directly from the 401K to my bank account. There are certain tax implications with that. There's also a lump sum distribution where I roll that money directly from my 401K into an IRA. That's called a direct rollover and it doesn’t have the same tax implications as in the first scenario. The 60-day rollover rule that I talked about. Somebody may have a pension where they've got the option of taking a monthly income or possibly a lump sum rollover, so how do you determine what makes the most sense for any particular individual? These are all things we need to consider when we think about your best decision around retirement income planning.
Wendy McConnell: Knowledge about beneficiaries is pretty important.
Eric Blake: It is, especially when you think about women who’ve been divorced or who've been widowed or they're single for whatever reason. The beneficiary decision is different for different people. Some are going to make their spouse their primary beneficiary. Others are going to make their children their contingent beneficiary. A lot of these new tax laws, and specifically the Secure Act, original Secure Act, and Secure Act 2.0, there are a lot of different rules that have to be followed when it comes to children being beneficiaries because, if you're divorced or widowed, in many cases it’s your adult children who are now going to be your primary beneficiaries, and we need to understand the implications.
It's also important that you have beneficiaries. What is your advisor doing to make sure you're keeping those current? What would trigger a change in beneficiary designations? Is it a divorce? Is it being widowed? Are we staying on top of those things? In our case, we do what we call value adds where every quarter we're looking at some area for every single client, some planning topic.
It could be a tax projection. It could be updating their retirement income strategy. Every couple of years we do a beneficiary review where we take your beneficiaries based on the dollar amount that's in your IRA. Let's say it's a $200,000 or $500,000 IRA and you've got two children and they’re 50/50 beneficiaries. We put a dollar figure on it so it becomes more real and you're aware of what they are, and we can revisit those designations, ask, “Should I make a change for whatever reason?”
We have family members who passed, and leaving a deceased family member as a beneficiary can cause significant issues when it comes to settling an IRA account or passing assets on to your family. That’s why we have a process.
Wendy McConnell: Number eight would be asking about the IRS life expectancy table.
Eric Blake: A lot of these changes have happened in the last couple of years. The life expectancy tables deal with required distributions. We originally had the required beginning date, for most people it was at age 70.5 that you had to start taking money out of your pre-tax retirement accounts. The Secure Act changed that to 72. The life expectancy table is designed to help you know how much you need to take out each year. Now Secure Act 2.0 extended it even further. Now it's between 73 and 75, depending on your year of birth, but you still have those life expectancy tables. Now, to throw a little wrench in that, if you inherit an IRA from a parent, you've got different life expectancy tables based on whether you're an individual who's inherited an IRA account, whether you're the IRA owner themselves, whether your spouse is more than ten years younger than you are.
There are different required distributions, different life expectancy tables based on the scenario. That's the importance of that question. It goes back to whether this advisor understands how all this works and can they show me these important details? And it's not that they have to explain it necessarily, but do they know what they are? Could they show me an example? That's more of what you want to know.
Wendy McConnell: You mentioned that question nine is, “What will happen to my IRA after I die?”
Eric Blake: That's so important. For many of our clients, especially if their children are their beneficiaries, that's a huge factor. We talk a lot about living the retirement that you deserve, and we want you to enjoy your retirement. But a big factor for our clients is what happens when I'm gone? Is this going to go to my family? How much trouble are they going to have getting that money? In many cases, we have to have that conversation about what it will look like when they pass away? How difficult will it be for them to get this money when the time comes?
In many cases, it's how do they get the money in the most tax-efficient way? Most people don't want to pay Uncle Sam when they're alive, and they sure don't want to pay him when they're gone. So, what's the most tax-efficient way of passing assets on to my beneficiaries? That's where the stretch concept comes in. How do we most effectively transfer assets to the people we care about most?
Wendy McConnell: And number ten is a very important question, correct?
Eric Blake: It is. It’s “Who do you turn to when you have questions on distribution planning?” Again, I have no problem admitting that I don't know everything. I do a lot of research. I do a lot of study. I read a lot of books. I go to a lot of continuing education sessions. But it's impossible to know every single thing out there. You want to know that your advisor is willing to say, “I don't know.” Hopefully, this isn’t a turnoff, but I would have serious concerns about fit if a client expected me to know everything.
Wendy McConnell: Once you get everything down, they go and change everything, so there's no way you could know.
Eric Blake: But you need to know where to find the answer. That's the bottom line. Where would you go to get an answer to a question that you don't know? What are the resources you're going to go to, what books, what resources, what other people can you turn to or will you turn to to answer these questions on distribution planning when they come up?
It can be intimidating for anybody, and then they're going to sit down to interview a financial advisor. I don't necessarily like the comparison between financial advisors and doctors. Colleagues of mine call me a money doctor, and some people get intimidated when they talk to their doctor because they think they've done all this studying and they know all this stuff, so they may just follow the advice. But be willing to ask the hard questions. Go into that meeting with a little more confidence because you have a list of questions. I think it's going to be much more productive.
You're going to have a better chance of finding the advisor that's best for you if you can go in there with some confidence, with some questions, and understanding that the answer to those questions is going to go a long way toward helping you determine whether this person is a good fit for me and what I need.
Wendy McConnell: And that's whether you’re looking for an advisor or even if you want to talk to the advisor you currently have.
Eric Blake: Yeah. never be hesitant to revisit questions of your current advisor. Maybe you've worked with them for ten, fifteen, twenty years, but now you're 60 years old, you're a few years from retirement. You want to know whether they have the skill set to help in that next phase of life. If you don't know what questions to ask, it’s going to be very hard to understand whether they have that type of expertise.
So that's really my objective today, sharing ten questions you can use to feel confident as you transition into retirement. Do I have the right financial advisor for me and my situation today?
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