.
Feedback

New Year's Resolution: Double Your Money (Legally)

Wouldn't it be great to start the New Year with a way to double your money? Especially if this technique is legal, quick and simple?

 

Wouldn't it be great to start the New Year with a way to double your money? Especially if this technique is legal, quick and simple?

This idea is no secret: it's called a corporate matching contribution.

Let's say that your boss comes to your office and gives you two choices:

a. Your company pays you an annual salary of $100,000, OR

b. Your company pays you an annual salary of $97,000, but it also deposits $6,000 into your retirement plan.

Which choice would you make?

If money is tight (especially if your salary is much less than this), you might find it very difficult to accept the lower salary. There are many, many people who are living on the edge, one paycheck away from disaster.

However, if you can accept a slightly lower salary, then the second choice makes much more sense. Your salary drops by $3,000, but your net worth increases by $6,000. You've just doubled your money!

To make the deal even sweeter, our tax code encourages you to choose the second option. Remember that your $100,000 salary is immediately taxed; you take home significantly less after Washington and California get paid. By contrast, the $6,000 deposited into your retirement plan will not be taxed until you withdraw it in the future, hopefully during retirement. And because your salary now drops to $97,000, your current income taxes are a little lower as well. There are only three requirements to make this work:

1. Your employer has to offer a retirement plan (such as a 401(k), 403(b), or 457) to its employees. According to the Bureau of Labor Statistics (2010), about 60% of companies offer these plans.

2. Your employer has to offer matching contributions. About half do; the median match is 3%.

3. You have to contribute to your retirement plan. This is the hard part that trips many people up. You have to be willing to forego the $3,000 (as in our example above).

Here are three ways to make this hard part easier:

1. Do you have any savings? (Credit card availability and home equity lines of credit do NOT count. I'm referring to a real account at a bank, mutual fund, or brokerage.) If so, here's a trick. If your salary shrinks by $3,000 (as in the above example), that means your take-home pay  drops by roughly $2,000 (because your company withholds for federal and state income taxes). Take $2,000 from your savings every year and use it to pay expenses. While your savings balance drops by $2,000, your retirement account balance increases by $6,000. Now you've tripled your money! (Tax caveat here: you will eventually be taxed on the $6,000 in your retirement account. But the key word here is "eventually.")

2. Will you receive a raise or bonus soon? If so, can you take this extra money and steer it all into your retirement plan? This way, your take-home pay remains unaffected.

3. Does your spouse or partner work for an employer with no retirement plan match? If so, (gently) suggest that it might be better for you to receive a corporate match instead. Hopefully, you will both benefit down the road!

There are very few free lunches in this world. Corporate matching contributions are one of them. Don't miss out on an easy way to double your money...legally!

 

Lou Dagen is a Certified Financial Planner in the San Francisco Bay Area. For 23 years, he has helped clients around the world retire in comfort, educate their children, and increase their net worth. If you have questions that you like answered in future blog posts, please comment below. Or call Lou directly at 925-997-8507.

Lou Dagen, CFP, ChFC January 8, 2013 at 01:38 pm
Hi John, you're asking great questions! Here are my answers (and some additional comments):
1. You would need a sinking fund of about $1.4 million to generate $100K per year for 30 years, or about $2.1 million to generate $150K per year. These numbers are both pre-tax and not adjusted for inflation, and assume a flat 6% return. 2. You didn't ask me this, but assuming you started saving today for either of these retirement annuities, you'd need to save about $5,000 monthly for the former, or about $13,000 monthly for the latter. Same parameters as above. 3. I think the heart of your questions is: since stock market performance has been so poor over the last twelve years, are pension (annuity) projections feasible? The answer is no, and that's why (as Fred Eriger also discussed) so many public entities are having such problems. 4. May I respectfully suggest that you're making three common errors in your assumptions. (1) You're not including dividend in your stock market return calculations, which make a big difference over time; (2) the S&P 500 was very tech-heavy in 2000 because of the tech bubble, so I wouldn't (and didn't with clients) use the index blend you posted; and (3) long-term investing means we can't cherry-pick starting dates. Look at performance starting in earlier years, and you'll see a big difference in performance. Keep the good questions coming! --- Lou
Lou Dagen, CFP, ChFC January 8, 2013 at 01:44 pm
John, you hit the nail on the head. Pension plans make certain assumptions (for example, 7.75% annual return net of fees) which may be unsustainable, or need to be radically altered based on actual performance. I remember back in the late 90s, when the stock market boomed for five years in a row (1995-99), plans were sometimes assuming 20% market returns forever. Remember the best-selling book, "Dow 100,000?" :-)
May I ask you to see my comments from Chris Nicholson's post above? This is why I don't project any returns for clients, and instead, focus on what we can control. Rough job? It depends. I've been doing this a long time, and my compliance record is spotless -- I've never had a client complaint. I've guided clients through a lot of bad markets, and I know what works and what doesn't. While markets change, the basics never do. (Please see my response to Chris about what the basics cover.) --- Lou
Lou Dagen, CFP, ChFC January 8, 2013 at 01:57 pm
Hi Fred, I develop financial plans and manage clients' assets. I'd also tell the 80-year-old that I can't help him.
In my experience, when clients are looking for income, they don't want to take any great risks. Therefore, the no-load mutual funds I invest in tend to be conservative. Looking at my client's portfolios, their funds are currently yielding between 2% and 6%. Some of this interest is tax-free, but still, they're not sexy yields. In this era of low interest rates, 7-9% interest is either (1) in low-quality bonds (2) leveraged (3) higher-risk real estate or (4) fraudulent. This is why I cautioned you about JTA. You'll notice that over the last two years, your quarterly distribution has stayed roughly the same, but 2/3 of the money from your original investment is being returned to you every time. Your true yield therefore isn't really 7.9%. Illegal? No. Misleading? Yes. In your example above, I'd ask the 80-year-old another question. Does he want to amortize (spend down principal) to maintain his quality of life, or does he want to leave as much as possible to heirs and/or charities? This one answer would tell me his true priorities, and what he really wants his assets to do. As a planner, that's more meaningful than shooting for the highest potential return. Hope this helps, and keep the good questions coming! --- Lou
Lou Dagen, CFP, ChFC January 8, 2013 at 02:04 pm
John, you're right, it's a big problem. Government's rationale has been that public-sector employees have lower salaries, and don't benefit from stock options, profit-sharing plans, and the like. They therefore need to receive money on the back end, when they retire.
As you know, the problem comes when officials, whether for good reasons (trying to help people retire) or bad (trying to buy votes, contributions, and influence), over-promise and under-deliver. I don't know how to solve this. For many years, I've told young-ish (under 50) clients who have higher ($150K+) incomes, to assume that Social Security will be means-tested, and therefore unavailable to them. I hope I'm wrong, but I don't know what else government can do. (Barring radical changes, like allowing unlimited immigration of working-age foreigners, drastically raising Social Security taxes, etc.) --- Lou
John January 9, 2013 at 12:14 am
Thanks Lou....Everything you present is well thought out and wish you the best of the New Year . Good Luck in your practice.
Lou Dagen, CFP, ChFC January 9, 2013 at 12:30 am
Thanks John, best wishes for a happy and healthy new year for you and your loved ones. --- Lou
Bigmike January 9, 2013 at 11:10 pm
Lou, this has been one of the best reads in the Patch in a long time and hope you stick around for a while. Now I got question, I have allways been curious on how i compare to others as far as value of my 401 K plan. Would you happen to know the average value in a 48 year old's 4101k plan??? And how much the top 10% of 48 year olds have in there accounts??? I seen some website long ago and it was goverment run I think it it had a lot of statistics like what I have asked but it was confusing and hard to understand....maybe you got an answer or opinion.....
Lou Dagen, CFP, ChFC January 10, 2013 at 12:38 am
Hi Mike, thanks for your kind words! This was my first post, and because of its reception, the Patch has asked me to teach a new financial topic, with Q&A, every week. New material will show up every Friday at 11:00, and is running in 35 cities via Patch. My next post discusses an easy way to get rid of non-deductible debt.
To answer your question, according to Fidelity, as of September 30, 2012: Average 401(k) balance: $75,900 (for ages 50-54, average is $110,600) Average annual contribution: $7,900 (which is 8% of pay) (ages 50-54: 9% of pay) Average annual corporate match: $3,420 Sorry I couldn't find anything specifically for 48-year-olds; ages 50-54 was the best I could do. Also, I couldn't find anything on the top 10%. Mike, may I respectfully suggest that the average balance may not be relevant for you? Take a look at the average contribution rate (9% of salary for workers a little older than you), and perhaps you could use that as a guide or target instead. I've always suggesting "tithing" 10% to oneself first, before all other expenses. There are so many other variables (cost of living, dependents, other assets, etc.) that I'm not convinced that average balances are that important. Doing the best you can, saving as much as you're able, keeping a positive spirit ... those are better measures of success than a number on a statement. Hope this helps, and thanks again! --- Lou
Fred Eiger January 10, 2013 at 12:51 am
True about JTA Lou, most of the closed end funds use some leverage to pay their distribution. The key is to buy these funds when they are trading at discounts to net asset value (NAV), and while they have a good yield. When they trade up to a premium, then you sell them for a profit, plus you keep all the income that you earned along the way. JTA's NAV is $12.05. I own a lot of JTA, but prefer to buy it when it is trading under $10.50. It pays .22 per Q, or .88 per year. Therefore, if I buy it at $10.25, I get an annual cash flow of 8.6% (.88 divided by my purchase price gives me the yield), and I own it at a 15% discount to what it's worth. These things change prices every day, so you need to grab them when they are cheap.
Lou Dagen, CFP, ChFC January 10, 2013 at 01:39 am
Hi Fred, I understand your point, but (I mean no disrespect here), you don't understand what's going on under the hood of JTA. Please let me show you what you're missing.
JTA closed today (Wednesday) at $11.15 per share. You're correct that its last quarterly distribution, on December 12th, was for $0.22. Multiply that by four quarters, get $0.88, divided by $11.15, equals an annual yield of 7.9%. So far, so good. However, here's what you're missing. Of that $0.22 quarterly distribution, $0.1344 was a return of principal. That's neither income nor yield. Therefore, your true yield is much lower. Via subtraction, your income distribution is $0.0856 per share. Multiply that by four quarters gets you $0.3424, divided by $11.15, gets you a true yield of 3.1%. I feel that it's not worth it. The Barclays U.S. Aggregate Bond Index is currently yielding 2.7%, and more importantly, it's not leveraged. I can buy this index via a no-load index fund. Since JTA has 2/3 of its holdings in stocks, I can buy an S&P 500 index fund (with a ~2.1% yield), and mimic JTA, but pay literally one-twentieth what you're paying Nuveen. By the way: look at JTA's history, and find its highest premium over its NAV; you may be surprised. To everyone else: as I said in previous responses, be VERY careful in this low-interest environment, when someone offers you something with a high yield. Sometimes, things are really too good to be true. --- Lou
Bigmike January 10, 2013 at 02:22 am
Lou, those numbers are what I was looking for. I was curious on am I doing ok with savings in my 401k,or great, or mind blowing. After 25 years of saving and my company match.....I'm sitting in the cat bird seat! Can't wait for your next column and more especially the comments....there is lots to gain from reading folks questions and opinions and banter.....thanks again.
Lou Dagen, CFP, ChFC January 10, 2013 at 02:26 am
Hi again Mike, sounds like you're doing great -- congratulations!
Since this blog was about corporate matching, would you feel comfortable sharing the percentage, and the maximum amount, your company contributes to your 401(k)? (Don't mention the company or give your specific account balance, of course.) I'd like other readers to get a sense of how valuable this benefit can become. Thanks again for your good wishes, and keep the good questions coming this Friday! --- Lou
Fred Eiger January 10, 2013 at 10:20 am
That's why I buy JTA when it's trading between $10.25-$10.50 and sell it at plus or minus $12. There's the risk and rewards factors. But, with this higher capital gains kicking in, these types of investments need to be kept watched at close range.
Bigmike January 10, 2013 at 03:05 pm
Sure will Lou.....Started working in 1987 and the company made us wait a year before we could enroll in the 4101K plan. For the first 10 years or so, it was truly profit sharing. The company contributed to our plans quarterly and it was based on profits so it fluctuated every quarter. We had bad quarters ( 2 %) and great quarters ( 30 %)....Imagine, 30% of your pay for the quarter was going into your plan!So now the plan is set up that if you contribute 1% of your pay the company contributes 4%. If you contribute 2%, they will contribute 8% and it tops at at that point. Virtually everyone contributes the 2%, and most people contribute more beyond that as supplemental contributions. At one point I was contributing 19% before a wife and kids popped up. Also, one thing is back in 2008 when the market dropped and all our 401K plans values dropped in half or more, I stayed pat and kept contributing. These last four years or so the gains have more than doubled before the drop......Thanks Vanguard :)
Lou Dagen, CFP, ChFC January 10, 2013 at 09:01 pm
Hi Mike, you found a stellar company to work for -- their match is quite generous, and the profit-sharing component is icing on the cake. Thanks for sharing your info!
For all other readers: Mike's example is a great way to close this week's blog. Mike was smart and used his company's generosity to his full advantage. This is a great way to build your net worth over the long term. Thanks to everyone for your responses, and please look for Friday's blog about eliminating non-deductible debt. --- Lou
Fred Eiger January 10, 2013 at 11:59 pm
Thinking this over today, It's all a matter of perspective. Since I have owned it for over the last year, purchased between 9.5-10.5, I have received between a 10.5% cash flow (if bought at 9.50) and an 8.3% cash flow (if bought at 10.50). Plus I am up anywhere from 17% in principal (if bought at 9.5) and 6.1% (if bought at 10.5). You can put any spin on that you like, but bottom line is that I have bought it within the last 14 months and have collected six quarters of dividends and am up 17%. How does that stack up to the S&P for the same period? Also, I am not buying it here in the 11 range, as I am purchasing closed end funds at steeper discounts. Also, how does the above examples translate into a 3.1% yield for JTA? They don't for me!
Also, The Barclays bond fund? Rates are going up soon, as they have nowhere else to go, and bond prices are INVERSE to rate rises. Get ready to get crushed there. Furthermore, I am not excited about a 2.7% yield. Munis do better than that and they are tax free.Therefore, I am concentrating more on a few select equity closed end funds for now (for equity allocations).
Lou Dagen, CFP, ChFC January 11, 2013 at 12:18 am
Hi Fred, I concede the point. You've done very well over the last 12 months: JTA is up 18.3% net after fees, while the S&P 500 is up 16.5%. And since JTA has only ~70% of its investment in stocks, your risk-adjusted return is even higher.
Very respectfully, please let me caution you one last time: leverage magnifies performance, whether up or down. And return of principal does not equal yield. I completely agree with your points about low yields and tax efficiency. I have many millions of client money in municipals (and have a couple hundred thousand of my own there as well). I really hope Congress doesn't start tinkering with their tax treatment over the next couple of months. Finally, I enjoyed our discussion, and agree with you about perspective. My investing style is not the only one out there, and I've found many financial planners invest completely differently for their clients. If your method is working for you, then more power to you, and don't let me tell you differently. Anyway, thanks again for your intelligent responses, and hope you keep reading and adding your comments to my blogs! --- Lou
Fred Eiger January 11, 2013 at 12:32 am
That's what we're here for Lou; having an intelligent discussion on money. Sorry, if I come across like a curmudgeon, but this has been quite the intellectual debate. Plus, it's a lot more fun talking about money than say plastic bags, low flow toilets and gas yard blowers. Waiting for tomorrow's blog.
David January 11, 2013 at 11:25 am
The "free money" the Fed is printing is going to be the downfall of public sector pensions. There is *NO* way that those funds can earn the assumed 7.75% returns in an era of 1.8% US bond yields, 3-4% investment grade corporate bond yields and now sub 6% junk bond yields. Equity risk premia would also indicate about 4-5% returns for the longer-term if investing now.
Lou Dagen, CFP, ChFC January 11, 2013 at 12:34 pm
Hi David, you're right.
CalPERS is now assuming a 7.5% rate of return (net of fees) going forward, yet for their last fiscal year (July 2011 to June 2012), they made a whopping 1%. Granted, it wasn't a great time for the markets either (the S&P 500 made about 5.5%), but still, I don't see how the numbers will work either. I read an actuarial study showing that CalSTRS contributions will have to be increased by 12.2% of pay, in order to close their deficiency over the next thirty years. This is yet another reason why corporate matching contributions are so valuable for you. While we could agree that public pensions need to be reformed, focus on your own retirement first, save as much as you're able, and take legal advantage of whatever extra resources (like a corporate match) are available. --- Lou
Andrew Peceimer January 12, 2013 at 04:09 pm
A better idea is to work for the Cities or State of California and you will get a guaranteed pension paid for by the private sector. Check this out.
http://database.californiapensionreform.com/
Lou Dagen, CFP, ChFC January 12, 2013 at 09:04 pm
Hi Andrew, you're right that a pension obviates the need for any corporate match.
However, municipal pensions in California are paid through a combination of employee and employer contributions. Since all of our tax money (including those from the municipal workers themselves) is funneled through a municipality, we all chip in, not just private sector employees. Have a great weekend! --- Lou
Jennifer January 12, 2013 at 10:16 pm
Lou, regarding your previous statement (quoted below), the "market" may have been profitable over the 11 year period, but what does that really mean to an individual investor? It really depends on what stocks/funds "they" happen to own and when they purchased them.
" Here's the market's performance (represented by the S&P 500) over the last eleven years, starting with a really bad year: 2002: (22.1%) 2003: 28.7% 2004: 10.9% 2005: 4.9% 2006: 15.8% 2007: 5.5% 2008: (37.0%) 2009: 26.5% 2010: 15.1% 2011: 2.1% 2012: 16.0%"
Lou Dagen, CFP, ChFC January 12, 2013 at 11:23 pm
Hi Jennifer, you are correct, and you bring up a good point. I was responding to "Camaro On Cinderblocks," who said that, "Unless you had your $ in airport security firms and military industrial complex industries your 401k got smoked." I was trying to show him otherwise, but I didn't define the data, so please let me do so now.
The Standard and Poor's 500 is an index (a sample) of 500 large U.S. public companies. S&P uses these companies as a broad proxy of the U.S. economy. Investors can buy shares of stock in these companies (such as Coca-Cola, IBM, Wal-Mart, etc.), either individually or via an index mutual fund. You're right that an individual investor's performance may radically differ from that of a stock market index. But wouldn't that apply to any investment: real estate, commodities, bonds, even certificates of deposit or savings accounts? The real question is which investments are most suited for you, based on your goals and needs. My point to Camaro was that he was getting incorrect information, and I didn't want those inaccuracies to negatively affect his future. I hope this answers your question. Please write back here if you have a follow-up. --- Lou
Jennifer January 13, 2013 at 01:28 am
I absolutely agree with you. I just wanted to point out that, often, when people hear that the "market" performs so well over a long period of time, they dive into the stock market without really understanding what it is all about, and then wonder why they didn't do so well in comparison.
Lou Dagen, CFP, ChFC January 13, 2013 at 01:52 am
That reminds me of the old joke, "You can't eat relative returns."
Thanks for pointing that out! --- Lou
Andrew Peceimer January 13, 2013 at 03:54 am
Hey Lou,
You did not mention that with a Defined Benefit retirement plan for public employees, such as the State of California or the city of Burlingame those employees are guaranteed their pension regardless of the investment's success. Additionally we the private sector have no control over those public employee investments but have to pay them if their investments go sour. Sounds awesome...they can gamble their retirement money and if they lose we in the private sector have to pay. Only in America!
Greg January 20, 2013 at 02:19 pm
You don't need an "extra $50K" to start. Many retirement plans can be started with as little as $25 out of your own pocket. Ask your employer's benefits people what is available.
Lou Dagen, CFP, ChFC January 20, 2013 at 04:10 pm
Greg, that's a great point! Chris, on Tuesday, why not call your Human Resources or Employee Benefits contacts and ask them for minimums? --- Lou
Brian Todd March 1, 2013 at 03:22 am
Lou,
I have not read through all the comments on here thoroughly, however I don't think anyone has yet to point out the biggest flaw to your original post: A 401(k) is not a great investment. Although, if an employer matches funds it essentially is "free" money that is not the whole story. The whole story goes something like this: free for now only to be taxed at a later date at a rate that is completely undetermined currently on an amount that is completely speculative (who knows if the amount you need/want will be there when you need it if it is tied to the stock market, which most 401(k)'s are) and oh yeah, you don't control the money or have free access to it. It is as close to a government retirement plan as there possibly could be. Stated another way: you are a farmer, you have the land and some seed. You have a few choices...you could get taxed on the seed at a particular rate, or you could get taxed on your harvest on a rate that you don't know. Which is the better deal?

Newsletter & Alerts

Get the best stories each day and important breaking news

Subscribe

Not from Pinole-Hercules Patch? Find your Local Patch »

Note Article
Just a short thought to get the word out quickly about anything in your neighborhood.
Share something with your neighbors. Write a new post... What's up? Make an announcement, speak your mind, or sell something
cpm=clyde June 10, 2013 at 07:03 am
MISS THE PINOLE VALLEY HIGH SCHOOL GRADUATION = WATCH FOR IT ON CH 28,( COMCAST ) - OR GO TO PINOLERead More TV.COM. SCHEDULE, TO SEE WHEN IT WILL AIR,.ALSO THE MAY 19,2013,PINOLE SPRING FESTIVAL, AND SUPPORT THE,LOCAL SHOP,S OF PINOLE, CPM-CLYDE
Matt June 16, 2013 at 10:43 pm
I agree Sal, this is such a flawed plan in so many ways... Its hard to imagine that our City CouncilRead More thinks this is in 'our' best interest!!
Lea Deuel June 2, 2013 at 03:26 pm
I agree; however, it is called "tough love". I know it depends on the age, the situation,Read More etc.
Tom Abate (Editor) June 3, 2013 at 09:18 am
How ironic. I have just such a situation in my life now. Sigh. I think it's payback for theRead More headaches I caused growing up.
Lyn June 4, 2013 at 05:28 pm
In order to feel the victory of success, you must endure some failures. If parents are always thereRead More to make sure the kids don't fail, then what kind of accomplishment or pride can they actual claim?