2021 EP0807 Planning Matters Radio The Landon Podcast

We want you to plan for success. Welcome to Planning Matters Radio. And welcome into the program. This is Planning Matters Radio. I am Peter Rachan, founder, advisor at Rachan Planning.

You can find us online at richonplanning.com and have a new voice on the air for today's program. One of our youngest members of the team at Rachan Planning, Landon Holland. And Landon takes care of producing many of these radio programs. So Landon, 17? Yes, 17 years old. 17 and has been listening to a lot of the financial discussions and language and you're starting to pick up on some of the things, Landon. You're asking a lot of pretty smart questions for a 17 year old.

Oh yeah, for sure. Cause a lot of that stuff is really interesting to me and I like that I can have the best of both worlds cause I like editing and then I can also learn more about financial stuff that I don't really know about and I can get a jump on for the future. Yeah, well at 17 years old, if you get a good handle on your money, start to really think about it and act intentionally with it, you will be in great shape in the future cause it probably took me until at least my mid to late twenties before I really started, in my opinion, making wise financial decisions. My past, my background is I was running several talk radio stations and I actually got to run the board for Dave Ramsey when I was 24, 25 years old. He came to town and this guy's message was stay out of credit card debt by all means necessary in any way you can.

I was like, Oh yeah, spot on. So I mean you're starting to earn a little bit of money. You got a paycheck coming in. You're doing great work here by the way.

I appreciate all you're doing. What are you doing with your money? What are your financial goals? Have you thought about what you want to have happen with your money?

Really save up, earn more. I know we've spoken about personally a Roth IRA save right now so then I can put those savings into a Roth IRA. You mentioned the Roth IRA. Absolutely.

That's spot on and that's the one that if I'm 17, if I'm you in your shoes, that's, that's what I'm doing. And the reason why is the future tax implications. Do you understand the difference between a traditional IRA and a Roth IRA yet? I know Roth IRA is something that you can open up when you're 59 and a half and that's mainly used for retirement.

Yep. So the big difference is the tax implications. So for either one of them, they are considered retirement accounts, right? A 401k, a 403b, TSP, an IRA, a Roth IRA, a SEP IRA, a simple IRA. All of those are different parts of the tax code and, and for like a 401k it is literally the tax code section 401 subcode K is where it gets its name.

That's the where you will find it in the 70,000 pages of internal revenue tax code. But all it says is that you are specifically earmarking dollars today for retirement in the future. And with all of those retirement accounts across the board, they are intended for retirement.

So you are technically not supposed to touch them until you're 59 and a half. But because you are specifically earmarking them for retirement and placing them in these tax qualified accounts, you get special advantages for that. With a traditional IRA, the advantage is that you don't have to pay tax today. You can actually save that money and put it away and you get to do that before uncle Sam sees it before any taxes are taken out. And from now until the time that you use that money, it grows and you don't have to pay tax on it.

But here's the catch. They're going to tax every dollar at some point in time. So you don't have to pay tax now. You don't have to pay tax while it's growing. But with a traditional IRA or a traditional 401k, when you use those dollars in retirement in the future, that's when they get taxed. So the story that I tell to illustrate the difference between a traditional IRA and a Roth IRA is there's a farmer with a bag of seeds. The tax man comes up to him and says, hey, Mr. Farmer, you're going to owe tax sometime. So your choice. Do you want to pay tax on the bag of seeds now and I'll leave you alone forever when you grow your crop, you harvest it.

It's 100 percent tax free. Or I'll let you keep your bag of seeds now. But come harvest time, I'm going to tax you on the harvest. Right.

Which is the better deal? Seeds, of course. OK, so that's the Roth IRA. You're paying tax on the seeds and you get to keep all of the harvest. And the other thing, if you think about it, when you invest money, your goal is growth. Yeah, I invest my money because I want it to grow. So if my money grows from a thousand dollars to five thousand dollars to ten thousand dollars, heck yeah, I'd rather have ten thousand dollars, but I'd rather pay tax on one thousand dollars. So if you're letting your accounts grow tax deferred and then you're paying taxes later, guess what? The IRS's goal is for you to grow your money, too, because they get to tax more money in the future. So, again, why I think right now the Roth IRA makes sense not just for you, but for a lot of people. They need to really be looking at the Roth IRA.

The rules on it are that you cannot put in more than six thousand dollars in a given year. So Dave Ramsey would recommend the baby steps. These are basically step by step instructions toward how to handle your finances, get out of debt and build and grow wealth.

The first three are really about getting out of debt. So baby step number one is have a what he calls the baby emergency account, and that's a thousand dollars in the bank. Once you have a thousand dollars in the bank, it's not meant to make you feel comfortable.

It's actually meant to make you feel uncomfortable that you only have a thousand dollars, but it's meant to keep you motivated because you want to get more than that. But you can't until you complete baby step number two. Baby step number two is lining up all of your debts, smallest to largest, and knocking out all of the debts except for your house.

Right? You don't have the house yet. You don't have to worry about that. But do you have any debts ? Do you have any payments and debts that you're handling? I set up on a payment plan with my mom to get a computer.

Okay. Do you have any other debts? Any other payments? Payments wise, I have a phone bill that I pay and take care of.

Okay. So you have two debts, the phone and the computer. What Dave would want you to do is pay those off.

Okay? So that would be the first primary focus is pay those off. Then you build up baby step number three, your fully funded emergency account. And the purpose of an emergency account is to prevent emergencies. It won't prevent the actual occurrence.

It will prevent it from being an emergency. Because if I have a tire that pops, which I did this past weekend, we were driving back from my wife's 40th birthday party. We came from the mountains. We were driving home back across 64 across Jordan Lake. And all of a sudden I get an alert. Your tires gone flat. We pull over at the next gas station and the tire was completely flat.

I pulled it off and it had just been eaten away on one side. Well, come back home $800 for four new tires. Cause if you get in one, you got to get two and the other two were not in great shape either.

So four new tires, plus an alignment $800. If I don't have an emergency account, that's a, that's an emergency. I'm going into debt to take care of that. But if I do have an emergency account, yeah, it's not really an emergency. I can stroke a check and make the problem go away.

It's just an inconvenience. So that's the purpose of having that emergency account there. Now, you know what an emergency account's not going to do a lot of for you? Spending. Well, you don't want to spend it. That's right.

It's kind of sitting over there gathering dust, but it's also not going to grow a whole lot, right? You're, you're keeping generally your emergency account, you're keeping it in the bank. And so over the course of the last year, banks have been paying 0.01% interest, like less than 1%. However, inflation has been closer to like five or 6%. So truthfully, at the end of the day, the emergency account has lost value because it's not buying as much as it did at the beginning of the year. So that's why we have an upper limit to the emergency account.

Now you're 17. So if we got you saving out until retirement time, so we'll put you through what was formerly full retirement age, age 65. And let's say for the next 10 years, you maxed out your Roth IRA, saving $6,000 a year. And let's assume that you are relatively aggressive in your investments and you earn 8% per year. It's actually not a highly, highly aggressive rate of growth assumption, but let's, let's assume that you grow your account by 8% per year times 1.08 plus your next year's contribution of $6,000. And we save for the next 10 years up until you're 28 years old. So at 28, saving $6,000 a year and getting 8% growth, you would have just under a hundred thousand dollars be $99,872. And let's say at that point you stopped saving. Okay. And instead of saving, we just let that $99,000 grow at 8% from that point forward.

Okay. So now we stopped contributing by the time you're 65, you've saved for 10 years, $6,000 a year. So you saved a total of $60,000. There would be $1.86 million in that account.

$1,860,160.75. For just saving for 10 years. For saving 10 years, $6,000 a year.

Yep. So let's compare that. What if we didn't save for the next 10 years? You didn't save anything for the next 10 years, but after the 10th year you started saving and we're going to save $6,000 every year for the rest of your life. From that point forward, we get the same 8% growth. How much do you have by the time you retire? Now here we've been saving now for 38 years. For that reason, you would have $1.321 million. $1,321,895. But you would have had to have put in almost $240,000 of that compared to the 60 that got you the 1.8 million.

Okay. So that's the time value of money. When you look at the curve and it's showing you compound interest and how money grows over time, if you miss the first part, you don't miss the first part.

You miss the last part where it's growing like the hockey stick. And that's what all young savers or earners or anyone with a job needs to realize. That the earlier you start saving, the more is going to be there later. When I started my career back when I was running the radio stations, I was actually working for a decent company that offered me a 401k and even matched on that 401k. And I had built up like $15,000 in that 401k. Well at 24 years old, that $15,000 to me represented a new car.

Right? I'm going to go out and buy a car with that. So I ripped out my 401k. I paid the tax on it.

I paid the 10% penalty in addition to that. So I ended up only getting like 65, 70% of what I had saved anyway. $10,000 and I went out and bought a nice green Honda Civic.

Right? That $15,000 today, had I let that grow, not even adding anything to it, but just let it in that account to grow, would have been putting me well on my way toward a much better looking retirement. Like that, that first several years of saving is important. Now let's do another one where you actually save $6,000 a year for the rest of your, your life until 65. $3,182,056 is what you would have getting 8% growth, 8% assumed growth rate on average over time. And I made that just a linear 8%. It's not really how the real world works.

The market doesn't give you 8% every year, but if you averaged 8%, you know, these are ballpark numbers for you. So start saving now. Right? Okay. Good advice.

Good advice. Thank you. Yeah. What other questions do you have? You came in, you said you'd been listening to some of these podcasts. You've been trying to figure out, you know, some of the things about the financial world. You sounded like you had some questions.

What kind of questions you got? Plus I've been reading the amazing book, which actually the author is Peter Shonk. Okay. All right. I love it.

I love it. This is more about money markets and it says that it can be treated like a savings, but also you can only write certain checks. Yeah. And only certain amounts on those checks. Yeah. Now say you weren't thinking about it and you wrote a check off of that account and it wasn't going to go through because you went over the amount you were supposed to spend on that account that month.

Yeah. Would that be shown as a bad check? So it would probably have an additional cost to it. If you have money in the account, they're not going to show it like as a bad check, but you do have a limit inside of a money market with how many checks you're supposed to be able to write per month. You know, banks, the little secret is that they don't actually produce anything. They don't make widgets. They don't make goods.

There's nothing that people buy from them. They provide storage for your money. And the way that they make money is off of the fines and the penalties that they assess people who don't know how to handle their money once they've trusted them to store it in overdraft fees, in bounced check fees, or off of a concept called arbitrage. If you come in with a thousand dollars and you say, Hey bank, I need you to keep this safe for me, hold onto it in my checking account.

And then I come in and say, Hey, I've got an emergency I didn't plan for. I need to borrow a thousand dollars. Well, they've given you one half of 1% for sitting your money there. And when I borrow it, they're going to charge me 9%. That's called arbitrage. It's the difference in interest rates, right? So that's the way that banks make their money. They also offer different types of accounts for different purposes. So your checking account usually is the first one that people think of in the bank. And that's where transactions happen. The purpose for a checking account is for the deposits to go in and the expenses to come out. And that's the one that allows you the most transactions. In fact, they don't limit your transactions. You can have as many as you want, but the interest is pretty pitiful. All right. Once you've got enough in your checking account to cover probably one to two months worth of expenses, and you're not going to write any bad checks, you're not going to overdraft it.

You're not going to bounce anything. You've got enough money to come in every month or every week or every pay period to cover the expenses for that same pay period. Once you've got like one to two months worth in the checking account, generally you want to spill over to a savings account. And the savings account doesn't have as many transactions, but also offers a slightly higher interest rate. The money market account is one step beyond the savings account. Generally, they allow you very limited transactions in the money market. Maybe one or two checks can be written off of it per month, but it has a slightly higher interest rate than even the savings account.

To me, there's not much of a value in the money market. You can have one if you want, but between a checking and a savings account at a bank, that's really all I need a bank for. I don't want to keep more money than is necessary in a bank because they're paying next to nothing. So my checking account is where I keep about two to three months worth of expenses. My savings account, I keep a little bit more than that.

That's where the emergency account is, three to six months worth of expenses. Over and above that, if I kept more money than that at my bank, I would be losing the opportunity to make that money work for me in my investments. Because if we stick your $6,000 a year in a bank, it's not getting 8% growth. It's getting 0.01% growth. And if you want to see these numbers change pretty dramatically, let's change the interest rate to 0.01%.

And by the time you're 65, you've got basically what you put in. So that that growth that we got from investing that money is going to be real important. Well, it says that CDs are protected against inflation. They are more protected than a checking or a savings account. What about interest, right?

That's why. So they are not protected against inflation. But CDs, I am dedicating my money for a longer period of time.

This is no transactions are going to happen from this, right? This is I have some money right here that I do not need for one year or three years, and I put it in a CD. And they're going to pay me a slightly higher interest rate. So a three year CD right now is getting like one, one and a half percent. It's not protected against inflation, but it's better than the checking account and the savings account that we're paying 0.01% or a half of 1%. So the purpose was to have safe money that better kept up with inflation. But right now in this low interest rate environment, they're not keeping up with true inflation.

And I actually would look elsewhere. Even for money that you want to keep safe, there are better interest rates available in other places. If interest rates decline, bonds go up in inheritance value.

In their inherent value, yes. So this is an interesting concept, but it has to do with supply and demand on the open market. If I buy a bond today and that bond is $10,000 and it's paying me 4% for one year, and then interest rates go up and now they're 5%. So a new investor, you come in behind me and you're like, well, I've also got $1,000 and I want to buy a bond, but now it's paying 5%. Well, why would you buy my bond if I wanted to get out of it?

Because mine's only paying 4%. In order for me to make my bond attractive for you to buy, I've got to lower my price because interest rates have gone up. So in a rising interest rate environment, the price of bonds actually goes down and vice versa. If I've bought a bond that is going to pay me 5% for 10 years and then interest rates go down and you step in and you say, I want to buy a bond, but now you can only get one at 3%.

I can say, well, I got this 5% one over here that I'll sell you, but I'm going to charge you $12,000 instead of the $10,000. So as interest rates have come down, theoretically, bond values should have gone up, but we're in a weird environment where they haven't. So right now, the price and the interest rate of bonds are both pretty low, but as interest rates start to climb, hopefully at some point in time for savers, it would be a good thing as they start to climb, the value of those bonds can go down and they will go down. And so bonds were once considered like a safer kind of investment, but we're actually seeing that not only are they paying a pretty low interest rate, but they are not the gold standard of safety that people once thought they were. This is actually on money market mutual funds. And it says that the risk level is kind of like low or it's more in the green. Yeah, it's pretty low. But it sounds pretty risky to me because it's not protected by the FDIC.

Great question. So when you have money in the bank, it is protected by the FDIC. Up to certain limits. So the FDIC is the Federal Deposit Insurance Corporation. It is actually an insurance corporation that is behind the banks that says that you as an account holder, if you open an account with a bank within the US and that bank goes belly up, it goes out of business, the FDIC will step in and help to ensure and protect you as an individual and your deposit up to a certain level.

That level is $250,000. Nobody should keep $250,000 in a bank, but they protect up to $250,000. The reason why that exists is because back in the Great Depression, what caused a lot of the hardship was that people ran to the banks and tried to pull all of their money out all at once. Well, the banks didn't actually have all of that money because they had loaned it out to other investors, to other people. And so when everybody goes to the bank all at once and says, give me my money, and the bank says, hey, we don't have it, that creates a panic.

That creates a scare. And so the insurance industry actually stepped in and helped to bail banks out during that time. And that's why insurance has some tax advantages with life insurance and annuities that banks don't offer. But a money market mutual fund is actually offered by the brokerage industry. They don't have FDIC insurance. If you put your money in a brokerage account, it's not insured and protected by the Federal Deposit Insurance Corporation.

It can and has the potential to, at some point in time, lose value. Well, they offer what is essentially a holding tank and says, yes, you have placed your money with us because you want to invest it. But maybe you're not ready to invest it quite yet.

Maybe you just want to hold it here until the time that you're ready to find something to invest in. So they offer what are called money market mutual funds, which basically are one share, one dollar. They have a dollar per per share unit price.

So if I have a thousand dollars, I bought a thousand units of the money market mutual fund and it's designed to keep its price at one dollar per share. And if that brokerage firm goes out of business and goes belly up, yeah, I could lose that money. That's where it's different than the FDIC insured deposit of the bank. But in all likelihood, that brokerage firm is not going to go out of business while I'm sitting around waiting to find something to invest in, at least hopefully it's not.

And there are still some protections. They're just not the same as FDIC insurance behind certain brokerage type of investment accounts. How would you get your money out, like a regular account or? Yeah, I mean, you basically have them transfer the shares, have them cash out the shares or transfer the shares to wherever you want them to send it to, to the destination.

So for instance, if I've got a brokerage account and I own Apple and Amazon and Netflix and a handful of other stocks, or I own a growth fund, a mutual fund, and I need $10,000 out of it, I contact the financial institution. I tell them I need enough liquidated to create the $10,000 in cash. And then I need the $10,000 sent to my bank. And they'll send it to the bank. At the end of the business day, they'll sell the positions. And the next business day, the cash is there instead of the shares that I used to own.

And then they send it to my bank where I can withdraw. Generally, if you don't see yourself not using the money for 10 years, if you can't, if you can't envision it being invested for 10 years or more, it really shouldn't be invested for 10 minutes. Because if I've got enough for a down payment on my house, let's say I had $50,000 and I'm not quite ready to buy a house just yet. And so I'm like, well, in the meantime, I'd like to make some return on investment with my $50,000. And I put it in the market and then COVID hits and we lose 30 percent. Right now, I don't have $50,000. Now I've got $35,000. We lost 30 percent of my money.

So. I go to use it when I want to buy the house a year later and it's down in value. You know, I don't have the money to buy the house and I have not achieved my goal of a return on investment.

And we don't know when those downturns are going to come. So unless you can, unless you can say I'm going to leave this money invested for like five or 10 years and really closer to 10 years, you really shouldn't invest it. If you've got an immediate reason that you're going to need that money.

And when I say immediate in the next one to three years where you are planning on using the money, it shouldn't be invested. Well, so that was just a few of the questions and I see in your book, Landon, you've got several other questions here and then we'll talk about those on maybe later programs. But it's good that you are thinking about these kind of things where you are in life because it's going to give you a lot of opportunity to be in a good financial money situation later on in life to know these things and be thinking about them now and to act on them. But what we do is we try to help people put plans together at Rashan planning, right? So if you need a plan, ladies and gentlemen, this is just kind of an overview of some of the things that we would talk about and I can lead you through the process as well. And our team here, we care about our clients. We try to do right by them.

We talk with them and meet with them personally. We are here as a resource when they do have financial questions come up and we will put a plan together so you know what the job is and what the, what the goal is for each dollar and each investment that you have. So if you'd like to take advantage of that opportunity, if you'd like to get the optimized retirement plan put together for your goals, give us a call at 919-300-5886. 919-300-5886. Visit online, rashanplanning.com. It looks like richonplanning.com. And Landon, thanks for being a guest on the program and talking a little bit about your personal financial situation.

I know that's not always, always easy, but thanks for sharing. Of course, anytime. Also, don't forget the book, Understanding Your Investment Options, made by your very own Peter Rashan. Yeah, you can get that on the website. Visit richonplanning.com.

You can request your free copy there. Thanks for tuning in. We'll talk to you soon here on Planning Matters Radio.

Take care. This has been Planning Matters Radio. The content of this radio show is provided for informational purposes only and is not a solicitation or recommendation of any investment strategy. You are encouraged to seek investment tax or legal advice from an independent professional advisor. Any investments and or investment strategies mentioned involve risk, including the possible loss principle. Advisory services offered through Brookzone Capital Management, a registered investment advisor.