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Episode #553 - Retire Without Borders: An Expat Primer
Roger: The show is a proud member of the Retirement Podcast Network.
Welcome to the show dedicated to helping you not just survive retirement, but to have a confidence because you're doing the work to really lean in and rock it. My name is Roger Whitney. By day, I am a practicing retirement planner with 30 years’ experience, founder of Agile Retirement Management, and for the last 10 years or so, I've been hanging out here with you working on how to do retirement planning right.
Today on the show, we're going to have a primer on living an expat retirement. What are some of the drivers to retire overseas? What are things that you need to consider from a financial and a non-financial perspective? To help us is going to be Jane. We'll introduce her when she comes on, who is an expat herself. Migrated to the United States in college and has lived here for a number of years and established a life. She works with expats coming into the US, but she also works with people that are retiring, going to live overseas. She's a wonderful lady, and we're going to have her on to talk about some of the aspects of that.
In addition to that, we're going to answer some of your questions. I got an email from a listener via our 6-Shot Saturday email, I love that people can just reply to that, and they are looking to move to Fidelity from a major brokerage firm and Fidelity is recommending that they liquidate their entire after tax investment account in order to invest in Fidelity index funds, which is going to cause them to realize that 260, 000 in gains and they're wondering if that's wise. We're going to answer that question in addition to a few more.
With that said, let's get on with the show.
RETIRING AS AN EXPAT
So today we're going to dive into a primer on expat retirement. To help me is Jane Mepham from Elgon Advisors. How are you doing, Jane?
Jane: I'm good, Roger. How are you?
Roger: Good. We've known each other off and on for a few years now, conference buddies and have become friends.
Now, before we get started on the main subject, quick question. How close are you to qualifying for the Boston Marathon?
Jane: The last time I ran, I missed it by less than two minutes.
Roger: Okay, that's good.
Jane: I'm going to try again. I'm not giving up.
Roger: Okay, good. Good. Today we're going to talk about retiring as an expat and you've had a very interesting journey in leaning towards specialization here because you are an expat, except you're an expat to the United States.
Jane: That's correct.
Roger: For how many years have you lived in the States?
Jane: 20 something. So, I moved to the U. S. in my early 20s as an international student.
Roger: Okay, so we won't date you then from that. You definitely work with a lot of people that are navigating becoming an expat and working in the United States, but you've inadvertently become a little bit of an expert in expat-ing to other countries
Jane: I've had to because my family is all over the place, so to me, it's like the way of life, if that makes sense. If you tell me you want to retire to Spain, it's like, okay, fine. That's fine.
Roger: It's much more of a normal thing outside of the United States because we're such a contiguous nation size wise and in Europe, a different country is like a different state in the U. S.
I am way overdue and even talking about this subject, but when I said I would, I got a lot of responses. I'm going to read some of the shared experiences from people after our discussion. What is the attraction of living or retiring as an expat in another country? Why do people want to do that in your experience?
Jane: I think of the reason why I moved here.
So, there's always the idea of It's better life here, but I think for retirees, the kind of things you hear is people that have a sense of adventure. They want to go to other countries and experience a different way of life, for example. They want to immerse themselves in new cultures, and then you have people that want to do it because they actually want to make an impact in that place. That's probably the easiest way of doing it.
Then, of course, there's a whole idea of better climate. I think I mentioned to you, I moved to Austin because it got too cold in Massachusetts. So, if you leave up north, you want to move to a warmer climate, you know, life by the beach kind of thing. And then you hear a lot about, so there's also families, you know, my family lives over there, so I want to move there.
People will talk a lot about the cost of living, but that's probably something we want to dive into a little bit more. Then folks will say, we think there's better health care and again, it's something we might want to dive into. I think there's a whole lot of reasons why people do it.
One of the things I do encourage and I tell people you absolutely should explore it, it's because when you've lived in a different place, you experience life differently, it really expands your world view, which is something I feel like we're a little bit more protected in the U. S., if that makes sense.
Roger: It does, from a cultural standpoint, you have a cultural difference from Texas to Massachusetts, and some of us might think that's actually an extreme cultural difference, but it's very different than a whole culture, different language, traditions, etc. The Massachusetts, Texas probably is much more of a similar tune, just with a different lyric and maybe a slightly different beat, whereas living in Portugal or someplace like that is a whole other genre of music from a life perspective.
That sense of adventure is definitely one of them because so many of us have denied themselves because of work and the demands of work.
If you have this, hmm, I might want to live overseas and I've clients that have these desires, how do you begin to explore whether it's really something you want to do, or it's this romanticized version of something you want?
Jane: So, I'm a big believer in do a ton of research, but the best way to really experience is, is actually going there. I talked with somebody a while back and I think they wanted to move to Thailand and my recommendation was, okay, let's go to Thailand for a month, you know, two months and see what you think. See if you like it. There's obviously a ton of research you want to do. Obviously, we need to narrow it down to these are the specific places and maybe you start by a criterion of here's what I want the place to have. Obviously start talking to tax advisors, but I think it's really important that you actually go for a visit and don't make it like a two-week visit. I want you to make it something like a month visit, a two-month visit, just to really experience what life is like. It's probably where I want to start.
Roger: Probably multiple times in different seasons.
Jane: Yes.
Roger: Because you want to get out of tourist mode. You want to get to where you're bored a little bit. I mean, I did this with Colorado, which is a very different experiment. Step one is really start to experiment and based off of environment, culture, activities, et cetera.
I'm going to take a step back here for a second, Jane. As I think about this, I think it's really important to determine what is it you are trying to accomplish in doing this and get as specific as you can.
Jane: Yeah. So, what's your why? Why do you want to do this? I think you're right. That's probably the first question we want to answer. Why? Why? Why do you want to do this?
If you're thinking, okay, I go family overseas and I really want to get close to this family. That's a big reason for you to concede that one country versus the other. I think it's important that absolutely we decide why, and then it kind of use it as, I like to think of something like you think of it like your prime directive. This is the reason that's driving me to do the move. I agree with you. Why?
Roger: So, step one is to go visit numerous times and probably visit other places as well. I always use it for younger people when they're thinking about jobs or even just casual dating. I always give them the Baskin Robbins story and everybody rolls their eyes, which is when you're looking for a long-term relationship, you want to date different types of people. You want to date athletic people. You want to date nerdy people. You want to take introverts because you may find someone that you feel is really dialed in and let's say they're strawberry, but you may love tutti frutti, but if you've never dated tutti frutti, how would you know? I would think that would be the same thing. You think it's Thailand, but maybe it's not Thailand. Maybe it's some other country you never even consider that is even a better fit. So, I imagine there has to be some experimentation there.
Jane: I agree.
Roger: Once you go about that experimentation and you say, I think this is the place. How do you start to navigate that?
Jane: So, we've chosen the country. We're doing visits. The first thing I think is get there and try and get out of tourists and more completely start interacting with the local people. They're now a lot of companies that will help you actually explore and go beyond what tourists do. So instead of maybe even staying at a hotel, I want you to maybe do like an Airbnb and book it for a month or two months and literally start living among the community.
I don't know if that makes sense. Like really try and start getting dialed in.
Roger: Can you think of any of these companies off the top of your head?
Jane: I just started working with somebody from Mexico. I'll see if she can give me the name of the company, but there's definitely specific companies that are now helping where they'll do tours, for example, and have you come over and say, okay, we just want to check out the place.
But I think you really need to go beyond that. So instead of going to a big city, probably start looking at smaller cities and kind of just start experiencing life there. Reach out to professionals like real estate people, and I think it should hopefully be easy if you're kind of outgoing and you're just exploring literally.
One thing you might want to consider before you start doing all this is think safety, right? How do people look at foreigners when they see them in the community? You really want to be able to move around freely. I don't know if that answers your question.
Roger: Yeah, that's definitely a big one that we don't think about in the U. S. as much, is in certain parts of the world, being an American that's moving in will be treated differently in good ways and bad. So, I go to Thailand. I think this is the place I want to go. I've done my visits. I've explored the neighborhood. Should I talk to people there?
Jane: Talk to people there.
Roger: I've done that. I'm like, I'm ready to do this. In navigating that, I have my house here. I have my stuff here. Should I buy a place there? Should I rent for a year and live there for a year and keep my home and everything else? That would seem to me to be the better path because it's easily undone.
Jane: Yeah, you really, it's kind of like we say, like even when I moved to Austin, the first thing we did not do was to buy a house so you’d probably want to concede the short-term rentals and keep everything intact back in the U. S.
Again, you're exploring, you're experimenting, so I would not go ahead and buy. Although, when we talk about ways of getting there permanently, that could be an option. But yeah, I think you want to rent for a while. Obviously, we need to figure out the kind of visas that you'd need, but I think that's probably what you'd want to do and establish that community, because I think that's really going to be key.
Roger: Let's go to that navigating visa. I don't need a visa to go to Massachusetts for three months or a year.
Right. Not yet.
Jane: No, you don't. But if you decide you're going to move to one of these countries, this is where, remember I talked a little bit at the beginning about let's start doing some research. Every country has a different kind of visa, just like the U. S., that allows you to go live there. So, for example, one class is called retirement visas.
There's a whole bunch of countries that have retirement kind of visa. They have restrictions. For example, I was looking at Brazil. Actually, in most countries you need to be over 50 or between 55 and 65 to get that visa, a retirement visa. You need to show them a certain amount of income because they don't want you to come in and not have any income.
Again, like I said, I was looking at Brazil, you need something like a thousand dollars per person in the family. So, you need to show them that you have an income stream. Some of them will want you to even have some money deposited in a bank in that country. So that's the first thing. So, let's figure out what this country needs to let you come in. That's one kind of visa.
Again, Every country has different requirements for getting their version of the retirement.
Roger: That's why you sort of have to narrow this down, right?
Jane: But the good thing though is, is me thinking being adventurous, I can go retire in XYZ and do it for two years, and then I decided I don't like it. Then I go to another country and I get their retirement visa and I'm there for another two years. So yeah, be flexible.
Roger: Okay. So, visa is country by country basis. How do you navigate money? I have all my investment accounts, my social security, perhaps my Medicare in the United States. What happens if I sell my house and I'm living in XYZ country for a year?
What's my residence? How does that all work?
Jane: You've decided you're going to move, I don't know, to Brazil or Spain or one of these other countries, right? So, remember the U. S., we're very unique in that, like it's U. S. and Eritrea that have citizenship-based taxation. So, the joke I tell is, you could be on the moon, but you still need to be filing U. S. taxes. So that part does not change, right? Now, here you are, you move to this other country.
Now, different countries, will tax your U.S. income based on a whole bunch of criteria. This is where the tax treaties and things like that come into play and we can talk about that, but what you want to be able to do as you're settling in this new country is make sure you have access to your funds.
One way of doing it is literally just using your U.S. credit card. It's kind of what I do when we travel and then you pay for it at the end of the month. So, you still have your money back home. In this case, back home is the U. S.
The other thing we want to try and do is possibly open a local bank account. The problem is not every country is very willing, believe it or not, to open bank accounts so you need to find the specific being that's willing to open an account for you. Once you have that account open, because you want to have some local currency, then it's very easy to transfer money. You can do a bank transfer. You can use a company like Wise. Actually, that's kind of what we use a lot of times to just transfer your money instantly in the U. S. account to this other account in the new country that you've moved to. Make sense?
Roger: Yes. Yes. Then if you're in a bigger metropolitan area, can you just use one of the multinational banks like Chase?
Jane: Oh yeah. Yeah. So that's probably what I would look for, but you kind of find not all branches are willing to deal with U.S. citizens so you need to find that particular branch that's willing to do that.
This is where. I know we talked about finding your community, but also finding online communities of like U.S. Citizens that have retired to that country. There's a whole bunch of them on Facebook.
Roger: Yeah. I think this is actually an area where there is a lot of self-organization that if you're thinking of living in Portugal. My guess is you could find a community of expats that share ideas and you can ask questions doing that because it's so country specific. It sounds like that's probably the number one resource to start hanging out.
Jane: Yeah. Yeah. I'll probably start there and then whatever I get, then I'll check with tax advisors and like that.
Roger: Which is still hard from a tax advisor standpoint, right?
So, if I'm going to live in, say, Brazil, Do I maintain my state residency from where I left? Like I live in Texas, no state tax. If I go live in Brazil for three years and I sell my house and everything else, do I just don't have a state? I guess?
Jane: So we talk a lot about moving to states like Texas, because you'll always need that home address, so we'll have folks that want to move from, like California to Texas, because we got no state taxes, but you need to figure out what the new state I mean, with Texas we should be okay, what the new state wants you to have to show that you are a resident of the state.
California doesn't like to lose people and so they kind of want to hold on to you. I think New York is the other one that really wants to hold on to you. So, one thing as part of your preparation is literally to move states and when you move states, you need to establish residencies. Like maybe get your driver's license, register to vote, like really show some ties because when you file your U. S. taxes, which you have to keep doing as long as you're a U. S. citizen, you'll always need to file some sort of a state tax. So that could be one way of doing it.
Roger: I have a few clients that are full time RV years. I mean, they don't have a house. They don't have any residents, and there are a few municipalities that semi cater to them. There's a city in Texas. I'm trying to recall the name of it. There's an agreement where people won't vote in local elections, et cetera, but that's their residence for everything, even though they're never actually home because there are nomads for lack of a better term.
Jane: I love that.
Roger: Okay. So, visas are specific to country and depending on how long you want to stay. And I'm assuming those kinds of retirement visas have restrictions that are bespoke around whether you can work in the country and how many hours.
Jane: Actually, most of the retirement visas say you cannot work in that country and then most of them will have other restrictions like you cannot be out of the country for more than 60 days but you're right they add restrictions on what you can do on that visa or not. Maybe we should talk about another different kind of visa.
Roger: Sure.
Jane: The investment visa. I don't know if you're familiar.
Roger: I am a little bit. I think Portugal has a somewhat attractive rule. I've had that conversation before.
Jane: Yeah, but now they're changing it. Essentially, you're going to go invest in this country. So, Austria, which is so interesting, says, invest as much as it will make an economic difference, and they're not giving you an exact number. Other countries like, I think, Panama, it was something like maybe 500k so you can make some type of investment.
Once you make that investment, they end up giving you permanent residency, which again is different from the visa and at some point, you could turn that into a passport. So that's where you hear a lot of second passport kind of situations. That's kind of where that comes from.
Roger: Okay. So obviously the visa navigation is, I'm going to characterize it is not overly difficult, just literally foreign to most people so it feels difficult because we've never talked in those terms, but you can navigate it relatively easily if you know the country.
Jane: I think so, and you get people to help you for sure. Yeah.
Roger: Yeah. Same thing on the financial assets and the taxation. Relatively straightforward, it's just rules that seem foreign to us, for lack of a better term.
Jane: Straightforward- ish, because every country is going to be completely different.
But you're right. Yeah.
Roger: What other considerations from the financial or logistical part do many people forget about or they need to make sure they think about?
Jane: So, the financial part of it is as soon as you put a foreign address one of them as soon as you put a foreign address on your U. S. passport or brokerage account, a lot of U.S. firms don't want to deal with citizens abroad. What they'll do is they'll probably just go ahead and close your account. They may give you a month to transfer all your assets elsewhere. Or they put restrictions on it so you can't really make changes. You can rebalance. You can buy, but that's about all you can do.
If you're thinking about making a move, you really want to start considering where your money is housed.
Roger: Meaning like a Fidelity or a Schwab or a Merrill Lynch or something?
Jane: Yes. Yes. So, Schwab and interactive brokers are probably your best bet. Alternatively, depending on the advice that you're using, places that you can't get to on your own would be an option. That's definitely something you want to keep in mind because you want to make sure obviously you can get your money out. That's the financial part of it.
Then in terms of when I think accounts, different countries, again, depending on where you end up going, has the accounts set up differently, this is kind of what I alluded to when I talked about tax treaty.
We all love the Roth IRA and we're doing that conversion and, you know, what doesn't things like that. But there are some countries that don't recognize that that's a tax advantaged account. If you're moving to a country like that, I'll probably say, okay, maybe we need to stop doing the Roth conversions and just leave all your money in the 401k kind of thing.
You want to give yourself time to kind of investigate some of this, if that makes sense.
Roger: It totally makes sense. It totally makes sense.
When it comes to Medicare, how does Medicare interact internationally if I'm in Brazil?
Jane: If you're outside the country, you can't use it. But you should sign up because you may come back.
Roger: Then when it comes to part B or a supplemental, you want to go sign up and pay it, even if you're not using it so you don't have to go through underwriting when you come back.
Jane: Yes.
Roger: I imagine one issue is going to be just exchange rates.
Jane: Yes, absolutely.
Sometimes there's not much we can do about it. It is what it is. That's why you want to think about, I want to spend my money both in USD and whatever this other country is, and that's where even just how you invest makes a difference. Again, there are organizations and banks that sort of give you preferential rate, but a lot of times it's what it is, which I know kind of sounds weird.
Roger: That's why the credit card, usually that is an efficient way of doing it.
Jane: Yeah. Yeah. So, what you want to do is when you're going to use your credit card, you want to pay in the local currency and that ends up giving you a good deal. Then if you use companies like Wise, like I mentioned, they give you better rates than doing it direct.
Roger: Now what is Wise? I am not familiar with them. So, what is that?
Jane: Oh, so Wise. It's not a bank, but it allows you to send money back and forth to different countries. So, I'll log into Wise and I'm like, okay, I want to take a thousand dollars from my U. S. bank, I want to send it to Kenya or whatever in this account and it happens almost instantaneously.
Roger: We'll have links to some of the resources that are mentioned in our 6-Shot Saturday email that comes out every Saturday morning so that way you can grab these if you want.
Moving to more of the non-financial. There's a lot of finance and we could go down rabbit holes in a lot of different areas. Anything that we need to make sure we mention. Before I move?
Jane: Yeah. So, another financial thing is once you get there, whatever that is, do not be tempted to invest in, you can invest in the stock market there and you can invest in different things, but there's something called a PIFC. I don't know if you're familiar with it.
Roger: I am not.
Jane: Passive foreign investment companies. So, any foreign based or foreign registered mutual fund falls into this. I know I just said we want to invest globally but do it through the U.S. mutual fund. So, if you invest, I don't know, let's say it's Denmark version of the global, whatever, something index, they end up being tapped punitively is really just the way to put it and it can be a real mess. Even when people move here and we look at the account and they have some of these things, you typically will advise them to try and get out of some of those if they can. You can invest in single stock, but don't invest in some of those, I almost want to call them toxic investments as far as the U.S. Folks are concerned.
Roger: So, the key is, even if you think you're going to live there for the rest of your life, still don't do it because you might not and if you decide not to, you're really going to have some tax issues.
Jane: Yeah. Talk to somebody before you invest in single stock. I think is really what it comes down to.
Roger: Or your heirs will, right? Or your heirs. If you do live there for the rest of your life, whoever inherits that is going to have a whole different journey, I would imagine.
Jane: Yeah, but it starts with you.
If you have, like I said, a foreign registered mutual fund, IRS says it takes 40 hours to complete the forms that you need.
Roger: Okay. So just don't do it.
Jane: Let's just say that's how bad they are, and then you need to think about like some estate planning. Again, to me, this is still financial.
A lot of trust, what we would do as a trust in the U. S. are not recognized as trust in a lot of these countries. Some countries have a wealth tax, you need to think about that. Some have an inheritance tax versus an estate tax. Based on how much money your assets replace, we may say, maybe, yeah.
Roger: There's a difference.
A couple that we're going to chat with, they go stay someplace three or four months a year, every year, and we're going to have a chat with them on the show, but they maintain their U. S. residence and it's a way of in a very efficient way getting what they want without all of these complications.
Jane: I love it. You don't become a tax resident of most countries until you've been there 183 plus days. That makes sense. I like it.
Roger: Now I was talking with a client, this is probably 10, 15 years ago. They haven't been a client in a long time, but they had the oddest journey in that their adult life in Abilene, Texas. And they moved to Hawaii, same country. Within two or three years, they moved back to Abilene, Texas, and everyone's like, what? You moved back from Hawaii to Abilene, Texas?
Their comment was, we felt trapped there because it takes forever to get someplace from Hawaii, and it was just so inconvenient for visiting your parents, seeing your children, the holidays. It's like being trapped in paradise. I think of that when I think of non-financial considerations such as that distance from family, from the non-financial, and you walked this journey yourself as a foreign student.
What are some things that we may want to consider?
Jane: That's probably the number one thing. You're going to be away from your family. So how do you deal with that? We're probably doing this in retirement. So, you might have grandkids on the way. Yeah, you may not see them for a while and you have to be okay with that. I love the idea of go spend, you know, three, six months somewhere else and come back. So that's a big part of it.
Then you always have to consider, do I have kind of like they said, how quickly can I come back if I'm needed or if I need to so that travel time, I think is going to be a big, big part of it as well.
Roger: I could see on the social side that if you're going to someplace that expats frequent, because there are these little communities of expats, just like there are in the U. S., I have friends that are Indian and there's a huge Indian community where you can plug into a social network and get integrated really well.
But if you're not going to someplace that has that. I would imagine it's hard to build a community unless you really are fluent in the language and comfortable culturally.
Jane: Right, and so that's the other thing, you're right, the community, and I think I want you to, like I say to folks when they come here, I understand wanting to hang out with them, people that are like you, but I think it's also important to get into the larger community if you can.
I think language is obviously going to be a big deal. If you can't speak the language they speak, that's a challenge to say the least.
Roger: Even if they speak English, it changes the relationship. I know when I went to Cuba, and when they discovered a friend of mine, Jamie, that he spoke fluent Spanish, they just lit up because they didn't have to struggle with their English words.
Jane: Right, and then just finding, I guess, I know where my HEB is, for example, just figuring out those little things, you know, figuring out where to find doctors. All of that, I think, is definitely a challenge.
Roger: Probably the most important question from that, I think, Jane, is, how quickly does Amazon Prime deliver here?
Like, where I live, it's the same day. In Colorado, it's two or three days, and they're like, what? I don't get it the same day.
Jane: That's crazy, and then you have other places where they don't make it. So that could be an issue.
Roger: As we've gone through a lot of these considerations, and this is a wonderful primer and I'm so blessed that you're talking with me because this is not my area of expertise, nor do I want it to be, is all of this really doable.
Jane: Yeah.
Roger: It's just different and it takes some navigation, but I want to go back to what we talked about the beginning. really define what is the output that you want from doing something like this, right? Perhaps you can get the output without having to go, meaning, you know, the experience, without actually having to go move someplace else.
You don't have to buy an RV, you can rent an RV. How could you recreate the experience? Because if you want to live somewhere as an expat, wonderful, you can figure this out, but it's just going to take some work. But I would imagine a lot of us when we dream about these things, what are the low resistance ways of gaining 80 percent of it without having to deal with a lot of the complications, etc.
Is that a fair statement?
Jane: Maybe.
Roger: Oh, okay.
Jane: I mean, do you want to restate it again?
Roger: If you're thinking about retiring as an expat and living internationally, I think you really want to define what it is you want to accomplish to see if you can achieve the objective without actually having to go live somewhere else and make a dramatic move.
Jane: Okay, I think you can.
I think what tends to happen, what I've seen is, and I don't know how many people do this and I know I still do it. We'll go on vacation somewhere and we relax and everything is good and we're by the beach and we end up collecting all these real estate things thinking, Oh, it'd be so wonderful if we could buy a house here.
But really, that's not enough for us to decide to move. So maybe it's really, you go, you have a moment, you enjoy it, and then come back and really look at everything that you have to your point and decide what am I really missing that I think I can achieve over there.
But for some people, They're folks I'll talk to and they're like, as soon as I've done five years, I'm going back. I'm going back. I try and bring them around to why, you know, what, why do you want to go back? What are you going to be doing when you get back? It's all the idea of, oh, life was so much better 10, 20 years ago. I can have these and not have it here. So, I think it's probably just deciding to be happy with what you have.
But if you're willing to take that extra step, absolutely go for it, but be patient, you know, it's going to take time.
Roger: I had a meeting with a potential client today, and I think this is a good way to end it, and they had an advisor and he said, the reason he was having the conversation with us was you focus 100 percent on retirement and decumulation and you've walked this journey so many times before. I want that wisdom.
I think if I were to explore living semi permanently or permanently in another country. If I'm going to work with an advisor, I would want to work with somebody who has some experience in that. Don't work with someone like me because even if I can go read some rules, I don't know what I don't know. This is where you want somebody that has done this and walk this journey many times.
We're going to definitely have you on again as we explore this. If you're open to that, Jane.
Jane: Oh, I really appreciate it. It's a fun conversation.
Roger: Yeah. I appreciate your wisdom and giving us a primer on expat retirement.
You can find Jane at elgonadvisorsfa.com. We'll have a link to it in our 6-Shot Saturday email.
Jane: Appreciate it.
LISTENER QUESTIONS
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IS IT WORTH SELLING INVESTMENTS AND INCURRING SIGNIFICANT TAXES TO CHANGE FIRMS AND REDUCE FEES?
All right. Our first question comes from a listener that responded to our 6-Shot Saturday email. That's our weekly email. If you love the show, you're really going to love our 6-Shot Saturday email. Where we share links to the show and resources, you can sign up for that at 6shotsaturday.com.
I'm not going to share their names. They asked me not to, but they're 59 and 63, both are currently employed.
They said,
"Hey, Roger, we're longtime listeners. We were considering leaving Morgan Stanley and Fidelity has suggested selling all of the Morgan Stanley taxable investments and reallocating the funds into Fidelity index funds for better diversification.
However, this move would incur a 24% federal tax and a 10 percent California state tax, totaling 260, 000. This would reduce our taxable investments from just over a million dollars to 792, 000. We have been with Morgan Stanley for over 15 years, and they recently reduced our fees from 2 percent to 1. 25%. Fidelity offers a 1 percent management fee.
The question is, does the potential long-term benefit of lower fees at Fidelity outweigh the immediate tax hit of 260, 000?
Thank you for your thoughts."
I'm going to have to make some assumptions here as to what's going on, because I don't have all of the data and that's generally the case here.
But your question is that they're doing it for better diversification and lower fees, you've mentioned them in two different places. So, I'm going to go that that is the logic behind Fidelity's recommendation.
I don't know what you own at Morgan Stanley. You said that you were paying 2 percent in fees. I'm assuming that's the advisory fee to the financial advisor. In addition to that, you likely would have the fees for the individual investments. 2 percent is a lot if it's just about investment management, by the way. It's a lot. I'm glad they reduced it down to one and a quarter, but geez, that's a lot.
Now, I don't know what the individual investments are that you own at Morgan Stanley. So, I'm going to assume that they're somewhat diversified in active management, mutual funds of some sort would seem logical. If Fidelity is recommending selling all of those funds, essentially selling about a million dollars. incurring the long-term capital gains tax in leaving you with about 972, 000 in order to provide you greater diversification and to lower your expenses.
If that's the rationale, uh, I'm not sure that that is the best strategy. My understanding of Fidelity's advisory platform where they charge the 1 percent is that you go into model portfolios within the Fidelity ecosystem and I've seen these portfolios be like 1520 mutual funds or index based mutual funds and then they rebalance on a systematic basis and maybe do some tax optimization on the side.
My guess is that is Fidelity's structure and they wouldn't take the Morgan Stanley funds for the 1 percent fee because everything they want is to go into their model portfolios. Again, I'm assuming here. If you're working directly with Fidelity, you're a square peg and their model is only about managing and rebalancing round peg Fidelity index funds. That is their business and this is a structured uniform business that scales very easily because they just put everybody into these model portfolios.
Again, I'm making a lot of assumptions here because I don't know your situation, but let's just step back on the diversification.
If you have a lot of diversified Morgan Stanley funds. There may be some opportunity to better diversify by moving to other funds, but I don't know if you need to do that in one big fell swoop to incur over a quarter million dollars in capital gains, whether there's enough meat there to do.
I don't have enough information on that now, but let's talk about lowering the cost.
So, you're at Morgan Stanley. I'm going to use some simple math here. You have a million dollars, let's say, and they're charging you one and a quarter percent which they lowered so that’s twelve thousand five hundred a year. Let's assume that you're in diversified mutual funds and they're active managed mutual funds and internally in those mutual funds that the advisor is managing, the average fee of those funds is 1%.
So, you're paying one and a quarter percent to the advisor. You pay 1% to the internal mutual fund. So, on those million dollars, you're paying about 22, 500 just for investment management and the advisor. That's a lot of money. It's probably way too much money if it's only about investment management. Maybe those fees could be lowered.
But the way you described what Fidelity is proposing is that they're going to charge you 1 percent to manage those assets, which is 10, 000 a year, and let's assume that they're Index funds are close to zero or one basis point, which is one tenth of one percent. That's about a thousand dollars. So, let's say all in at Fidelity, ten thousand dollars for them to manage the model and you to have a CFP to call, plus a thousand dollars, some friction costs within the Fidelity ecosystem of index funds. Your annual fees would go from 22, 500 to 11, 000. That's a significant reduction in paying for advisory expenses, yeah?
It's a difference of what? 11, 500 a year. Yeah, lower fees are better if you're not getting value for it. But should you sell all these after-tax funds in order to simply lower fees? Well, to divide 260, 000 as a capital gain by the 11, 500 a year you would save, it would take 23 years to recoup the taxes that you paid on all of these long-term funds.
Now it's more subtle than that because at some point taxes will have to be paid on those long-term capital gains assuming that you sell some or all of them in order to fund your retirement. You said you're still working, you're 59, 63, but I question whether using such a blunt hammer and doing it all at once only to save fees and maybe get some better diversification is really the best way to do it.
Now, I always rile against people about over optimizing because we focus too much there. But how you navigate going from current state to what an ideal low-cost index-based state probably could use some tax optimization and do this in a more gradual way that is combined with how are you going to pay for your life in retirement.
You're on the verge of retirement, I think you said. Yes, you want to start thinking through having a vision and a feasible plan and making it resilient and that may cause you to sell some of these funds in order to fund your retirement. But rather than do it up front, I would go through building a retirement plan first before just pulling the trigger on that based on what you told me, greater diversification and lower fees. I don't think this makes sense.
I bet you well, this is my judgment. My judgment is that the recommendation to move from those funds into the Fidelity platform and all Fidelity funds has more to do with, that's their system and everybody has to fit in their system, then it does what is the best course for your retirement plan.
I'd be cautious about this, and before you sign up with Fidelity, maybe explore other options. that can be more bespoke to your actual situation. This doesn't seem right to me.
HOW TO PLAN RETIREMENT WITHOUT USING THE 4% RULE
Our next question and comment comes from Marlene pondering the 4% rule.
Marlene says,
"Hey, Roger, I recently saw your article discussing how the 4% withdrawal rule may not be enough for some people."
Actually, Marlene, I don't think it's right for anybody.
"While listening to your recent podcast, you discuss how we shouldn't plan for tomorrow, but live for today. I'm paraphrasing. I think we need to plan for both. Need to balance between those. I've always believed that the time is now. My husband and I are in our mid 60s and still in relatively good health so now is the time to take advantage of things we want to experience. This got me thinking.
We both have very small pensions and my husband is collecting Social Security, I am waiting until 70. We are also withdrawing from our retirement savings. I checked the amount of our withdrawals, and it's just under 3%.
We are debt free and have more than enough money to live on each month. We have no children, so no one to leave money to. If we were to increase our withdrawals to 4%, what do I do with the extra money?
I have always wanted a second home, but not sure if that is wise. Do I take a large chunk of cash out of the retirement fund or do we take a mortgage?
We would like to enjoy the money we work for. How much do we keep for what is in the future?
Hope this message makes sense."
Marlene, it definitely makes sense. I commented a little bit on your comments. I'm not a big fan of the 4% rule as a planning tool, it's a good heuristic when you're farther out and wondering how much to save, but when you're in retirement, I actually think it's a horrible way to plan a retirement because it is likely that if you use even a 3 or 4% rule, it's likely you will end up dying with way too much money.
As you said, you don't have any children. It's your husband and you, and you want to use the money to create a great life. So then how should you approach this? I don't really know if you should increase it to three to 4%. I don't even think that model is a proper planning tool, but I think you should do in your situation, because it sounds like you're likely overfunded based on your comments and what you shared is to build a plan that will fully fund your base great life using your pensions, your social security and your assets. So, build a plan that you have high confidence in will fund your base great life. That base great life.
What do I mean by that? That is not rice and beans, but that's normal travel, normal do all the household expenses and taxes, et cetera. The fact that you're going to have to buy cars periodically, a good life without all the extras. So, start with building a plan that is highly feasible to fund that and that will back you into how much money, how much of the assets you have to fund that base great life you need.
If that amount is less than the amount that you actually have, the excess in theory could be spent today. It could all be spent in day one, or it could be spent throughout your retirement based on the flow of things that you want to do. You could start off by building a highly resilient plan to fund your base, great life, and then identify the money that basically you over saved that you could siphon off and give away in one day, theoretically, and still have a base great life. I wouldn't siphon that money off but that will give you a sense of how overfunded you might be, then you could explore Well, what if we did extra travel? What if we did an extra giving what if we did a? Large VRBO rental every year, or in this case, what if we purchased a second home?
Now, a second home is a much more permanent thing than extra travel, right? It's a little bit harder to undo that decision. So, you'd be a little bit more cautious with that. Don't get into whether I do a mortgage or not, currently if you're thinking about a second home, let that be down the line a little bit but then you can add these things on and test whether they're feasible. Then you can also test whether they're really something that's important to you.
But my big message here, Marlene, is I would rethink how you're planning for retirement.
I would not use a percentage rule, whether it's 3% or 4%. I would build a bespoke plan by identifying how much it costs for your basic rate life, confirming that it's feasible using software, making it resilient in your cash flow planning and allocation, and then figure out what you want to do with the excess.
I would not use the withdrawal method that you're using because I think it's going to lead you towards. having way too much money in the end.
Now, as an aside here, Marlene, for those that are blessed to be overfunded, it comes down to how much do I enjoy today and how much can I be okay later on? I don't say live for now. You definitely want to balance having a great life today and feeling confident that you're being a good steward for tomorrow. There's going to be a tension between those two competing interests that will always be there, and you're never going to figure it out but you're going to balance that.
When you're thinking about living for today, just buying a second house as you threw out there is an option for sure, but I would really examine why you want to do things that you want to do. So, the way I like to go about it is establishing what your top 10 values are and then think of ways that you could live that would represent you living out those values. That's where your goals should come from.
So as an example, one of my top 10 values is quality relationships. A goal that could come out of quality relationships might be that I am going to fund a family trip every other year and if my kids can't cover the cost because they're younger and working, I will pay their way and pay the way for everybody to get together so they can create experiences. That goal is congruent with one of my values of quality relationships. So that's the way that goals should come out. is what values do you want to live in your life? And then the goal should be a derivative of those values.
I think that's a really good way to go about figuring out what to do with excess money, because it's more about enhancing who you are than it is about just spending money.
That's my thoughts. Hopefully that makes sense to you, Marlene.
WHERE TO PUT YOUR CONTINGENCY FUND
Our last question for today comes from Chai and looking at prefunding.
"Hey, Roger, I like your suggestion of prefunding a five-year income floor. Is it feasible to hold a portion of all of that amount in a fluid CD or money market or short-term treasury bond that earned something to just account for inflation?
You had also suggested holding a second bucket of contingency funds for both of these sources. What is the best way to replenish them? Should I be looking at dividend growth income as a third source for the growth bucket?"
That's a great question, Chai.
So what Chai is asking about is in the resilient stage of planning, once we've identified our goals, we've built a feasible plan.
Next step is to have a contingency fund, which is really allocating all of your assets. If you have a million dollars, you're going to want to have some of that as a contingency fund or emergency funds, and let's say that's a hundred thousand dollars, and I'm just making these numbers up. We have a hundred thousand dollars as a contingency fund. The point of that fund is to account for bad estimates, bad assumptions, the fact that you're maybe going to change what you value and maybe need to spend more or less. It'll count for bad inflation assumptions, et cetera, and just for life happening.
Then on top of the contingency fund, you're going to prefund the first five years of paychecks that you need from your investment. So, in my theoretical million dollars, we put 100, 000 to a contingency fund and let's assume you need 100, 000 each year for the first five years. You would have another 500, 000 that would be allocated and mature roughly when you need it. So, if you need 100, 000 in two years, you will have something safe that would mature right before you needed to pay yourself your paycheck. You're prefunding your paycheck.
What Chai is asking is, what did this money go into? Well, the key attribute of these investments for these two buckets is going to be number one, this is by priority, return of your money by a certain date. It will mature. Your money will be paid back and you know the exact date that you're getting the money back. That's the attribute of a bond or a CD, et cetera.
Then second objective in order of priority is you want to earn interest and be paid, so you can be a good steward of that money.
In the contingency fund, we're likely going to use money markets or CDs or something that you can get readily quickly for cashing in case of emergency, and then for the five-year income floor, you could use CDs, you could use treasury bills, you could use individual bonds, you could use individual multiyear guaranteed annuities, etc. As long as they mature in the timeline that you think you're going to need it.
Now, Chai, you mentioned, well, could I just own CDs or money market, or do I have to build it out year by year? No, you don't have to build it out year by year. You could keep it all in a money market if you wanted to.
Now, how do you replenish this? A year goes by and now you have a four-year income floor, not a five-year income floor. Well, the first thing you're going to do, and this is what we're doing in the club right now, you need to reassess your entire plan because likely your spending goals have changed, right?
You have inflation that's higher or lower. You have spending patterns that weren't quite what you thought they would be. Perhaps you were planning on a car next year, but it's actually going to be three years from now. Step one is to reassess your entire spending plan to align with what actually is happening and what your current preferences are, and then you determine how much you have as a five-year obligation. Then you go through a rebalancing plan to rebalance all of your accounts in order to either have a five-year income floor, or you decide you prefer to build it out longer. So, you build it out longer, or maybe you build it out a little bit shorter. This is going to be the art of this exercise.
Now, what do you do with the rest of the money?
In this example, we have 100, 000 in contingency and 500, 000 in an income floor. Well, that leaves 400, 000 for long-term investments. Now, Chai, you mentioned dividend growth strategies. Yes, this could go into a dividend growth strategies, and that's not what I do. I put it into a total return allocation that is focused more on growth, and it will stir off some dividends and capital gains, but I don't look at income specific strategies personally, that would be in the optimization phase, and there's advantages and disadvantages to any strategy.
Hopefully that gives you some sense, Chai, of how to approach this.
With that said, let's get to a smart sprint.
TODAY’S SMART SPRINT SEGMENT
Now we're off to set a baby step you can take in the next seven days to not just rock retirement, but rock life, right?
In the next seven days, I want you to examine the advice that you're getting and if you're doing this on your own, I want you to examine your process to make sure that you're allocating assets in the context of your actual retirement plan.
For decades, if you've been in the accumulation stage, we haven't had to have a purpose for the dollars other than grow, grow, grow, grow, grow. I'm saving, I'm investing, I'm trying to ignore the markets and let time and markets do its thing. If you are within five years of retirement or if you're in retirement, having no purpose for how every dollar is allocated no longer makes sense.
You should have a purpose for every single dollar and how it fits into your retirement plan. You should have your contingency fund, know exactly what that money is. You should have your income floor, knowing exactly what that money is and how it's allocated, and you should have your growth or upside portfolio. You would have those three different allocations, and you should be able to look at your net worth and all the accounts and know which accounts or which parts of the accounts are allocated within the context of those three areas.
Every dollar should have a purpose, and that's a very big change from accumulation investing because we're at retirement or in retirement or near it. Now we have to start assigning purposes to dollars so we know how we're going to pay for life.
Reevaluate the advice that you're getting. If it's not in the context of your overall retirement, question the advice that you're getting and maybe reset that with who you're working for or look for someone new. If you're doing it on your own, then reassess your process so you can make sure you're assigning every dollar. When you don't have clarity on how this retirement thing is going to work, if you don't have clarity, you're not going to have confidence, and when life happens or the markets happen, it's going to be a lot more stressful than if you've gone through a prudent process.
CONCLUSION
Next week on the show, we're going to have some stories from people that have lived an expat life or sort of hybrid expat life, as well as a good friend of mine, Richard, who has twins that are disabled that he's walked that journey with. They're in their 20s, but also, he has a business that serves people with disabled children, so we'll begin to explore this unique retirement.
That said, I am in Colorado on a solo two-week retreat.
Now I'm working. I'm recording the podcast right now. But I have an agenda to reset some habits as well as have hopefully massive action on some projects for the club that I'm working on. One of the projects for the podcast is we're making lots of changes, so we're working on that project.
I realized that my wife and I got married, I moved down to Texas from Michigan, did an internship, and I had an apartment. Then we got married the fall after I moved down, but even though I had the apartment, we were hanging out all the time because we were engaged. I literally have never lived by myself for any extended period of time.
Now I'm here in Colorado by myself for two weeks. No pet. It's different. It's quieter.
Luckily, I tend to like myself and being by myself, but I'm sure I'm going to get lonely. I'm on day two and a half. Guessing I'm going to get lonely. We've been doing some face timing and things like that, but I also am enjoying the peace and figuring out what to do with all this time I have.
Interesting experiment. I'll let you know how it goes. I hope you're having a wonderful day wherever you are.
The opinions voiced in this podcast are for general information only and not intended to provide specific advice or recommendations for any individual. All performance references are historical and does not guarantee future results. All indices are unmanaged and cannot be invested in directly. Make sure you consult your legal tax or financial advisor before making any decisions.