Fuel or Friction?
Richard Connor | Jun 15, 2023
I RECENTLY LISTENED to an interesting Hidden Brain podcast discussing different ways of bringing about behavior change. The guest on the podcast was Loran Nordgren, a professor at Northwestern’s Kellogg School of Management and coauthor of a book entitled The Human Element. The discussion centered on two related concepts: fuel and friction. Fuel is the stuff we use to motivate ourselves and the people in our lives. It can be positive or negative. Let’s say you’re an employer trying to get employees to save more in the retirement plan. To fuel their participation, you might explain the benefits of compounding, tax deferral and the employer match. Friction is the stuff that produces drag—things that hold us back or create obstacles that prevent us from acting. Continuing with the example above, a website that’s hard to navigate could prevent employees from signing up for the company’s 401(k) or increasing their contribution. Nordgren contends that, “Removing friction is often more powerful than increasing fuel.” He provides a variety of interesting and amusing anecdotes to support his thesis. One of my favorites stories was a self-acknowledged failure. Nordgren described how, despite many attempts at fueling, he couldn’t convince his 95-year-old father to get a cell phone. He concluded he’d have been better off finding a way to make it easier for his father to embrace technological change. I’m a big fan of reducing friction in our financial lives. Today’s technology makes this easier than ever. Here are my favorite ways to reduce financial friction: Automate savings. Thanks to direct deposit, it should be simple to direct some of your paycheck to your savings goals, as well as to your regular checking account. My wife and I have both a checking account with a brick-and-mortar bank and an online savings account. They’re tied together…
Read more » Think Bigger
Richard Connor | Aug 12, 2019
FOR MUCH OF MY adult life, my view of financial planning was similar to that of many others: Simply put, financial planning equaled investment management. I spent my career in aerospace engineering, surrounded by highly educated, mathematically competent colleagues. I was lucky enough to span the transition from defined benefit pension plans to defined contribution plans. My colleagues and I closely followed the market’s performance, our own company’s shares and emerging tech stocks. Some of the more mathematically inclined dabbled in options. Outside of work, one of my brothers and I ran an investment club. It was amazing to watch stock prices rise for companies that never made a profit. Despite all these financial conversations during my early adult life, I don’t remember any substantive discussion of estate planning, insurance, taxes or health care. All that changed in my late 30s. My parents’ health problems turned into financial problems. My brothers and I provided increasing support. Eventually, my wife and I sold our home, bought my parents' place and combined families. Declining health required adaptations to the house, fighting with Medicare, and understanding and accommodating hospice. My aging in-laws also compelled us to deal with issues like declining cognition, powers of attorney, taking over financial responsibility, finding lost assets, simplifying portfolios, finding quality and affordable senior living, and settling multiple estates. All this fired my interest in the broader aspects of financial planning. I wanted to be prepared as my wife and I approached retirement. I became an expert on my company’s defined benefit and defined contribution programs, and even provided counseling to fellow employees. I passed the exam to become a CFP, or certified financial planner, and then completed the RICP—retirement income certified professional—program. I volunteered and trained for the IRS’s Volunteer Income Tax Assistance program, helping diverse clients complete…
Read more » Should you include SS and pensions in your net worth?
Rick Connor | Aug 1, 2024
A recent comment in the Forum got me thinking about the inherent value of certain fixed income instruments. The commenter said they did not include their traditional pension or Social Security retirement benefit in their balance sheet when calculating net worth. This makes sense since neither of these is easily convertible to cash. But pensions and SS clearly have significant value, and in many cases are the largest asset a retiree owns. I think it’s useful to get a feel for these amounts. You can compare them to your retirement savings and see how they stack up. There are several ways to do this. You could build a spreadsheet using the Present Value function with appropriate variables. You could price a commercial annuity that would provide the same monthly benefit. Or you could take advantage of Mike Piper’s Open Social Security tool – he’s done all the work for you. Let’s consider someone who was born in 1957. Their full retirement age is 66 years and 6 months. In January 2024, the average Social Security monthly retirement benefit was $1,907. The maximum benefit for someone retiring in 2024 at their Full Retirement age is $3,822. The average expected longevity of our retiree is about 16 years for a man, or 19 years for a woman. The table below shows the results from Open Social Security. The current value of future social security payments for an average benefit is about $320,000 for men, and $372,000 for women. For men and women receiving the maximum benefit, the current value is about $640,000 and $746,000. Men Women Men Women Monthly Payment $1,907 $1,907 $3,822 $3,822 Open SS PV Estimate $319,641 $372,060 $640,623 $745,681 Pensions often have a lump sum option. When this is available, you have a direct estimate of the present…
Read more » Advice at a Price
Richard Connor | Dec 8, 2021
THE PREDOMINANT WAY financial planners get paid is by charging a fee based on the amount of money they’re managing. The typical industry fee I’ve seen is 1%, and it’s been that way for years. Under this model, a financial planner managing a client’s $1 million portfolio would charge $10,000 a year. Charley Ellis’s recent article explained how this approach came into being. His article also demonstrated how a seemingly innocuous 1% fee can actually consume a large portion of a portfolio’s return. This drag on performance compounds over time. The positive side of the model: A financial planner’s interests are aligned with the client’s. If the portfolio’s value climbs, both are better off. If it falls, the planner also makes less. An additional benefit: Clients know roughly what they’ll pay for the planner’s services in any given year. Many planners provide a full suite of services for this 1% fee, including tax planning and preparation, estate planning, insurance planning, retirement planning and hand-holding during rough financial times. In the percent-of-assets model, clients feel as if they’ve already paid for these services and so are more likely to use them. Still, there are other ways a planner could be paid. These include paying an hourly rate—typically a few hundred dollars per hour—for specific services. There are subscription services, with a fixed cost per month. Some companies also offer certain services or products for a fixed fee. Finally, some planners sell products, like mutual funds and insurance products, that earn them a commission. Some of the largest names in the financial planning industry have gotten involved in the planning side of money management. Vanguard Group’s Personal Advisor Services charges a maximum 0.3% of asset per year. One of the country’s largest financial planning firms, Edelman Financial Engines, has a “wrap fee” program with…
Read more » Earning a Roth
Richard Connor | Aug 6, 2022
HAVE YOU GOT children or grandchildren with summer jobs? That means you could put them on the path to financial success—by helping them open a Roth IRA. My brothers and I always had jobs, including delivering newspapers, bussing tables, mowing lawns and valet parking. My sons also had jobs at an early age, including shucking thousands of ears of corn at our local swim club. Later on, they were lifeguards, along with many of their friends from the swim team. We all remember our first jobs—fondly, I hope. Getting a paycheck, realizing how taxes work and learning what FICA means—Federal Insurance Contributions Act, if you’ve forgotten—are all invaluable lessons on the road to adulthood. But today’s summer jobs come with a potential added bonus: opening and funding a Roth IRA. An IRA is a great way to introduce a child or grandchild to the world of saving and investing. A Roth IRA will almost certainly make more sense than a traditional IRA. Most children won’t owe income taxes on their slender summer earnings. That means they wouldn’t benefit from a tax-deductible contribution to a traditional IRA. IRA contributions and earnings grow tax-deferred. But with a Roth, the account’s earnings can also be withdrawn tax- and penalty-free after age 59½. Meanwhile, the actual money contributed can be withdrawn tax- and penalty-free at any age. The rationale: Those contributions were made with after-tax income. If retirement seems too distant a goal to excite your children or grandchildren, you might let them know that special rules also allow penalty-free withdrawals before age 59½ for—among other things—a first-time home purchase or to pay college expenses. Intrigued? There are several things to know if you’re helping a child or grandchild set up a Roth IRA: A child must have earned income to contribute to either…
Read more » Roll This Way
Richard Connor | Aug 28, 2023
I THOUGHT I HAD a pretty good handle on health savings accounts, or HSAs. My wife and I contributed to HSAs over the decade before we retired. The money we accumulated has come in handy in the early years of retirement. I’ve also written several articles extolling their virtues. But I recently learned that we missed an opportunity to further fund these accounts, while simultaneously reducing future required minimum distributions. The trick is to do a rollover from an IRA to an HSA. The tax code allows a once-in-a-lifetime IRA-to-HSA rollover. This little-known strategy is called a qualified HSA funding distribution. It appears that Congress authorized this as a way for a taxpayer to access IRA funds for a onetime significant medical expense. Direct rollovers are allowed from a regular IRA, but not from a SEP or SIMPLE IRA. You also can’t do a direct rollover from an employer-based account, such as a 401(k), 403(b) or 457. But you could roll over funds from your employer-based account to a rollover IRA, and then do the direct transfer to your HSA. To contribute to an HSA, you must be enrolled in a high-deductible health plan, or HDHP. Contributions to HSAs are tax-deductible and any subsequent growth is tax-deferred. Withdrawals from your HSA that are used to pay qualified medical expenses are tax-free. This is unlike withdrawals from a traditional IRA, which are considered taxable income. For individuals with an HDHP in 2023, the maximum contribution to an HSA is $3,850, while the maximum contribution for those with family coverage is $7,750. There’s an additional $1,000 catch-up contribution allowed for those age 55 and older. Consider a married couple, both 55 or older, with an HDHP through one spouse's employer. In 2023, they could contribute up to $9,750—a $7,750 family contribution, a…
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