Income Planning


 

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Transcript

Zach – Hey, everyone, Zach Holcomb here, here with Michael Reese, certified financial planner and CEO of Centennial Advisors, here with another podcast and blog. Mike, how are you today? 

  

Michael – Oh, I’m doing great, Zach, as always, and I know we’ve got a really, kind of a fun and interesting discussion for today’s blog and podcast. 

  

Zach – We do, we’re going to be talking all about income. I know that’s one of your favorite topics. 

 

Michael – Oh, yeah, you know, they say… What do they say, what’s… We’ve talked about this, so Zach, what are the three words that represent success in real estate investing? What are the three words? 

  

Zach – Income, income, and I think income. 

  

Michael – No, no, no, in real estate it’s location, location, location. 

  

Zach – Location, location. I knew it was something that repeated three times. 

  

Michael – Yeah, and then it’s retirement income. Success in retirement is three words. Zach, I’m just going to have to give you some flash cards or something for these discussions. But anyway, yeah, success in retirement’s all about income, and you want to make sure, if you want to have that retirement that you truly deserve, well, you have to make sure you’re making smart planning decisions, smart financial decisions, and when it comes to retirement planning it’s really income planning. You know, how do you generate stable and predictable income that lasts your lifetime? I mean, that’s what it’s all about, right? And there are other issues, of course, but that, at its core, that defines a successful retirement, right? 

  

Zach – Right, absolutely. 

  

Michael – Yeah, so I know one of the things we might talk about today is how do we generate income in this low interest rate world we’re in? So imagine this, Zach, let’s start with this. Let’s pretend I came to you and I said. “Zach, have I got a deal for you.” 

  

Zach – Oh I’m excited. 

  

Michael – Okay, are you ready? Are you ready? 

  

Zach – Yeah. 

  

Michael – So here’s the deal. The deal is this, how would you like it if I could guarantee you a 16% return, 1-6, 16% return, absolutely guaranteed for the next 10 years. Each and every year you can either take that 16% for income, you can reinvest it. How would you love that deal? 

  

Zach – Where do I sign? 

  

Michael – Yeahit’d be awesome, right? 

  

Zach – Yeah. 

  

Michael – Now, here’s my question, though. Does such a deal exist in today’s world? 

  

Zach – Unfortunately not. 

  

Michael – No. I mean, you can’t get that right now. Did such a deal ever exist? 

  

Zach – Yes, not in our time though. Not in 2020 

  

Michael – Ah, see it depends, right? Not in 2020. Back in 1981, right, so we have to go back just… This is before you were born, right? We’re talking 40 years ago. 

  

Zach – Quite a bit before my time. Yeah. 

  

Michael – 40 years ago, the 10 year treasury bond issued by the government. So you could go to the government, the federal government. You could lend them your money in a bond and they had a guaranteed 10 year rate about 16%. Now I don’t know, might have been 15.81 or something like that but the point is, that was a real deal back then. I mean, how cool would that be? I mean most people today they say, “Gosh Mike, if I could just get 5% from treasury bonds today that would be.. I’d be jumping all over that.” Much less 16. But here’s another question, what are treasury bonds paying today? So if you went to the federal government today and you did the exact same deal, you said, “Okay in 1981 if I lent you my $100,000 you’d give me $16,000 a year of interest” Today, in 2020, I’ll lend you $100,000, how much do they give you in interest today? 

  

Zach – Is it 3%? 

  

Michael – No, like .7, like 700 bucks. Good gosh. For the whole year. And so- 

  

Zach – That’s unbelievable. 

  

Michael – Yeahit’s like nothing right? So the problem that we have in generating income in retirement is that income’s all about, typically lending money and then getting paid back your principle with interest, right? That’s where income comes from in the world of finance. And the challenge is that that rate that you’re being paid is going to be based on that 10 year treasury bond. It’s called the benchmark treasury or the benchmark rate because that’s the rate that pretty much every single bond is based on. So, you might get, if you lend your money to Walmart, They’re saying, “Great, we’ll pay you more than the government, but not a lot more. We might pay you 1 1/2 or something, maybe two.” But still that’s like nothing, right? 

  

Zach – Right 

  

Mike– So let’s imagine, so Zach we’re going to put some age on you there. Let’s imagine you are retired. 

  

Zach – Okay. 

  

Mike– And I know you’re like, what are you 25 or something right? 

  

Zach – 26 

  

Michael – 26 okay but we’re going to add 40 years and say you’re retired. now you’re in your 60s. And let’s pretend you’re in your 60s today you’re retired and you’re thinking, “All right, I…” Let’s imagine you’re saying, “Okay I’m retired.” For whatever reason, you don’t want to talk to a financial advisor because, you know, “why would I pay those guys, I’m just going to go…” Let’s imagine that you want to go to some big firm like Vanguard, Fidelity, Schwab, and you… You know, these are big companies. They’ve figured out… You know, they’ve got lots of smart people on their staffs and they kinda figured out how to do retirement planning at this point, wouldn’t you think? 

  

Zach – You would think so, yeah, big names. 

  

Michael – Yeah, big companies, thousands of employees they’ve got to have.. at least a few of those employees have to be specialists in retirement planning. They’ve got to be right? 

  

Zach – Right, you would think so. 

  

Michael – And so, let’s say you go to Vanguard, and you say, “Vanguard, I’m retired, I want to protect my principle.” It’s like, what did my dad say when he retired? “protect my principle, number one. Give me some income, number two. And if you can, number three, grow it a little bit.” 

  

Zach – Right. 

  

Michael – That’s what most people want right? So you go to Vanguard and you say, “That’s what I want, protect my principle, give me some income, and if possible, grow it a little bit.” and Vanguard says, “Oh Zach, Zach we’ve got that plan for you. We’ve got that done. We have something called the Target retirement income fund” Now a lot of people are familiar with target date funds 

  

Zach – Right. 

  

Michael – That’s where you have like target retirement date 2030. Where if you’re going to retire in 2030, Vanguard puts a portfolio together for you based upon that assumption 

  

Zach – Right 

  

Michael – So target retirement income fund is kind of the same thing they’re just saying, “oh, you’re retired, you want income?” and basically the purpose, the goal of the fund is what my dad wanted and what most people want. Protect my income. I’m sorry, protect my principle, give me some income, and if you can, grow it a little bit. That’s what people want, right? 

  

Zach – Right 

  

Mike– Vanguard’s got that. You say, “Vanguard, that’s fantastic, thank you.” And let’s say you saved a million dollars because you’re a good saverYou’ve saved a million dollars in your 401k, you send it off to Vanguard in their target retirement income fund. And then you sit back, you’re like, “I’m just going to sit back, collect that mailbox money. They’re just going to deposit income into my account every single month.” 

  

Zach – Yup 

  

Mike– The first month rolls around remember you gave them a million dollars. How much income for the year do you think a target retirement income fund, like if you got a million dollars how much income would you be expecting to get from that fund over the course of a year? 

  

Zach– I think I’d be expecting something around $80,000. 

  

Michael – 80 you think? That’s a good guess but that’s like 8% income. You’re not going to get that much today. What about, it’s going to be less… What about 5%? Do you think like $50,000 might be reasonable? 40, 50,000, somewhere in there given that interest rates are really low? 

  

Zach – I guess somewhat reasonable. 

  

Michael – I think that’s what most people would expect Maybe 40, 50,000 Well, but then you get your first check in the mail for the first month and it’s like $1,500. 

  

Zach – Oohf 

  

Michael – And you’re thinking, well wait a minute $1,500 times 12, that’s only like $18,000 for the year isn’t it? 

  

Zach – Right. 

  

Mike– Is that… And then you call up Vanguard you say, “Guys, I thought this was a retirement income fund I only got a check for like $1,500 is that for like two weeks, I mean, what’s going on here?” And then the person on the end of the line they say “Yeah, no that’s right. This income fund’s only generating $18,000. a year of income.” 

  

Zach – Wow 

  

Michael – How do we feel about having a million dollars and only getting $18,000 a year of income? 

  

Zach – Not feeling very strong about that. 

  

Michael – You know, if I did the math.. So Zach I did the math on this. Like I’ve got a calculator right here, right in front of me. I take a million dollars, I divide it by $18,000 a year. If I earned a 0% rate of return, if I put that money under the mattress in my bedroom that money would last for 55 years. Now if you’re 65 years old do you think you’re going to live for another 55 years, live to 120? 

  

Zach – I’m a pretty optimistic guy but I don’t think I’m going to live 55 more years. 

  

Michael – You sure? Maybe there will be medical advances. But here’s my point, does that seem like an acceptable trade off? 

  

Zach – No 

  

Michael – Here’s my million dollars but give me $18,000 is all for income. That’s nuts right? So if you want more income than that. Let’s say you want 40, $50,000. Let’s say you want $4,000 a month that’s $48,000 a year. There’s giving you $18,000, where you going to get the other $30,000 of income? What do you have to do? 

  

Zach – We got to look at another guaranteed investment. 

  

Michael – Well it might be that. What if you’re a Vanguard, your money’s with Vanguard you just decided “I’m going to be a Vanguard.” What do you have to do to get the other $30,000 out of that million dollar account? It’s not generating income, how do you take that money out? 

  

Zach – Probably need to be more aggressive then, right? 

  

Michael – Yeah maybe, but at the end of the day don’t you have to sell shares? 

  

Zach – Yeah. 

  

Michael – You got to sell shares. So let’s say you do that, you say “okay I got $18,000 of income but I want $30,000 on top of that so I’m going to have to sell some shares.” So if you sell shares, what happens next year? Are you going to get $18,000 of income when you have fewer shares to generate that income? What’s going to happen to your income next year? 

  

Zach – It’s going to drop.  

 

Michael – It’s going to go down. But you still want $48,000, so what do you have to do? 

  

Zach – Sell more. 

  

Mike– Sell more shares. So what you’re doing in this scenario is you’re creating one of those downward spirals where you have fewer and fewer shares before you know it you’re going to run out of money. 

  

Zach – Right. 

  

Michael – Now what’s kind of interesting here is that Vanguard with all their brilliance and by the way, Schwab, has a retirement income fund. Is it really any different? 

  

Zach – Same thing 

  

Michael – Same thing. You know, every big company, Fidelity has one is it really any different? Same thing. But here’s the thing, what percentage of that fund do you think is in stocks? So like, you’ve got stocks and bonds, Vanguard has a certain percentage of that fund in stocks a certain percentage in bonds. What do you think that breakdown might be? 

  

Zach – 60, 40 stocks, bonds. 

  

Michael – Yeah, I mean that’s a balanced portfolio right? That’s what we would think. No, they actually have 70% in bonds 30% is all in the market. 

  

Zach – Interesting. 

  

Michael – And a lot of people would say, “Gosh that seems like overly conservative.” 

  

Zach – Right 

  

Michael – But did you ever hear of this thing called the rule of 100? 

  

Zach – I have. 

  

Michael – And the rule of 100, what is it, do you know what it says? 

  

Zach – – So whatever age you are is how much money you should have, or how much saved money you should have. 

  

Michael – Yeah so what Vanguard is saying, and Schwab and Fidelity, all these companies they’re saying, look, if you’re retired and you’re taking income, what are they assuming? They’re assuming you must be about 70 years old. Which they’re saying, “Using the rule of 100 we should probably have about 70% of that money in bonds and the other 30% in stocks.” 

  

Zach – Right 

  

Michael – They think that’s reasonable, a reasonable structure for retirement. Which by the way, as a certified financial planner I’m going to tell you, it’s not too far off what you should have, right? That’s probably pretty close. 

  

Zach – Yeah. 

  

Michael – Now here’s the other piece. So what did my dad say, protect my principle, give me some income, and if possible grow it a little bit. Right? 

  

Zach – Right. 

  

Michael – So already we’ve learned give me some income with these types of funds, it’s not working you’re just not getting enough income. 

  

Zach – Yeah. 

  

Michael – And grow it a little bit? Man if you want any kind of income you’re selling shares so you’re not growing it, right? 

  

Zach – Right. 

  

Michael – What about the protect my principle part? How much money can this fund lose in a single year according to Vanguard? They tell you how much they can lose in a single year. Any guesses? Like hey 70% in bonds, very conservative fund how much do you think they can lose in a single year? 

  

Zach – 25% 

  

Michael – Ah, that’s a pretty good guess, 18. 

  

Zach – Oh close, yeah. 

  

Michael – Now think about this, you give them a million dollars. They’re giving you, call it $18,000 a year of income. So already they’re not giving you much income. 

  

Zach – Right. 

  

Michael – It’s a bad year in the market, your million dollars is now worth $820,000. How happy are you with that fund? 

  

Zach – I am not happy. 

  

Michael – Of course not. You’re like wait a minute. I’m getting no income, I’m losing money, this stinksI’m out of here. So the question of course is all right, that’s not working. What does work, right? That’s what we want to know, what does work? And there is an approach we’ve been using, gosh for over 20 years now. And I’ve learned that it works in both good markets and bad. And really it’s nothing more. It’s not even complicated. We call it an Income Carve-Out plan. Sometimes people refer to it as bucketing strategy. Sometimes people refer to it as paycheck, play check types of framework. But here’s what it really is. All you do is you… Let’s use the same example, the million dollars. 

  

Zach – Okay. 

  

Michael – You want $48,000, what did we say? $48,000 

  

Zach – Right. 

  

Michael – And I’m going to pull up… I’ve got a little spreadsheet here. 

  

Zach – Okay. 

  

Michael – It’s an automated spreadsheet, at least I think I have this spreadsheet saved here somewhere. I know that I wanted to bring it up because Shubhi was nice enough to send it to me in the office. But what it does is it lays out, you can just plug the numbers in. Right? 

  

Zach – Right 

  

Michael – And what you can do, and hold on I’m just typing this up real quickly because I’d like to do these numbers live if I can. 

  

Zach – Okay 

  

Michael – Let’s go here and what I want to do is I want to calculate how much money do we need. Here we go, let’s open this up. How much money would we need if we have a million dollars how much money do we have to set in there to get that $48,000 of income each year, right? How does that work? Like how would we have to set up our accounts to make that happen? And I’m going to hit calculate and, oops I made a mistake. I typed in $100,000 not $1,000,000. And there I just typed in $10,000,000 so you see how my day is going. Here’s the answer. Using that exact same 70/30 mix you put 70% of your money in income generating assets the remaining 30,000 can go in growth assets. And if you do it the right way you can have that income generated. Basically it’s going to last for 20-25 years. Meanwhile the other $300,000 is just growing. And at the end of that 20,25 years doing things the right way guess what? It grows to a million dollars replaces what you spent and boom, you just do it again. In other words, what you need to think about doing, just say, “Hey, I’m going to segregate my portfolio.” Now Vanguard’s kinda doing that, right? Vanguards kind of doing it. They’re just not doing very well. 

  

Zach – Right. 

  

Michael – Because they’re limiting their tools to mutual funds and exchange trade funds. That’s the only tools they’re using. But if you expand the tool, like your toolbox, if you go and get… You go to Home Depot, and you get some extra tools, right? The financial equivalent of Home Depot. 

  

Zach – You’re right. 

  

Michael – Is there a financial equivalent of Home Depot Zach? I don’t know. 

  

Zach – I don’t know yeah. 

  

Michael – But wouldn’t it be cool if there was right? You could just go to a store instead of Home Depot, it would be Investment Depot, and you just go there and you just buy your tools. Anyway, let’s say you expand your tools, maybe you bring in some alternatives, right? Maybe you bring in you know, alternatives. What are those? That’s like private lending. 

  

Zach– Right. 

  

Michael – That might be, so might be private lending, it might be things like collateralized lending and artwork. Stuff like that. Or you bring in what I call interval funds, which are the special funds that what they do is they only pay out once a quarter, but they pay out really good income. Or maybe you bring in insurance contracts, indexed annuities would be an example of that. But Vanguard doesn’t use any of those things, right? No alternatives, no intervals, no insurance contracts, none of that. Let’s say you expand in your toolbox on the income side, and you use tools like that, as part of the mix. That works really well. That works really well. That makes your mo… You can get a higher return. You can get those higher income amounts that you’re looking for. What about on the growth side? On the growth side, what is Vanguard do? They say, “Plop the money in the in the…” They call it VTI? Which V is Victor T is and Tom I in, I don’t know, International. But basically VTI is their total market index fund. 

  

Zach – Right. 

  

Michael – That’s where they’re putting the money basically. Well, that fund is invested, fully… Its buy and hold. They never sell it, which means when the market goes up, they get all the upside. What happens when the market goes down, Zach? 

  

Zach – You’re on the downswing, 

  

Michael – They get it all, you get all the losses. Which is why you lose 180, grand in that fund. 

  

Zach – Yeah. 

  

Michael – What if you just employ some common sense computer algorithms? Nothing complicated, but just common sense algorithms that say on the growth side, you know what? The markets are crashing and burning? Here’s a crazy idea, let’s get out of the way. Let’s just move to cash for a little while, let’s step aside and let the markets collapse, we’ll move back in after they’ve shown that they’re on the way back up again. You don’t need to hold. You don’t need anything super complicated, just common sense stuff. And next thing you know, instead of losing 180,000 in a bad year, maybe you only lose like 50,000 in a bad year, 5%. Maybe not even that. And then at the same time, but in the good year, you’re getting back in and you’re enjoying, the vast majority of the upside. So the reality is, there are ways to manage income today. But just dropping it in one of these retirement, target date income fund things or target retirement income funds, they’re not going to cut it. They just aren’t going to cut it. You just have to be a little more on top of your game, as they say, right? So there you go. I think that’s my message this week. So as we talk about this Zach and you’re listening in any questions coming up that we could… That I should cover before we wrap up for today? 

  

Zach – So if I’m somebody that, maybe I’m working with Vanguard or Fidelity or Schwab right now and I’m doing it myself in one of these funds, what are my options? How do I look elsewhere to find something to get me on the right path to get the income that I need? 

  

Michael – Ah, that’s a really good question. Because the reality is… Look, here’s the thing, these companies the Vanguards the Schwabs, the Fidelities and every other big company. They are built, they are built for growth and accumulation. That’s what they do. They help you grow money. 

  

Zach – Right. 

  

Michael – They are horrible at what my dad asked for. If you want to protect your principle, take income and if at all possible grow it a little bit. If that’s what you want, these companies that’s that’s not what they do well. It’s like asking your… It’s like asking, I don’t know a plumber to fix your roof. It’s not what they do well. 

  

Zach – Right. 

  

Michael – If you’re in that position, this is why there are firms like ours out there who specialize in retirement planning. That’s what we do well. Look, if all you want to do is grow your money, they do a fine job with it. Now, we may have some tricks there that you might want to be aware of but for the most part, growing your money is not that hard. It’s just, figure out a path that works for you and add money to it regularly. Off you go. But when you’re asking the question, “Gosh, Michael, man, how do I deal with retirement income?” This is… You need to give us a call. Like for those of you who are clients, you know we deal with this. But if you’re watching this, you’re saying, “Gosh, I don’t work with you guys.” Heads up, it’s free to call us it’s free to talk to us. You just give us a call. It’s 512-265-5000, that’s the phone number, or here’s an easier thing to do. Check this out. If you go to the website, talktomike.com. So that’s a talk and then to not the number two but T-O, talk to Mike like talk to Mike me, talktomike.com. You can schedule a… It’s an online… It links to our online calendar. It’s a 15 minute call. And by the way, you don’t really talk to me. Who do we talk to Zach? 

  

Zach – Talk to me and then you get to talk to Mike. 

  

Michael – Yeah, the idea is what Zach does is he basically gather some information from you so that he kind of… That way when, and he schedules a time, a longer period to talk to me. But that way he can kind of fill me in on what’s going on in your life so that I can be better prepared. 

  

Zach – It’s important to make sure that we’re a good fit for your needs is like Mike said, We serve a very specialized group of people in this retirement phase of life. So we want to make sure that we are the right fit for you. 

  

Michael – Yeahthat’s exactly Very well said. And in any event, talktomike.com, you set up a 15 minute call with Zach, he learns a little bit about your situation and then, if appropriate, he sets up a time to talk with me and might be like an hour like a Zoom meeting or something. But anyway, if you’re not a client, and you want to learn more about your income options, hey, why not reach out? I mean, it’s free. There’s no cost, there’s no obligation. I would highly encourage that. I mean, think about it. How much time do we blow off watching Netflix here during the Coronavirus? I mean, hours and hours, right? 

  

Zach – Yeah. 

  

Michael – yeah. So why not invest a little bit of time to make sure the next 20-30 years of your retirement is on track. And so there you go. That’s what I would suggest. 

  

Zach – Well said, Mike. Thanks again for joining us. We’ll see you guys next week. 

  

Michael – Yeah, by the way, and as we wrap up, remember, as I say, every week at the end of these types of blogs and podcasts, remember, you deserve the retirement of your dreams. You deserve that. Now, the key is to attain it though, you need to make smart financial decisions, smart planning decisions, so that your money supports all the activities that make up your dream retirement. So let’s make sure that your best is yet to come. Let’s make sure you’re in a position to truly enjoy it. All right, that’s our message this week. Zach, any final thoughts? 

  

Zach – I don’t think so. Well said Mike. 

  

Michael – All right. Take care everyone. Good talking to you again. 

 

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