RPF0319-Friday_QA
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00:00:14.840 | Friday Q&A today, a live Friday call in show.
00:00:20.600 | This is the call where if you're a listener of the show and a patron of the show, you get to call in and ask me questions and I get to do my best
00:00:29.560 | to say something that might be useful and helpful.
00:00:33.080 | Of course, you'll have to judge whether I succeed or not.
00:00:36.280 | Welcome to the Radical Personal Finance podcast.
00:00:54.520 | My name is Joshua Sheets and I'm your host.
00:00:56.080 | Thank you for being with me today.
00:00:57.400 | On Fridays, we do Q&A. The show is all about trying to help you figure out how to live a rich life now and build a plan for financial freedom in 10 years or less.
00:01:06.840 | And sometimes you need to go beyond general advice.
00:01:10.600 | You go to specific questions and Fridays are where you get the best access to me to talk about something specific.
00:01:24.640 | These Friday shows are recorded live on a conference call and they are available to patrons of the show.
00:01:30.040 | So if you're a patron of the show, make sure you keep an eye on your email inbox and you find out the time and the call and information.
00:01:35.560 | And if you are not a patron of the show, then what are you doing?
00:01:39.320 | You really should be.
00:01:40.560 | This is one of the benefits and I'm doing my best to provide lots of benefits for you guys over time.
00:01:45.120 | All the details can be found at RadicalPersonalFinance.com/patron, RadicalPersonalFinance.com/patron.
00:01:51.400 | So if you'd like to ask and participate in a call like this, this would be a great way to do it.
00:01:55.120 | I like to answer questions by email.
00:01:56.640 | I do Q&A there sometimes.
00:01:58.000 | I like to answer questions by voicemail.
00:02:00.360 | I do Q&A with those sometimes, not much recently, but I'll be getting back to that.
00:02:04.440 | But the surest way for you to get my input on something that you'd like to talk about is for you to become a patron of the show and to call in on a Friday Q&A call like this.
00:02:13.560 | So we've got a couple of callers waiting on the line.
00:02:15.040 | Let's go first to Mohamed.
00:02:19.600 | Mohamed, go ahead and ask your question.
00:02:21.920 | Hey, Josh.
00:02:23.080 | So I want to see if I can actually save some money on taxes if I take gigs as an independent contractor versus just being a regular W-2 employee.
00:02:35.680 | The work I do is a physician.
00:02:38.280 | So I would basically just be seeing patients for a place, getting a 1099 instead of getting a full W-2 paycheck.
00:02:46.640 | So I'm trying to see if I could save some money there.
00:02:49.800 | OK, do you...
00:02:51.440 | So let me start by first giving you kind of a big picture answer.
00:02:56.520 | But let me a couple of quick questions.
00:02:58.760 | As a W-2 employee, presently, are you just a W-2 employee or are you presently doing both?
00:03:04.600 | I'm just a W-2 employee.
00:03:07.840 | OK. And does your company that's paying you as an employee, do they offer any kind of substantial benefits for you or is it just basically a straight salary?
00:03:19.200 | No, straight salary. I get plenty of benefits and I get a 403(b) of money purchase or I think it's called a money purchase plan.
00:03:28.120 | Yeah, money purchase plan option.
00:03:29.480 | So I can deduct a little bit more on top of my 401(k) and of course I get a bit of matching as well.
00:03:35.440 | OK. So the question of between W-2 versus 1099, it's not as...
00:03:41.960 | It's not simple and it's not clear.
00:03:44.560 | And so let's try to lay it out in an appropriate way.
00:03:49.480 | As an employee, you're going to earn straight income and your company is going to take care of all of your expenses.
00:03:57.800 | If your company is not taking care of all of your expenses, the normal working relationship is for you to submit to reimbursement and for you to be reimbursed for that.
00:04:08.080 | So in the medical field, if you are an employee, let's say you want to go to a conference.
00:04:13.360 | Usually, you can just simply say, "Hey, I'd like to attend this conference," and your employer might say, "Yes, this is appropriate to your business," and they'll reimburse you for your expenses to those things.
00:04:23.680 | So essentially, you should simply be receiving all of the money that you earn as an employee and you should have no costs associated with your employment except for you to simply show up at the job.
00:04:37.320 | Now, as a contractor, you're taking on the full risk of the business.
00:04:42.640 | And as someone who's taking on the full risk of the business, you're going to – you're going to be able to deduct certain things in your business that presently your employer is deducting.
00:04:58.360 | So let's start first with tax and let's deal with the biggest question, which is the cost of employment taxes.
00:05:05.440 | As an employee, you are paying one half of your Medicare and Medicaid and Social Security taxes.
00:05:12.880 | So let's just use round numbers.
00:05:14.360 | It's actually 7.65 percent.
00:05:16.360 | I'm going to round things to make it a little simpler to follow the math.
00:05:19.200 | Let's just say it's 7.5 percent.
00:05:20.800 | So your employer is picking up 7.5 percent of your expenses and you're putting in 7.5 percent of your – excuse me, of your pay as far as your employment taxes.
00:05:30.680 | If you compare that to working as a contractor, as a contractor, you'll have to pick up both sides of that agreement.
00:05:38.440 | So you have to pick up a 15 percent – actually 15.3, but 15 percent self-employment tax to make up for both the employee and the employer's side of the tax ledger.
00:05:47.760 | So this is one consideration that you should make and it will depend upon your income.
00:05:51.880 | The key thing to remember is that with Social Security, you have a wage base.
00:05:56.680 | So what is it?
00:05:58.200 | I don't know the 2016 numbers off the top of my head.
00:06:00.720 | It will be in the range of $110,000, $115,000.
00:06:04.120 | So you only have to deal with the Social Security tax on the Social Security wage base, which in today's world is about $115,000.
00:06:11.760 | And you only have to deal with – and then you deal with the Medicare tax on all of your wages.
00:06:18.120 | There's no wage base that's calculated there.
00:06:20.040 | So with regard to your employment taxes, that will probably be somewhat of a wash.
00:06:28.200 | Now, the reason some people should consider going to work as a contractor is because if you're going to work as a contractor, there might be an opportunity for you to save on some of your Social Security taxes by allocating some of the money that normally would be considered to be wages to allocate that as dividends instead.
00:06:51.840 | So the idea here is let's say that you are earning $100,000 as an employer.
00:06:58.080 | Excuse me, as an employee.
00:06:59.200 | You're earning $100,000 as an employee per year.
00:07:01.520 | Well, that means that the cost of your employment taxes is going to be $7,500, 7.5 percent of your $100,000.
00:07:11.800 | And again, I'm simply rounding to make easier math.
00:07:14.200 | It's 7.65 percent.
00:07:15.560 | So 7.5 percent of $100,000 is going to be your standard employment taxes as an employee.
00:07:24.480 | If you could switch to – and you're paying 7,500 and your boss is paying 7,500.
00:07:30.240 | If you could switch to working as a contractor and earn $100,000, you're still going to be paying a higher amount of – you're still going to be paying those employment taxes if you're paying yourself as an employee in your own contracting business.
00:07:44.040 | Only now the problem is you're going to pick up both sides.
00:07:47.000 | So you're going to pick up the 7.5 percent for the employee and the 7.5 percent for the employer.
00:07:52.520 | So now you're going to pay $15,000 out of your $100,000.
00:07:56.120 | So the first thing to recognize is you must be making a higher rate as a contractor for it to be worth it for you to start picking up multiple sides of the tax burden and the other benefits.
00:08:07.480 | The other – so if we offset that, let's say you're going to be paid $115,000, thus – excuse me, $107,500, thus we're netting the same amounts.
00:08:21.120 | The idea is if you could pay yourself a $50,000 salary and $50,000 worth of dividends as the owner of say an S corporation as an independent contractor, you'll be able to save some amount of your employment taxes.
00:08:35.120 | The problem – and that's a standard important approach.
00:08:41.120 | The problem with that type of planning is you need to pay yourself as an employee of your own contracting firm essentially the equivalent of what you would be paid as an employee in other fields.
00:08:56.120 | So for you as a physician, it doesn't fly for you to pay yourself a $30,000 salary and $70,000 of dividends because you're already making in excess of $100,000 as an employee.
00:09:08.120 | So you would just need to – in order to follow the letter and intent of the tax law, you need to pay yourself the equivalent of that as an employee.
00:09:17.120 | So you're not going to – as a physician, you're not going to experience any major savings by this concept of transitioning to an independent contractor and paying yourself in some way to avoid employment taxes.
00:09:30.120 | Some occupations can make this fly. I wouldn't be – I wouldn't do this as a physician because the normal salary for your occupation is going to be in excess of the social security wage base regardless.
00:09:44.120 | So there's not going to be any major tax savings there.
00:09:47.120 | Now, what other tax savings could there be?
00:09:49.120 | Well, remember we can – as a contractor, we can take any business expenses that are associated with our business and we can start to take deductions against those.
00:10:01.120 | And this is where depending on the situation, there might or might not be substantial savings for you to take into effect.
00:10:10.120 | If you're not going to do something where you've got expensive benefits programs or you've got expensive business travel, you've got expensive equipment, something that you're going to buy, expensive items to depreciate that are going to be very valuable, it's going to be tough for you to – tough for you to engage in – get enough deductions as a contractor to really make it worth your while.
00:10:34.120 | So a simple example. If you are an employee and you're commuting to your job, then you're not going to be able to deduct any of your commuting expenses.
00:10:48.120 | So if you're just driving a few miles away to your job, that's not going to be a big deal.
00:10:53.120 | If you're a contractor, you can deduct some of your commuting expenses.
00:10:56.120 | But still, if you're just driving a few miles to your job, that's not going to make a big difference.
00:11:00.120 | Now, if you were to compare that with let's say that you're traveling to multiple locations of your business and it's all across the state and you're going to have one home office that's near your home or in your home or something like that, then you can – based upon your travel that was previously non-deductible, now you can translate that to be deductible.
00:11:21.120 | That might be a worthwhile expense. But at the rate of pay of a physician, it's going to be unlikely that any of those little tax savings are going to be worth it.
00:11:31.120 | So for you to consider going out and taking on the independent contractor status, there needs to be a clear path to substantial deductions that you wouldn't otherwise be entitled to.
00:11:42.120 | Or more importantly, there needs to be a clear path to a significant profit potential that you're not going to get as an employee.
00:11:50.120 | That's where you should spend the bulk of your time focused.
00:11:53.120 | It's not on the idea of what can I do as my own simple – for my own personal deductions.
00:12:00.120 | It's rather do I have the opportunity to go from a staff physician making say $250,000, $300,000 a year to taking on the risk of an entrepreneurial venture, becoming a contractor to the place that I work right now while also building up on the side a series of clinics that might get my income from $200,000 or $300,000 a year to $2 million or $3 million a year.
00:12:22.120 | Well, in that situation, the potential upside might be worth the risk.
00:12:27.120 | Final note that I'll touch on is with regard to retirement programs.
00:12:33.120 | So the only other substantial difference to calculate would be do you have access to a generous retirement program as an employee?
00:12:41.120 | Many physicians – I don't know if it would be accurate to say most.
00:12:45.120 | I'd probably guess most, but most physicians are probably going to have access to something decent that's set up for them at your job.
00:12:53.120 | The company that's hiring a physician knows that they need to figure out a way for an employee to fund substantially a retirement program.
00:13:04.120 | So that's where they are offering you a 403(b) and a money purchase pension plan.
00:13:08.120 | So you've got some good options there.
00:13:10.120 | If you didn't have any of that, then possibly it might be worth it for you to set up some kind of independent status to become – so you can do a – set up a solo 401(k), etc., and you got to really judge the benefits.
00:13:22.120 | In short, I wouldn't jump at the idea of becoming a contractor because there are a lot of expenses and hassles associated with it.
00:13:31.120 | I wouldn't jump unless there were a really compelling reason, and probably what I would encourage you to consider first is there's no reason why you can't do something on the side.
00:13:41.120 | So there's no reason why you can't do both.
00:13:44.120 | Keep your current employment contract, and let's say that you're going to pick up some extra side work using your experience and background as a physician.
00:13:53.120 | Perhaps you're going to become a part-time consultant.
00:13:56.120 | There's no reason why you can't just hang out your shingle as a part-time consultant, and in that capacity, you'll be paid as a contractor.
00:14:04.120 | You'll file a Schedule C if you're just doing it as a separate business venture, or you'll go ahead and set up some form of corporate entity if you need to.
00:14:13.120 | Then you can have the best of both worlds.
00:14:15.120 | You can have your employment compensation through your job, and then you can have your side venture where you have the ability to put some of your other expenses and things like that.
00:14:27.120 | That will probably be the ideal path.
00:14:31.120 | So is that helpful, Mohamed?
00:14:33.120 | Do you want to ask a follow-up question?
00:14:35.120 | Mohamed: No, that's fantastic.
00:14:37.120 | You never disappoint, Josh.
00:14:39.120 | That's really the most – I mean the option I finished with, perhaps I should have led with that, but that's really the best solution because then you can take – your current employer is going to give you some options.
00:14:51.120 | Let's say you're going to attend a couple of conferences that are directly related to your business, and you're going to be purchasing things that are directly related to that.
00:14:59.120 | Well, that employer will reimburse you for those things.
00:15:01.120 | You'll have an expense account.
00:15:02.120 | You'll have some of those opportunities, but you're also going to be pursuing some other business ventures.
00:15:06.120 | So if you're building a consulting company in a related field and now you're going to be doing some meals and entertainment with physicians that you're working to become clients – to bring on as clients.
00:15:19.120 | Well, now that allows you to take some of your meals and entertainment expenses, which would be otherwise non-deductible, and it allows you to deduct them based upon the 50% schedule.
00:15:27.120 | It allows you to take maybe a professional development conference that wouldn't ordinarily be deductible because – as an employee, but to go ahead and lever it as a business expense.
00:15:37.120 | It allows you to set up a home office and take a home office deduction if you're entitled to it for your – based upon your business and working in it enough to build it up.
00:15:49.120 | So that's where maybe some of your education expenses that otherwise as a simple employee would not be deductible.
00:15:55.120 | Now, some of them you might be able to deduct it under the rules.
00:15:58.120 | That's going to be your most powerful option is to bring the two together rather than trying to make an either/or switch.
00:16:06.120 | All right, let's go on to Nick.
00:16:11.120 | Nick, welcome to the call.
00:16:13.120 | Hi, Joshua.
00:16:16.120 | My question today is about I guess the overall psychology of investing.
00:16:24.120 | I have just a little bit of history.
00:16:27.120 | I went from having some investments that I really didn't understand much about to learning a little bit more about mutual funds and the fees associated with them.
00:16:38.120 | Over time, I eventually settled on, okay, I believe in index funds and the low cost and the fact that you get guaranteed savings there over a maybe of increased gain with an actively managed fund.
00:16:53.120 | For one reason or another, that just spoke to me, so I believe in that and went full into that with all of my investments, maybe even too much.
00:17:04.120 | That's a question for another day.
00:17:07.120 | Right now, I have the vast majority of my savings in both retirement and non-retirement in Vanguard index funds.
00:17:15.120 | I've been happy with that because I understand it a little bit more.
00:17:20.120 | It's admittedly super simple to understand, so that's why I understand it.
00:17:24.120 | Primarily, what I was trying to guard against was me kind of messing around too much with my money because I know that's probably one of my biggest long-term dangers.
00:17:35.120 | I tend to mess with things when I know a little bit about it, just enough to be dangerous, and then do more harm than good.
00:17:42.120 | One of the reasons I like that was just its simplicity, and I could say, "Okay, it's in there for the long haul.
00:17:48.120 | If the market takes a dip, then I work longer, and that's a good safety measure against that," because I am about 95% or maybe even 100% stocks within those Vanguard index funds.
00:18:01.120 | My question really is that now that I've started listening to different podcasts and I follow a couple people very closely,
00:18:09.120 | I found another strategy that I understand and seems like it's a better option for getting more out of my current risk level.
00:18:20.120 | But I'm trying to wrestle with this decision on how to decide. Do I just leave something alone and trust the Vanguard advice that I've gotten from the Vanguard company?
00:18:36.120 | I reach out to them and they can give me advice on how to allocate this. Do I just let that be, or do I start following different things that I've vetted out myself and said,
00:18:45.120 | "Okay, I understand this now and I want to go for it"? I just feel like it's a slippery slope to keep doing that, like I'm never going to stop messing with it,
00:18:52.120 | which was one of the primary reasons I wanted to protect myself against doing this.
00:18:57.120 | Overall, I'm just trying to wonder how to wrestle with this idea of starting to, in a way, be more proactive in my own investments,
00:19:07.120 | or just leave it to the people at Vanguard to put me in the right allocation for the risk that I've told them I'm willing to take.
00:19:15.120 | I'm not sure if there's really a solid question there now that I've thought about it.
00:19:19.120 | What type of investment strategy have you been researching and are you considering?
00:19:23.120 | It's Paul Merriman. I think he speaks mostly to older retirees, but it works for anybody.
00:19:31.120 | I don't know if it's an asset allocation fine-tuning table, but basically what he does is it's a chart he has, backward-looking, of course.
00:19:41.120 | That's the only way it can be. He says, "Portfolio one would be essentially what I have. 100% stocks in the S&P 500."
00:19:48.120 | Now, mine are diversified across international and US and a few other things, but at different proportions than what he expects.
00:19:56.120 | What he does is he says, "Here's the S&P 500 100%," and in 10% increments and chunks, he distributes, I think, about 60 domestic, 40 international,
00:20:06.120 | or maybe 30 international and 10% emerging markets.
00:20:09.120 | The advantage is, one, it's very easy to understand that. It's like a baby step towards something more sophisticated for me.
00:20:16.120 | What I like about it is he basically says, "Well," and he shows you in the charts, backward-looking charts,
00:20:23.120 | "from the straight S&P 500, he almost doubles the long-term return over whatever it is, 30 years or something,
00:20:30.120 | without significantly changing the risk exposure," I think he has a caveat there saying,
00:20:37.120 | "as measured by standard deviation from the norm," which I guess would be the S&P 500 deviation, which can obviously be a lot.
00:20:44.120 | It was simple enough for me to wrap my head around. It sounded like a good mixture, but then again, the one that I'm in with Vanguard,
00:20:56.120 | which is different, might have its own smart people behind it. Maybe I should just say, "They're being paid to make these decisions, too."
00:21:06.120 | It's almost like a pseudo-actively managed asset allocation, so maybe I should just stick with that.
00:21:13.120 | Like I said, I think my biggest danger is myself in the long run, so I fear going down that path where I start to meddle with it myself,
00:21:21.120 | but I get this nagging feeling that I'm missing out on something now that I've learned a little bit more.
00:21:27.120 | Well, the first thing I'll just point out, these strategies are really not all that different.
00:21:31.120 | As far as we're both dealing with index funds, you're just simply fine-tuning an asset allocation.
00:21:36.120 | So these are not different investment strategies. It's just simply a tiny potential tweak of asset allocation.
00:21:44.120 | So my answer is going to be very different than if you were saying, "Well, I've started figuring out some options trades,
00:21:52.120 | and I really want to go in here and put some options trades in for should I cash out my index funds and move over here."
00:21:59.120 | Some people will do that, but it's very different.
00:22:03.120 | If you were to make the change, what's the benefit that you would be trying to gain by switching from the Vanguard allocation that's suggested by them to Merriman's allocation?
00:22:17.120 | Well, that's actually a great question because I don't know what I'm measuring against.
00:22:22.120 | All I know is that this straight S&P 100% stock allocation that he's measuring against, he doubles over his seven portfolios that get more and more diversified in the allocations.
00:22:35.120 | But I have not compared that to mine and my diversification that they've set out with the Vanguard advice that I've gotten.
00:22:44.120 | So that's actually a good point. I don't really have a solid performance basis to say what is my improvement from meddling with this.
00:22:53.120 | So that's a probably good first step.
00:22:56.120 | Your Vanguard funds are not presently just invested in an S&P 500 index fund, correct?
00:23:02.120 | No, they are diversified across U.S. and international and some other ones.
00:23:10.120 | When I did peek into it a little bit, I just noticed that his is very straightforward, 10% here, small cap value, and 10% here, and whatever, and it goes on and on.
00:23:22.120 | That's why it's simple to understand his.
00:23:24.120 | But Vanguard probably did percentages, so I have 1% here and 4% there, and it's all over the place, and I should really map it out.
00:23:34.120 | So my reason for pointing that out is my guess here is you're spending a lot of time analyzing a problem that doesn't exist.
00:23:43.120 | Notice that in Merriman's – what you've described to me about Merriman's asset allocation, he's comparing his proposed asset allocations and their potential performance benefits for their potential outperformance to an S&P 500 benchmark, which is very possibly a good solution.
00:24:07.120 | S&P 500 is a perfectly valid benchmark to use for a predominantly large-cap U.S.-based fund.
00:24:14.120 | So it's not a good index to use as a benchmark if you're, for example, comparing a 50/50 stock and bond portfolio because now you would need to compare your performance against a benchmark that would include an S&P 500 index or also a bond index.
00:24:33.120 | And that bond index should reflect the underlying bond portfolio that you're desiring to achieve.
00:24:38.120 | So the S&P 500 is a useful index for comparison against a large-cap U.S. stock type of strategy.
00:24:47.120 | Most professional investment managers or most benchmarks, even if you're looking through your prospectuses on the funds that you own, you're going to find that the ideal benchmark to measure against is going to be some constructed index of multiple indexes.
00:25:09.120 | Some – forgive me. My words are getting mixed up.
00:25:12.120 | Some constructed benchmark of multiple indexes.
00:25:15.120 | So it might include a foreign index.
00:25:17.120 | It might include a bond index, et cetera, to try to get a more accurate representation.
00:25:21.120 | So don't read too much into an outperformance model that's simply based upon comparing it to the S&P 500.
00:25:29.120 | What I would recommend that you do is that you work with the advisor.
00:25:46.120 | And what you'll probably find is that there's really not that much of a difference.
00:25:50.120 | If you run an input – and there may be some web tools online that can do this.
00:25:56.120 | I don't know exactly where to point you off the top of my head.
00:25:59.120 | I invite any listeners who can demonstrate this.
00:26:01.120 | I used to use Morningstar software.
00:26:03.120 | That was what I was most familiar with when I was in the business.
00:26:06.120 | But maybe someone has a web tool.
00:26:09.120 | But if you actually input your actual portfolio – and this is what almost most advisors will subscribe to Morningstar –
00:26:19.120 | and you can input your exact portfolio and then you can input the exact recommended portfolio.
00:26:23.120 | So you can get a side-by-side comparison.
00:26:25.120 | And financial advisors do this all day long.
00:26:28.120 | And you can see what the historical return metrics have been.
00:26:33.120 | You can compare the expenses and the costs associated with each portfolio.
00:26:36.120 | You can compare all of the appropriate ratios, the standard deviation, the Sharpe ratio, and blah, blah, blah, blah, blah.
00:26:42.120 | All the different benchmarks.
00:26:43.120 | And you can start to see how those two portfolios compare.
00:26:47.120 | That would be the next step for you to actually do to analyze this situation.
00:26:52.120 | But I'll tell you where you're going to come out.
00:26:54.120 | You are essentially comparing almost identical portfolios.
00:26:58.120 | Because if you are using a proposed Vanguard asset allocation that some member of their advisory team recommended to you,
00:27:09.120 | you're going to be using the carefully calculated latest and greatest portfolio from a powerhouse.
00:27:19.120 | And that's going to be idealized to approximate your risk tolerance.
00:27:24.120 | As represented in that questionnaire, it's going to be idealized to an appropriate potential return and an appropriate risk as measured by standard deviation.
00:27:35.120 | And so the actual substance of these portfolios is not going to be that different.
00:27:42.120 | Modern mainstream, modern portfolio theory investing is predominantly a commodity.
00:27:49.120 | There are a number of research firms.
00:27:52.120 | There are a number of very smart mathematicians who go through and crunch all of this data.
00:27:57.120 | And the interplay between you, the retail investor, and the professional side is simply based upon that questionnaire.
00:28:07.120 | And the questionnaire is good and it's also bad.
00:28:10.120 | It's good because essentially it's designed to try to help you protect you from yourself and it's designed to help you, the advisor, protect you from you.
00:28:19.120 | People usually can't handle too much risk.
00:28:21.120 | So that questionnaire that you took that everything is based upon is basically designed to help you say, hey, here's the downside that I can't stomach.
00:28:29.120 | Obviously, you have a pretty comfortable stomach with risk as measured by those questions if you're in a 90, 95 or 100% stock portfolio, which is fine.
00:28:39.120 | But the outcome of it is that all of these – all of your portfolios are going to fully integrate all the different asset classes.
00:28:52.120 | When I was working in this business, actually advising clients, we used the portfolio questionnaire.
00:28:59.120 | And I had no – I had almost no impact over what portfolio you as a client would actually be put into because you can't trust the – and it doesn't matter whether it's Northwestern Mutual or Vanguard.
00:29:13.120 | The retail advisor who's face-to-face with the client is not the person – is not the mathematician.
00:29:19.120 | It's not the CFA sitting in the backyard – excuse me, sitting in the back office just crunching numbers.
00:29:25.120 | The retail advisor is just simply in charge of explaining what somebody much smarter and more mathematically inclined than them has put together.
00:29:33.120 | So we had I think nine – we used nine-asset class model.
00:29:36.120 | And depending on your numerical score from the questionnaire, we would have – if memory is right, it would be about 3 times 6.
00:29:51.120 | So about – we had about 21 different – and yes, I know 3 times 6 is not 21.
00:29:56.120 | But we had about 21 different model portfolios that we could put you into depending on the type of approach, and we had – and it was depending on those numbers.
00:30:04.120 | So as an outcome of the questionnaire, that would give you a numerical score.
00:30:10.120 | Now you're going to go into these portfolios here, and we could shade it just a little bit.
00:30:15.120 | Let's say you would be in portfolio 15, which would be a 65/55 stock/bond mix, or we could put you in portfolio 16, which would be a 67/30 – whatever the inverse of that is.
00:30:31.120 | My simple arithmetic skills struggle when I'm speaking verbally.
00:30:36.120 | It would just be a slight adjustment.
00:30:38.120 | And then we had those 21 portfolios, the 21 model portfolios that could be put into place on any mutual fund company.
00:30:45.120 | So I could take – and let's say you were going to purchase retail mutual funds.
00:30:49.120 | I can take it and do it with American funds.
00:30:51.120 | I can do it with Fidelity funds.
00:30:53.120 | It doesn't matter if you want to just be with one fund company for whatever reason.
00:30:56.120 | You could do it across – if you were going to invest through a variable annuity, we could apply that same portfolio asset allocation into a variable annuity with the appropriate subaccounts.
00:31:07.120 | Or you could invest it into a fee-based account where you're paying a management fee, and there you have different options where you have a team that's screening out.
00:31:15.120 | Instead of just using one fund company, you're pulling it out – you're pulling out different funds from different companies.
00:31:20.120 | But it really doesn't matter.
00:31:21.120 | So what Vanguard is doing is Vanguard is saying, OK, based upon these different portfolio – based upon the portfolio composition that we would like to see people have with the asset classes that we want to calculate, how can we use the funds that we have available and to put an investor into an appropriate scenario?
00:31:42.120 | So a very smart team of CFAs have gotten together and they've said, well, these numerical values will equate to this type of portfolio risk, and so these are the model portfolios.
00:31:53.120 | So that retail advisor is just putting you right into that based upon the scenario, and it's a perfectly good portfolio.
00:31:59.120 | All Merriman is doing is doing his version of the only – of that same thing, and his version could be perfectly good.
00:32:06.120 | It could be better.
00:32:07.120 | It could be less good.
00:32:09.120 | My guess is it's – given that Merriman has retired from his firm to the best of my knowledge, I'm not insulting him.
00:32:15.120 | But my guess is that the Vanguard portfolio has probably a little bit more academic strength behind it than Merriman's does.
00:32:21.120 | I don't know whether he does his stuff in isolation or whether he does it – whether he has a team working on it.
00:32:27.120 | Who knows?
00:32:28.120 | His stuff is just as good as anybody else's.
00:32:30.120 | But as far as the money and the knowledge and the science behind it, my guess is that the Vanguard models have been tested a little bit more rigorously just simply due to the economy of scale.
00:32:43.120 | So that's what's actually going on behind the scenes.
00:32:46.120 | That's what's actually happening in the retail investment space is – and that's why so much of people's performance, which is why when you're in a mainstream scenario like this, everyone's stuff goes together.
00:32:58.120 | It's all based upon the same theory, the same approach.
00:33:02.120 | It's modern portfolio theory and the actual talent pool, the people behind it.
00:33:07.120 | It's a very, very small community of people whose opinions and advice is acting upon hundreds of millions of people around the world.
00:33:19.120 | So that would be my kind of behind-the-scenes analysis of what's actually happening.
00:33:24.120 | I would say that it doesn't matter hugely which you do.
00:33:28.120 | The Vanguard one is just as good as anything else.
00:33:31.120 | Okay. Thank you.
00:33:35.120 | That helps a lot.
00:33:37.120 | It kind of confirms my – I guess my gut feeling that I should mess with it less and I should maybe reach out to the people that have been assigned to explain to me the inner workings of the smarter people upstairs.
00:33:53.120 | Are you paying them a fee, extra cost for their advice?
00:33:57.120 | I'm not. I have a situation where I could have decided to do that, but it seemed pretty simple to me to take the option where I don't pay them extra, but any advice I want is available.
00:34:12.120 | I just have to be proactive about reaching out to get it.
00:34:15.120 | That seemed to be a no-brainer to me, but I have to keep a regular schedule to call them periodically and adjust things or say, "Is everything still allocated correctly? Have things drifted?"
00:34:29.120 | I just have to be proactive about that.
00:34:31.120 | It's been a pretty good arrangement so far.
00:34:33.120 | It has done its job so far in keeping me from messing with things, so that was my primary goal, really.
00:34:41.120 | I think what you said about Paul Berryman's method is probably correct, too.
00:34:49.120 | I kind of had a sneaky suspicion that one of the reasons he keeps it as 10%, 10%, 10% is it's very easy to understand and digestible for people like me and most people, and therefore it's easier to confidently execute even if it's not absolutely optimal.
00:35:07.120 | So I like hearing your thought process about why perhaps the Vanguard one might be a little bit more thought out in the background there.
00:35:17.120 | So that all makes sense to me, so thank you.
00:35:19.120 | There's a fine line between absolutely optimal and able to be actually implemented, and I would just point out to you my observation on the industry of professional financial advice on this level is that these questions are important, but as you know, they're not the most important question.
00:35:42.120 | The impact of this asset allocation will have some – whether or not you have a 70/30 mixture or a 70/28 will matter to a small degree.
00:35:56.120 | Whether you choose to invest 3.5% of the portfolio into the commodities market or 4.5%, that will have some small impact over time.
00:36:07.120 | The things that will have a far bigger impact over time are number one, what percentage of stocks to bonds, number two – and these aren't in order of impact but just basically three big things – percentage of stocks to bonds.
00:36:20.120 | That will drive most of your returns, not did we use this particular S&P 500 or this particular international fund or whatever.
00:36:28.120 | So percentage of stocks to bonds, how much money you put in the portfolio or you have in the portfolio, and then whether you leave it alone.
00:36:36.120 | Those are the things that are going to impact your situation.
00:36:39.120 | So based upon that, my advice to you is whichever approach or portfolio you're going to be more likely to leave alone because you trust the person more or trust the advice more, go with that one.
00:36:55.120 | If that's Vanguard, go with that. If it's Merriman, go with that.
00:36:58.120 | But the key is going to be set the portfolio up and then resist the urge to play with it and to tinker with it.
00:37:06.120 | That's where – based upon what you described, my guess is you should probably just stick with the Vanguard.
00:37:11.120 | On January 1 every year or on your birthday of whatever, April 23, whatever, pick some arbitrary calendar date and once a year, call them up and rebalance the portfolio once a year.
00:37:23.120 | That's about all you need to do.
00:37:25.120 | If you want to pay money, you can get it done more frequently.
00:37:28.120 | You can get it done every calendar quarter and they'll do it for you.
00:37:31.120 | You can figure that out. But it's really not that big of a deal.
00:37:35.120 | Okay. Thanks. That's good to hear and good to know.
00:37:39.120 | For sure. Any other questions for today before I close out the call?
00:37:42.120 | I've got time if you guys – either of you has more questions, I've got time.
00:37:46.120 | Not for me.
00:37:49.120 | I'm good. Thank you, Josh.
00:37:50.120 | Cool.
00:37:51.120 | Thank you guys very much for calling in.
00:37:53.120 | I invite any other listeners who would like to feel free to call in on a future show.
00:37:58.120 | So feel free to become a patron of the show and you get access to it.
00:38:01.120 | On today's call, there were two callers.
00:38:03.120 | So plenty of time to work with listeners and I schedule these calls.
00:38:07.120 | I try to schedule them at convenient times.
00:38:10.120 | Here would be my takeaway advice for you as I shut down today's show.
00:38:14.120 | In both of these caller situations, notice that they have financial problems to deal with.
00:38:20.120 | One, okay, I'm well-employed and how do I figure out what's the best scenario, employee or contractor?
00:38:27.120 | The other, I have money and how do I figure out what's the best way to do asset allocation?
00:38:33.120 | These are good problems to have.
00:38:34.120 | I point out that you have problems no matter what stage you are at wealth.
00:38:37.120 | But these problems are a little bit easier than how do I make my budget work for this month.
00:38:42.120 | But the key is to recognize that the questions that these callers ask,
00:38:46.120 | although they're important to their life, are not the cornerstone questions that lead to wealth.
00:38:51.120 | The better questions are what occupation can I engage in that is going to be extremely financially productive
00:38:57.120 | and that is also going to be an appropriate fit for my lifestyle.
00:39:00.120 | Because once you're engaged in that right occupation, that's the major decision that's going to make the biggest difference.
00:39:05.120 | And then you'll have employment contracts thrown at you.
00:39:07.120 | You'll have people adjusting benefits programs for you.
00:39:09.120 | You get to figure out do I want to start a consulting firm or not.
00:39:12.120 | Other side, OK, I've collected assets and resources and now what do I do with it?
00:39:19.120 | I didn't bother to ask the caller how much money they had, but I guarantee it's not $1,000.
00:39:24.120 | If you have $1,000, don't bother with investing.
00:39:26.120 | There's no meaningful impact in your life of investing or trying to figure out what portfolio allocation is.
00:39:32.120 | Get from $1,000 to $10,000.
00:39:35.120 | Still don't bother with investing.
00:39:36.120 | Then get to $100 and now you can go ahead and start investing.
00:39:39.120 | I'm speaking metaphorically with broad generalizations here,
00:39:42.120 | but I'm pointing out that although these questions are important to those specific callers,
00:39:47.120 | they're not the questions that lead to wealth.
00:39:50.120 | So don't ever lose sight of the impact.
00:39:52.120 | And if you find yourself getting bogged down on an online forum of what asset allocation is appropriate and ideal,
00:39:58.120 | should it be 70/30 or 75/25, and you realize you're only dealing with a couple thousand dollars,
00:40:04.120 | turn that off and figure out how to go make more money.
00:40:07.120 | And then figure out how to save 50% of your income.
00:40:10.120 | Then come back in a few years and then start dealing with those questions.
00:40:14.120 | Optimize the big things first and you'll get much better results.
00:40:18.120 | So there's my little speech to close out today's show.
00:40:20.120 | If you'd like to join a call like this, please become a patron of the show,
00:40:23.120 | RadicalPersonalFinance.com/patron.
00:40:25.120 | RadicalPersonalFinance.com/patron.
00:40:28.120 | And I wish you all a wonderful day and a wonderful weekend.
00:40:31.120 | (upbeat music)