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Maximizing The “Still-Working” Exception To Delay RMDs From A 401(k) Plan

July 18, 2018 07:01 am 11 Comments CATEGORY: Taxes

While qualified plan participants are generally required to begin taking distributions April 1 of the year following the year the plan participant turns 70 ½, the "still-working" exception delays the RBD to April 1 of the year following the year the employee retires. The motivations behind the still-working exception are simple enough (Congress anticipated that some workers would continue working beyond age 70 ½ and did not want to force these participants to begin taking distributions), however the reality is that the provision itself is surprisingly complex, containing many layers of rules that influence one another and make the determination of whether an individual is "still-working" more difficult than many would expect.

In this guest post, Jeffrey Levine of BluePrint Wealth Alliance, and our Director of Advisor Education for Kitces.com, takes a deep dive into the still-working exception, examining how an individual is (or is not) determined to be "still-working", as well as the planning strategies that arise from the exception, such as rolling qualified assets into a still-working exception eligible plan, divesting more than 5% ownership of a company prior to age 70 ½, creating a new business after age 70 ½, and even just making sure the requirements are met to qualify for the still-working exception!

To the surprise of many, defining precisely what it means to be "still working" (e.g., 1 hour per week, 10 hours, 20 hours?) is not something that the IRS has done. However, the general interpretation based on a plain reading of the law is that, as long as the employer still considers an individual employed, that person is “still employed” for the purpose of the still-working exception (even if the ongoing work is of a relatively limited nature). However, this determination is further complicated by the fact that an employee must be employed throughout the entire year to qualify for the exception and delay RMDs past their 70 ½ year, which is defined as not having retired at any point during the year, including December 31st! So, if an individual worked every day of the year (including a full work day on December 31st), but retired on December 31st (i.e., did not come back to work at any time in the next year), then the individual would be deemed retired in that year and would not be eligible for the still-working exception during that year.

Another complication with determining whether an individual is "still working" is the exclusion of the rule for 5% owners of a business. One point of confusion is that 5% owners are not considered "5% owners" for the sake of this rule. Instead, owners must own more than 5% in order to be considered a 5% owner. A second point of confusion is that ownership according to the 5% ownership rule includes indirect ownership of stock owned by a spouse, children, grandchildren, and parents (though not siblings, cousins, aunts/uncles, and nieces/nephews). Further, the still-working exception is based on a one-time test of ownership in the plan year ending in the year an employee turns 70 ½, which actually means that those who own an increasing amount of a company after reaching age 70 ½ can own more than 5% and be considered less than 5% owners (or may own less but still are considered more than 5% owners).

Fortunately, this complexity does create planning opportunities which individuals can use to reduce (or at least delay) their tax bill. In particular, individuals may want to consider rolling other qualified into still-working exception eligible plans (as only an account through an eligible employer receives an exception from taking a distribution), divesting more than 5% ownership prior to age 70 ½ (as the test is only applied at this age), creating a new business and adopting a qualified plan after age ½ (as the new business would not have been around when an individual reached age 70 ½), or just making sure that the requirements to receive the still-working exception are met (as despite the popularity of retiring on December 31st, it may be beneficial to work at least one day into a new year).

Ultimately, the key point is to acknowledge that the still-working exception is not as straight-forward as is often believed. There is a lot of complexity in the rules surrounding the still-working exception, yet, at the same time, a lot of opportunity for tax planning as well (at least for those who have the luxury of not needing their retirement funds at age 70 ½ and who can continue to defer spending into the future)!

#FASuccess Ep 081: Expanding Access To Financial Planning Advice By Offering Financial Doing Instead with Louis Barajas

July 17, 2018 07:02 am 0 Comments CATEGORY: Financial Advisor Success Podcast

Welcome back to the 81st episode of the Financial Advisor Success podcast!

This week's guest is Louis Barajas. Louis is the founder of Wealth Management LAB, a multi-family-office style advisory firm in Los Angeles that specializes in providing financial advice and business manager services to entertainers and other celebrities in the Latino community.

What's unique about Louis, though, is the way that his advisory firm has evolved over time, from trying to serve Latino small business owners in the barrio where he grew up, to writing books and teaching financial literacy to the Latino and broader community, and now focusing on a business that is not just about financial planning, but what Louis calls "financial doing" instead.

In this episode, we talk about Louis' path into financial planning, from helping his father prepare tax returns and keep the business books as a teenager, to starting out with a broker-dealer in the 1980s but quickly getting tired of the pressure to sell products at the end of every financial plan, getting his CPA license and shifting to an accounting firm that worked with high-net-worth individuals, and then leaving the accounting firm to start his own solo practice after a chance meeting with pastor Rick Warren in a coffee shop, shortly before the pastor published his Purpose-Driven Life book, and how that 30-minute coffee shop conversation changed the trajectory of Louis' career forever.

We also talk about how Louis built his advisory firm over time, the setbacks he had that forced him to nearly start over from scratch twice after he had to split away from former business partners and associate advisors, because as he's learned you can have multiple partners in a business but only one Visionary, the Abundance Mentality Louis brings to the table that has allowed each new iteration of his business to grow even larger than the past, and how Louis building more successfully than ever this time with a focus on hiring for heart and teaching the skills, while putting a series of Core Values – or what Louis calls "Immutable Laws" – in place for the business, that serve as a guidepost for the entire team about the deliberate culture of the firm.

And be certain to listen to the end, where Louis talks about why he believes that not just financial planning, but financial doing for clients, is the key to expanding financial advice to a broader range of underserved consumers.

So whether you are interested in learning more about expanding access to financial planning advice to traditionally underserved communities, learning more about how financial "doing" differs from financial planning, or how an Abundance Mentality can help you grow your firm, I hope you enjoy this episode of the Financial Advisor Success podcast!

Introducing fpPathfinder: Flowcharts And Checklists For Diligent Financial Planners

July 16, 2018 12:01 pm 1 Comment CATEGORY: Technology & Advisor FinTech

Financial planning is full of complex decisions. From handling the nuances of Social Security planning (e.g., whether part-time income may trigger the Earnings Test, or whether past non-FICA earnings could trigger the Windfall Elimination Provision), to navigating the complex set of rules tied to retirement accounts (e.g., how to delay RMDs from a traditional IRA, or the rules for when and how to make a backdoor Roth contribution), the reality is that it can be challenging to remember how all of the many different components of financial planning might interact with each other when making recommendations to clients. Yet managing this complexity is crucial for financial advisors, as the failure to do so can lead to both omissions (e.g., a key rule that gets missed) and errors (e.g., failing to recognize the full breadth of issues that had to be considered in the first place).

Fortunately, checklists are a proven method for helping professionals manage such complexity. As highlighted in his famous book “The Checklist Manifesto”, author (and doctor) Atul Gawande illustrates that one of the easiest ways to handle the daunting complexity that face professionals today is simply to create a checklist of the key steps that must be taken, or the key factors that must be considered. In fact, checklists have been widely adopted and demonstrated to be successful in avoiding errors in many professions, including both airline pilots and surgeons. One limitation of checklists is that many people prefer to learn visually, though, which in turn has led to the adoption of flowcharts in professions such as computer programming, where the purpose of the flowchart is largely similar to a checklist (e.g., to help ensure quality control for complex processes that require consistent outcomes), but to do so more visually than a bullet-point checklist.

Yet despite the effectiveness of both checklists and flowcharts, the reality is that one of the biggest barriers to adopting the use of such tools is creating the tools themselves, as it is both time consuming, and can take considerable knowledge to develop these tools in the first place. To address the challenge, we’re excited to announce the launch of fpPathfinder, a new business specifically created to provide checklists and flowcharts for financial advisors, to use either internally in their own practices when evaluating client scenarios and formulating recommendations with clients, or directly with clients as a way to illustrate and explain key financial planning concepts and decisions.

As a starting point, fpPathfinder is offering a “Retirement Planning Essentials” package of visual flowcharts that can be used to cover key retirement planning issues, from eligibility to make tax-deductible IRA contributions and take tax-free Roth distributions, to the specialized claiming rules for Social Security benefits for divorcees or surviving spouses, the rules for delaying RMDs from a traditional IRA, and the rules for when and how to make a backdoor Roth contribution. Over time, fpPathfinder plans to launch additional flowcharts covering both retirement planning and other topics, as well as a complementary set of checklists for common planning scenarios, a voting system for members to express interest in what flowcharts to create next, and the opportunity for advisors to white-label the flowcharts with their own name and brand. Ultimately, fpPathfinder hopes to be a valuable resource for helping financial advisors adopt the checklist and flowchart processes common among other professions – as a means to both help advisors avoid errors and omissions, and to elevate the value of services that advisors provide to their clients!

Weekend Reading for Financial Planners (July 14-15)

July 13, 2018 02:52 pm 0 Comments CATEGORY: Weekend Reading

Enjoy the current installment of "weekend reading for financial planners" – this week's edition kicks off with the news that the SEC is getting more aggressive in enforcing against advisors who violate the no-testimonials rule through social media platforms, as while previous SEC guidance has noted that there's nothing wrong with third-party social media websites that reference an advisor (from tweets about the firm, to having a Yelp page with reviews), the SEC did fine 3 advisors $10,000 each for hiring a third-party firm that solicited their clients to leave (positive) testimonials/reviews on the advisory firm's Yelp page. And also in the news this week is the decision of the SEC to move forward with a so-called "ETF Rule" proposal that would drastically streamline the time and cost it takes for asset managers to launch new ETFs.

From there, we have a number of insurance-related articles this week, from a look at the looming rise of no-load insurance policies (driven both by regulatory shifts away from commissions and towards fiduciary fees, and also the success of early no-load variable annuity products in the RIA channel), to a discussion of whether consumers (and advisors) are now overweighting the risk of future LTC insurance premium increases, and a discussion about whether advisors should start recommending various types of "concierge medicine" and "direct primary care" (DPC) health care solutions for clients in lieu of (or in addition to) traditional health insurance.

We also have several practice management articles, all focused around building teams and retaining team talent, including: an overview of Angie Herbers' "Diamond Teams" approach to developing advisor talent; tips to building deeper and stronger teams in your advisory firm; how to apply educational and instructional design principles to train and develop your team members more effectively; and a look at how to better retain female advisors in particular (as the number of female advisors has remained stubbornly 'stuck' and not rising for more than a decade, despite a significant rise in efforts to recruit women into the industry).

We wrap up with three interesting articles, all around the theme of entrepreneurship and starting your own advisory firm (or not): the first explores the challenge in larger advisory firms of finding next generation (G2) entrepreneurs to lead the business, which author and practice management consultant Philip Palaveev suggests may be less a lack of entrepreneurial talent and more a tendency of advisory firms to not take the steps and opportunities to develop the entrepreneurial talent they have; the second explores a research study that found, despite the stereotype of the 20-something uber-successful tech entrepreneur (e.g., a young Bill Gates, Steve Jobs, or Mark Zuckerberg), that the average age of an entrepreneur is actually 42, and the most successful entrepreneurs averaged age 45 when they founded their firms; and the last similarly looks at another research study finding that the odds of a startup business still being around in 5 years increases a whopping 500% when the founder is over the age of 35, and increases by 85% if the founder has at least 3 years of experience first... suggesting that in reality, the best path to starting a successful advisory firm with clients might never have been finding the "right" 20-something entrepreneurial advisor, but instead requiring all advisors to first get their 3 years of experience, complete their CFP certification, and consider waiting as long as 10-15 years into their career before actually going out to start their own advisory firm from scratch in order to increase the odds of long-term success.

Enjoy the "light" reading!

Determining The ROI Of Eliminating Private Mortgage Insurance (PMI) With Principal Prepayments

July 11, 2018 07:01 am 9 Comments CATEGORY: General Planning

Featured Image Pre-Payment of Mortgage To Eliminate PMI ROI

Saving up a "traditional" 20% down payment can be difficult for many individuals. As a result, many borrowers end up paying private mortgage insurance (PMI), in order to cover the lender's risk that the proceeds from foreclosing on a property would not be sufficient to cover the outstanding liability of a mortgage. On the one hand, PMI is therefore valuable to borrowers as it creates opportunities for homeownership for those that don't have enough cash saved up to put 20% down (it is effectively the "cost" of buying a home without a traditional down payment), but, at the same time, PMI can seem like an expensive drain on a borrower's cash flow, making it enticing to pay down the debt to eliminate the need to pay PMI.

In this guest post, Dr. Derek Tharp – a Kitces.com Researcher, and a recent Ph.D. graduate from the financial planning program at Kansas State University – examines how to determine the ROI from prepaying a mortgage to eliminate PMI, and finds that although the ROI can be high over short time horizons, the ROI from eliminating PMI over longer time horizons is often much lower.

PMI is generally required on a mortgage with a long-to-value (LTV) ratio of less than 80% (i.e., less than a 20% down payment). Because PMI is actually a form of insurance for the lender rather than the borrower, the reality is that PMI is functionally the same as a higher interest loan taken out on whatever amount would be needed to be prepaid in order to reduce the LTV ratio to less than 80%. For instance, if a borrower pays $1,200 per year in PMI premiums for a $200,000 home with a 5% down payment, then the borrower is initially paying an effective $1,200 of interest on a loan equal to the additional 15% ($30k) that would be needed to be prepaid in order to avoid PMI. Which is not an insignificant amount of interest, as $1,200 of annual interest on a $30,000 loan is effectively 4% loan on top off whatever the underlying interest rate is. So, if a borrower is paying 4.5% on a mortgage, then the total cost of the additional "loan" (PMI) is roughly 8.5%. Further, since this assumed $1,200 premium does not reduce as the balance needed to get below 80% LTV declines, the cost of keeping this "loan" in place increases with time. For instance, a borrower paying $1,200 per year in PMI on a mortgage that is only $5,000 away from eliminating PMI is effectively paying a rate of 24% on top off whatever their underlying mortgage rate is!

However, this 8.5% only represents a short-term ROI over a single year time period, and a key consideration in determining the long-term ROI of an investment is the rate at which it can be reinvested. Since pre-payment of a mortgage is effectively "reinvested" in a stable investment that "only" earns an ROI equivalent to the mortgage rate itself, this creates a long-term drag on the ROI from prepaying a mortgage (as funds are then tied up in debt repayment rather than investments which may have a higher long-term expected returns). And over long enough ROI time horizons (e.g., 30-years), the ROI of eliminating PMI effectively approaches the same ROI as prepaying the mortgage itself (albeit slightly higher due to some benefit that remains from the initially higher ROI). Which is important to acknowledge because while PMI elimination can look highly attractive based off of a single year ROI, failure to appreciate the differing short-term and long-term ROIs can lead investors to make pre-payment decisions which may not align with their long-term goals.

Of course, pre-payment of a mortgage to eliminate PMI may still be an attractive investment (particularly on a risk-adjusted basis), but the reality is that the time horizon used to evaluate the decision has a substantial impact on the long-term ROI. And given that it is the long-term impact that is most important for investors to consider, deciding whether to eliminate PMI may not be as much of a "no-brainer" as simply calculating the single year ROI may lead us to believe!

#FASuccess Ep 080: Navigating The Path From High Volume Insurance Agent To Focused Financial Planner with Matthew Blocki

July 10, 2018 07:01 am 0 Comments CATEGORY: Financial Advisor Success Podcast

Welcome, everyone! Welcome to the 80th episode of the Financial Advisor Success Podcast!

My guest on today's podcast is Matthew Blocki. Matthew is a 30-year-old financial advisor with a niche practice of serving physicians and retirees, and has grown to nearly $70M in AUM and $800k of revenue in just 8 years.

What's unique about Matthew, though, is that he's built his financial-planning-centric practice by starting out as a major life insurance company – Northwestern Mutual – and has quickly evolved his business from starting out with nearly 100 transactional insurance clients per year, to a hyperfocused practice that's aiming to grow now with just 15 affluent clients per year instead.

In this episode, Matthew talks in detail about how he got started and survived in the early years by trying to focus on engaging in the "right" activity from the start, the networks he tapped out of the gate just to get some initial traction, the way he leveraged LinkedIn to expand his network to reach new prospects, and how he learned the importance of being "professionally persistent" and always following up with prospects at least 3 times before giving up.

We also talk about the way Matthew differentiated himself as a 20-something advisor working with retirees, and how that evolved into two niches working with retirees and young physicians, the unique and "non-traditional" advice services he provides to his young doctor clients in particular to distinguish himself and build a connection, and why it's so important to not just offer what we traditionally consider financial planning services to clients, but what it is that they're really truly stressed about that keeps them up at night.

And be certain to listen to the end, where Matthew talks about how having coaches and finding mentors has helped to shape his career in the early years, the importance of learning about and knowing yourself to find your own strengths, and why you only have to be slightly better than the competition to come out exponentially ahead in your business.

So whether you are interested in learning more transitioning from a broad transactional business to a hyperfocused advisory niche, how LinkedIn can be used to expand your network and reach out to new prospects, or how a 20-something advisor can build a niche working with physicians and retirees, I hope you enjoy this episode of the Financial Advisor Success podcast!