How Much Do Dividends Matter to the Stock Market?

00:00:00.000 | Welcome back to Portfolio Rescue. Finance can be a complex place. There usually is no

00:00:19.880 | black and white. A lot of times there are shades of gray. That's why a lot of people

00:00:22.860 | have questions. They email us, askthecompoundshow@gmail.com, and we try to answer them. Today our sponsor

00:00:27.900 | of the show is Liftoff Invest. Our automated investing platform runs through Betterment's

00:00:32.800 | technology. Duncan, on the show today we're going to answer a question about dividends.

00:00:37.400 | Every week from Liftoff I get an email saying, "We reinvested the dividends in your portfolio."

00:00:41.840 | I'm going to talk on the show today about why this is important for your long-run returns.

00:00:46.680 | Check out LiftoffInvest.com. We have an advisor who can ask questions there. Automated investing,

00:00:52.640 | financing, tax-loss harvesting, pretty great program. I see in the chat, David Wysocki.

00:00:58.320 | I know he loves a good dividend. We have some dividend investors. InsideJerk, he emailed

00:01:02.900 | us. He had a pretty good 2022 probably. Dividend blue chips did okay. Let's get into the first

00:01:09.520 | question. We've got a bunch of questions today. First up today we have, "I've been sitting

00:01:14.920 | on $450,000 in cash for 18 months. I have a house that's paid off and no debt. It feels

00:01:20.260 | like no matter what decision I make, it's going to be the wrong one. I can't even bring

00:01:23.520 | myself to buy Treasuries paying 4.5%. My income is steady enough to pay the bills for the

00:01:28.700 | foreseeable future. What do you guys think I should do?"

00:01:32.780 | This is kind of a not to brag, but also a cry for help. I could offer you a bunch of

00:01:39.660 | different investing options, stocks, bonds, alternatives, whatever, real estate, give

00:01:44.080 | you their yields, historical returns, a range of expected outcomes, but that data would

00:01:48.000 | be less than useless. Because this question has nothing to do with numbers or spreadsheets

00:01:52.760 | and everything to do with the psychology of getting invested in the first place. I think

00:01:56.080 | you need to figure out why you're having such a difficult time making a decision about what

00:01:58.640 | to do with your money. Is it the fear of loss? Is it the fear that you're making the wrong

00:02:02.620 | decision at the wrong time? Are you scared you're going to miss out on another opportunity?

00:02:06.840 | Maybe some people are just convinced that markets are going to continue to go down.

00:02:09.700 | Maybe rates will continue to go up, and stocks will come down, and you're going to miss out

00:02:12.060 | on a better buying opportunity. So, whatever the reason, there's some psychological variable

00:02:17.440 | that's keeping you in quicksand. You know you should put that cash to work, but there's

00:02:20.700 | some combination of fear and inertia that's just making you stand pat. So, it's kind of

00:02:25.160 | like I could give you the world's greatest workout plan, right? I could tell you exactly

00:02:29.120 | when to work out, what gym to go to, here's your diet, here's your exercise routine, but

00:02:33.600 | if you can't make yourself go to the gym or prepare the food, it's essentially useless

00:02:37.480 | for you, right? So, I get it. We're all dealing with this level of uncertainty about the future

00:02:42.040 | that's totally irreducible, right? The craziest thing to me is people actually assume that

00:02:47.280 | when there's a bull market and things are going up, things are more certain. And when

00:02:50.920 | there's a bear market and things are going down, they're actually less certain. But it's

00:02:54.440 | the same in both scenarios, right? No one knows what's going to happen in the future,

00:02:57.600 | and there's nothing we can do about that. So, whether there's inflation, deflation,

00:03:01.280 | booms, busts, you never know. So, my only advice is, whatever you choose to invest in,

00:03:07.120 | stocks, bonds, treasuries, something else, just create a plan, stick with it, put that

00:03:11.080 | money to work. And I think you're probably going to have to do our old dollar cost averaging

00:03:14.920 | thing here. That's kind of automated and rules-based. Invest on a set schedule, don't worry about

00:03:19.600 | timing things perfectly, and just make an investment you can live with regardless of

00:03:22.240 | the outcome. I think that's the whole thing, is thinking in terms of process over outcomes.

00:03:27.240 | You could make a really good investing decision and have a poor outcome over the short term

00:03:31.320 | that you kind of regret and kick yourself about. But if you made it for the right reasons,

00:03:35.560 | then who cares? It's about making good decisions over and over again, and eventually you just

00:03:39.360 | want a good batting average. So, you're not going to be able to control what the markets

00:03:43.040 | are going to do, but you can control how you react to them. So, I think you just make a

00:03:45.800 | plan with the understanding that it's never going to be perfect, there's no optimized

00:03:49.560 | portfolio, there's no perfect time to get in or out. I think, for a lot of investors,

00:03:53.680 | perfect is usually the enemy of good. So, I think, as I like to say, even a suboptimal

00:03:56.960 | plan is better than no plan at all. So, just come up with something that you can live with,

00:04:00.720 | and just do it, instead of worrying all the time. Bonds are down, stocks are down, they

00:04:05.640 | could go down further, but this is a pretty good entry point for someone sitting on cash

00:04:09.240 | for 18 months. You've already made it through the storm this much. Get to work. You have

00:04:14.880 | to invest in something, because the alternative is, you're not going to have enough money

00:04:18.560 | someday, and you're going to fall behind on your standard of living.

00:04:21.000 | Right. And yeah, they say they feel like they're going to make the wrong decision no matter

00:04:24.400 | what. I mean, it seems like they've made a lot of good decisions, if they have that much

00:04:27.520 | already. So, yeah, I feel like they're maybe second-guessing themselves too much. Because

00:04:32.360 | yeah, that's a pretty impressive cash flow there.

00:04:36.120 | Yeah, that's the thing. If you narrow it down to a point where you've got six figures of

00:04:39.720 | cash saved, and you've got no debt, and your house is paid off and all that stuff, again,

00:04:43.440 | you've made some good decisions somewhere along the way. So, don't let the idea that

00:04:47.840 | you have to have the perfect portfolio or the perfect investment at the perfect time.

00:04:51.760 | Just doing something is better than doing nothing. Because again, doing nothing means

00:04:55.760 | you're for sure going to fall behind. You know, you could have a poor outcome if you

00:04:59.960 | invest, but there is one way to guarantee you have a bad outcome, and that's never invest

00:05:03.000 | in anything.

00:05:04.000 | Right. Inflation. #inflation. Right?

00:05:07.520 | Yes. Burying your money in the backyard or under a mattress is not going to help much.

00:05:12.440 | So again, come up with some sort of plan. Write it down. Stick with it no matter what.

00:05:16.800 | And maybe this is a good time for a journaling thing. You write down the reasons for your

00:05:20.760 | investment ahead of time. And that way, even if the outcome is worse, you put your money

00:05:24.040 | into stocks and dividend-paying stocks or something, and they go down 10% this year.

00:05:28.680 | If you kind of had a good reason for investing them in the first place, and you're going

00:05:31.160 | to have a time horizon that's more than a year, then it doesn't matter what happens

00:05:35.480 | in that short period of time. Something is always going to go wrong. I think it's just,

00:05:39.680 | yeah, you just have to get to work. That's it.

00:05:42.160 | Yeah. Good advice.

00:05:43.160 | Let's do another one.

00:05:44.160 | Okay. And that was Joe. So up next, we have a question from Nick. "My wife is interviewing

00:05:51.120 | this winter for a long-term job starting in the fall. She's applying all over the U.S.,

00:05:55.680 | so there's a good chance we'll be moving soon. When moving to a city you don't know deeply,

00:05:59.280 | do you think it's a good idea to immediately buy a home?" Ben, one of our places that I

00:06:04.080 | could pan out is Ann Arbor. How's Ann Arbor? What should we expect coming from Philadelphia?

00:06:08.880 | It seems like a very personal email.

00:06:13.000 | First of all, congrats. It's very exciting moving to a new place. I'll start with the

00:06:15.640 | second part first. Ann Arbor is an awesome college town. I think especially for young

00:06:18.800 | people moving to a college town, there's pretty much always going to be something to do. So

00:06:22.120 | great food there, great downtown area, lots of job opportunities. If you're a Michigan

00:06:26.920 | fan, you can go see some games potentially. Ann Arbor is a great place to live. Google

00:06:33.720 | even opened up a huge campus there like five or six years ago. So again, there's a lot

00:06:37.040 | of opportunities there. Coming from Philadelphia, the weather shouldn't be that much different.

00:06:40.600 | Actually, they get some snow in the winter, but not nearly as much as we do on the west

00:06:43.240 | side of the Michigan here because of the lake effect stuff. So Ann Arbor's also a pretty

00:06:48.000 | good location in terms of getting into their places. Detroit is 45 minutes away. You want

00:06:52.880 | to come over here and check out some brews in Grand Rapids. We're talking two hours maybe.

00:06:55.880 | Three, three and a half hours to Northern Michigan, which is one of the most beautiful

00:06:58.840 | places in the world in the summer. And if you like skiing, pretty good skiing in there

00:07:02.680 | in the winter too. So I would definitely sign off on Ann Arbor as a potential place to go.

00:07:05.960 | As far as the housing part goes, I think there's probably some questions you need to ask yourself

00:07:10.120 | since we didn't get all the information here. So first one for me is always how long do

00:07:13.720 | you plan on staying there? My general rule of thumb is you probably shouldn't buy a house

00:07:17.240 | if you don't plan on owning it for at least five to seven years. Why? Switching costs

00:07:21.640 | eat into any price appreciation you might have in that amount of time. So closing costs,

00:07:24.800 | realtor fees, moving costs, all this stuff adds up. There's a lot of frictions involved.

00:07:29.120 | Plus the majority of the payments you're making early on in a mortgage go more towards interest

00:07:32.760 | than principal. So you're not probably, unless you have a housing boom like we had in the

00:07:36.440 | last 18 to 24 months, you're probably not going to make much headway in way of building

00:07:40.980 | any equity in that short of a time. So obviously life can always get in the way, but I think

00:07:47.080 | maybe you get another job opportunity. Your wife's got to move somewhere. But if you can't

00:07:51.160 | really plant that flag and move in there for five to seven years minimum, I don't think

00:07:54.840 | it really makes sense to buy a house. Now the other one is do you have a family? Do

00:07:57.800 | you have children? Right? Because there are many reasons to buy a house, but if you have

00:08:00.720 | a family, a big one for most people is buying into a good school district. So is that important

00:08:04.720 | to you? Does that matter? We have really good public schools in my area and it wasn't the

00:08:08.360 | only thing that made us buy here, but it's certainly one of the things that helps keep

00:08:11.800 | us here. It's a good ROI on my tax dollars that I'm not having to send my kids to private

00:08:15.480 | school. I think it also depends on how quickly you can make these types of decisions. My

00:08:19.840 | wife and I can make this kind of decision in an afternoon. We see a house or we see

00:08:24.360 | a piece of furniture or we see a car and we immediately can make a decision because we

00:08:28.480 | put a little thought and research into it. Other people could take weeks, maybe months

00:08:33.360 | sometimes to understand, is this the right neighborhood for us? Is this the right house?

00:08:37.720 | Some people are happy to poke around on the internet and discover neighborhoods they might

00:08:40.440 | like. Other people need to live in the actual area. Duncan, I don't know how you ended up

00:08:43.280 | in Brooklyn, but I'm sure you had put a little research in there, right?

00:08:47.280 | Yeah, it was like three flights to New York from DC at the time and just wandering around

00:08:53.660 | and trying to find places, looking on Zillow.

00:08:55.760 | You probably asked like, do 50% of the guys in the area have a beard? Check. I'm moving

00:09:00.760 | there.

00:09:01.760 | Yeah.

00:09:02.760 | Right.

00:09:03.760 | And we learned what was important to us, that we didn't want to have a hole in the floor,

00:09:06.460 | you know, stuff like that, which is some of the places we looked at.

00:09:09.440 | Next time you should probably figure out a place that doesn't have neighbors that let

00:09:12.380 | their pipes burst. That'd be a good thing. So I think it comes down to how picky you

00:09:16.320 | and your wife are about choosing a place to live. It's obviously can be a nerve wracking

00:09:19.720 | decision moving to a new place and it's exciting, but I think in terms of buying a house, unless

00:09:24.280 | you really can say, we for sure know where we want to live and we for sure know this

00:09:28.960 | is the place. I think it's okay to rent for a while and see, plus now is not a bad time.

00:09:32.200 | I don't think you need to be in a rush to buy a house at this moment. If we're trying

00:09:35.180 | to put a macro spin on this, I think you still have a little time to think through things

00:09:39.520 | and housing prices could still come in a little bit. So actually the timing might work out

00:09:42.800 | for you. Also keep us posted on where you end up. If it's Ann Arbor, enjoy Zingerman's

00:09:47.000 | Deli. That's the place everyone always is told to go when they go there.

00:09:49.660 | So you're saying you still have a short position in the housing market? Is that what I'm hearing?

00:09:54.360 | If I was buying a house right now, I would not be in a hurry. I think if mortgage rates

00:09:59.980 | are going to stay up, I think we still have time for housing prices to come in a little

00:10:04.360 | bit. That would be my general stance. If mortgage rates go back to 4 or 5%, maybe we'd take

00:10:11.400 | that off the table pretty quickly and it goes back up. So that's my thinking there.

00:10:15.520 | Makes sense.

00:10:16.520 | Everyone in the chat is calling out Traverse City as a good place for northern Michigan.

00:10:21.840 | Good call. That's my hometown. Parents still live there. Honestly, the waters there look

00:10:26.780 | like Caribbean in the summer. Three months out of the year, it's one of those beautiful

00:10:30.520 | places in the world. Nine months out of the year, weather's not great. Take up snowshoeing.

00:10:36.440 | Quarter of the year is not bad, I guess.

00:10:38.040 | Yeah. Let's do another one.

00:10:40.040 | Up next, we have a question from George. "Should most investors reinvest their dividends? My

00:10:45.200 | initial thought is that it makes sense to reinvest while still accumulating wealth.

00:10:49.240 | What about after retirement? I've read stats that say a large percentage of compound returns

00:10:53.160 | come from reinvesting dividends, so it seems like a good move and another way to dollar

00:10:56.560 | cost average on a smaller scale, but maybe I'm missing something."

00:10:59.520 | Before we get to this one, someone in the chat did say, "Treasuries vs. Treasuries.

00:11:04.440 | Do you spell it with a Y or an IE?" Were you doing a survey there, Duncan?

00:11:07.440 | I did. I did a survey, yeah.

00:11:09.440 | I've never seen it spelled with a Y before, but we did a little internet sleuthing and

00:11:13.040 | you can spell Treasuries with a Y, even though it looks really bizarre to me and it kind

00:11:16.720 | of hurts my brain.

00:11:17.720 | Yeah. It definitely looks weird, but I knew I'd seen it somewhere.

00:11:20.840 | All right. George asks a good question about dividends. And it's a question that seems

00:11:25.080 | basic on the surface, but I think is one a lot of investors probably don't put enough

00:11:28.680 | thought into. So let's look at the history of stock and market returns to show how important

00:11:31.480 | they have been over time. John, do a chart on. This is the S&P 500 price-only index.

00:11:36.740 | So this is 1928 to 2022. This is price-only. This is the index you see every day when it

00:11:40.800 | opens and closes. Total return, more than 21,000%. Annual return, about 5.8%. So again,

00:11:47.440 | this is price-return only, no dividends reinvested. So that's not bad, right? Now what if we factor

00:11:53.920 | dividends reinvested for a total return number? Now we're talking that 5.8%. Take this one

00:11:59.000 | off for a sec, John. Now we're talking 5.8 jumps to 9.9. So that's 70% higher when you

00:12:04.800 | reinvest the cash flows back into the market. But total returns aren't just 70% higher because

00:12:09.460 | compounding works exponentially, not linearly, right? So the total return with dividends

00:12:14.700 | included goes from over 21,000% at a 5.8% annual return to more than 750,000% at a 9.9%

00:12:23.140 | return. So that's around 35 times higher. So $1 invested in the US stock market in 1928

00:12:29.180 | with reinvested dividends is like $7,500 by the end of 2022. Not bad. It should be noted,

00:12:33.960 | this doesn't take into account things like taxes or fees or the fact that it was basically

00:12:37.640 | impossible to reinvest your dividends for the '30s and '40s and '50s and '60s, but that's

00:12:41.720 | a pretty good bump, right? So, Jad, you can do the chart off for a sec here. Does this

00:12:46.760 | mean dividends are the main source of returns? Not necessarily, because part of this is just

00:12:51.800 | the fact that even a small increase in returns can lead to massive amounts of compounding

00:12:56.080 | over 95 years. Obviously most of us don't have the luxury of having a 95-year time horizon,

00:13:00.660 | so this is kind of just for instructional purposes only. But even over more realistic

00:13:05.080 | time horizons, reinvesting dividends can play a huge role. So, I have like 95 years of good

00:13:09.820 | stock market data, which is good enough for three non-overlapping 30-year periods, right?

00:13:14.880 | The returns don't, or the years don't overlap. So, most investors should have a 30-year time

00:13:19.440 | horizon if they're saving for retirement, and maybe even some people who are retired,

00:13:22.280 | as we discussed on last week's show. So, John, now I'll throw up this table. I broke up three

00:13:26.120 | periods, 1933 to 1962, 1963 to 1992, 1993 to 2022. Three non-overlapping 30-year periods.

00:13:35.120 | I looked at the price returns. You can see they range from 6% to 8%. Then I looked at

00:13:38.720 | the total returns. They range from 9.5% to almost 13%. Obviously, investing towards the

00:13:45.600 | bottom of the Great Depression in 1933 was a pretty good entry point, after stocks fell

00:13:50.620 | something like 85%. So, I show the growth of $10,000 for each of these, with just price

00:13:54.920 | returns than just reinvesting dividends. And you can see that the growth is like anywhere

00:14:02.160 | from two to three times higher by reinvesting your dividends, even though the annual returns

00:14:07.560 | are much less than two to three times higher. So, reinvesting your dividends can have a

00:14:12.760 | huge impact on your long-term results if you diligently reinvest them. Now, back to the

00:14:17.360 | original question, it probably does make sense for some people in retirement, if they want

00:14:21.520 | that income, to use their dividends or bond income or whatever else their sources of income

00:14:25.160 | are to spend when they move into withdrawal mode. I think you just have to be smart about

00:14:28.240 | the timing of those cash flows. Maybe be kind of flexible. So, maybe you're reinvesting

00:14:31.860 | dividends when stocks are down like they are now, and taking money out from elsewhere.

00:14:35.920 | And then, maybe when stocks are going gangbusters, you actually take that money from dividends.

00:14:39.680 | Maybe you can be a little smarter about that. The point here is not that dividends are some

00:14:43.240 | magical source of returns. I think that even slight edges in your portfolio, compounded

00:14:48.080 | over long timeframes, can really add a ton of value to your portfolio. So, that's setting

00:14:51.800 | a reasonable asset allocation, rebalancing, keeping your fees low, not turning your portfolio

00:14:56.240 | over a ton of times, keeping turnover to a minimum, and not doing a ton of portfolio

00:15:00.400 | overhaul. So, I think it's hard to wrap your head around the idea of investing for 10,

00:15:04.520 | 20, 30 years when all we hear is the minute-by-minute and week-to-week economic data. But, compounding

00:15:10.360 | really is a beautiful thing as long as you just stay out of your own way and allow it

00:15:13.880 | to work in your favor. That's the point here.

00:15:16.480 | Muckerman: Yeah, there's something nice about CIMU's dividends coming in every quarter.

00:15:20.960 | Lewis: And, people look at the dividend rate, and we talked about this before, they think

00:15:24.680 | it's not that much. But, even adding just a little bit to your long-term, especially

00:15:28.360 | over multi-decade periods, it really can add huge returns over time, especially from a

00:15:33.560 | dollar value.

00:15:34.520 | Muckerman: I've wondered before how much advantage there is to companies that pay a monthly dividend

00:15:38.560 | versus quarterly, just because it's even more averaging in.

00:15:42.480 | Lewis: I guess the market goes up over time, so that's kind of a dollar-cost averaging

00:15:47.040 | lump sum thing. It makes sense to invest your money earlier, usually. Tell your oat milk

00:15:52.000 | company to start paying on a weekly basis.

00:15:54.160 | Muckerman: Hey, you made fun of me for that last week. But, hey, they're up a lot over

00:15:59.240 | the last two weeks. I'm still cut in half, but if you got in two weeks ago, you're doing

00:16:03.960 | pretty well.

00:16:04.960 | Lewis: I'm talking about 30-year periods, and Duncan's talking about two weeks.

00:16:09.880 | Muckerman: Up next, we have a question from Anne. "Trying to wrap my head around all the

00:16:16.480 | changes to the tax code and retirement contributions for the new year. These things always confuse

00:16:21.240 | me because it's hard to tell the stuff that's actually in play versus political talking

00:16:24.760 | points for future legislation. My husband and I are in our 60s, and we hope to retire

00:16:28.720 | in a few years. We're still saving for retirement and don't necessarily feel like we're quite

00:16:32.560 | there yet in terms of how much money we have saved. Thoughts on how we can save money either

00:16:37.400 | in our retirement accounts or through tax returns?" This is a tax question. Interesting.

00:16:42.520 | Lewis: It is. So, the only thing I really pay attention to in this regard is retirement

00:16:45.400 | contributions. The tax stuff, I go to the experts. So, we have a person just in mind

00:16:49.400 | to answer this question. Let's bring on Bill Otzeroni in. Hey, Bill.

00:16:53.320 | Otzeroni: Hey, Bill.

00:16:54.320 | Lewis: I think just last week on one of our Slack channels, you put together this handy

00:16:57.560 | one-pager for all of our advisors and said, "Hey, guys, here are the tax changes for 2023."

00:17:01.280 | And there was a lot of stuff on there, which kind of surprised me. It's not just a minimal

00:17:06.360 | amount of things, right? So, let's start. What are some of the big differences in terms

00:17:10.840 | of tax rates or retirement contributions or qualified dividend taxes that people can think

00:17:15.600 | about for 2023?

00:17:16.600 | Otzeroni: Yeah. Can we take a step back and talk about moving from Philly to Ann Arbor?

00:17:21.480 | I'm a little concerned about that individual. As a Philly guy, I'm not feeling that one.

00:17:27.560 | Anyway, if it's a career move, I get it. New year, new taxes. Ann, thanks for the question.

00:17:35.040 | I want to do a general rundown of different contribution limits and some changes from

00:17:39.560 | '22 to '23. These are changes that happen annually, but some of the increases this year

00:17:46.360 | were a little larger than normal, given the inflationary environment.

00:17:49.560 | Lewis: So, they do take inflation into account for this stuff?

00:17:52.600 | Otzeroni: Yeah. It's almost a cost-of-living adjustment. Not all, but some of the changes

00:17:58.960 | this year were larger than they have been in the past. Here's our chart. Thanks, John.

00:18:03.920 | For IRA and Roth IRA contributions, the increase was only $500, which is pretty standard. Because

00:18:11.720 | of the dollar amounts, it's a smaller increase. So, in '23, you can now contribute up to $6,500

00:18:17.960 | to a traditional or a Roth IRA. And if you're over the age of 50 at the end of the year,

00:18:21.960 | you can add an extra $1,000 on top of that. Now, Roth contributions and deductible IRA

00:18:28.400 | contributions may be limited on your income, so not everybody's eligible, and we're going

00:18:32.080 | to touch on that in a little bit. The big changes are really the 401(k)s and employer

00:18:37.960 | plans. If you're covered by a 401(k) at work, you can contribute up to $22,500 in 2023.

00:18:44.360 | Lewis: That's a pretty big bump.

00:18:46.680 | Yeah, it's a $2,000 increase. And then the catch-up was also increased last year. The

00:18:51.640 | catch-up contribution for folks over the age of 50 has now increased to $7,500. So, if

00:18:58.440 | you're 50 years of age or older at the end of 2023, you can now do $30,000 to your 401(k).

00:19:07.320 | Same with any defined contribution plan, which 401(k)s fall in that bucket. So, if you're

00:19:14.000 | over the age of 50, the total limit between employee contribution and employer contribution

00:19:19.200 | is now $66,000, or $73,500 if you're over 50. That includes the catch-up. And if you're

00:19:26.200 | self-employed, if you have a SEP IRA, you can do $66,000 as well. Unfortunately, for

00:19:33.600 | SEP IRAs, there's no catch-up, so you can't do the extra $7,500 if you're over the age

00:19:37.800 | of 50.

00:19:38.300 | But the good news is, people can defer more taxes now.

00:19:41.160 | Yeah. Yeah. So, these are the annual changes to help you defer more and more taxes or put

00:19:47.600 | away more in retirement. Some of that could be tax-free if you feel like a Roth is more

00:19:51.320 | appropriate for you. And we also had some tax policy change with the Secure Act 2.0,

00:19:56.160 | which just passed a few weeks ago. Again, a lot of changes to the retirement savings

00:20:00.600 | game. So, speaking of Roth contributions, we're big fans around here of the Roth contribution.

00:20:07.280 | Employers, historically, have been only able to contribute pre-tax money, like traditional

00:20:11.880 | 401(k) contributions. But starting in 2023, employees can now designate their employers'

00:20:16.800 | contributions as Roth. Self-employed people, for a SEP IRA, a simple IRA...

00:20:23.360 | I actually didn't know this. So, the match before only went into traditional, not Roth?

00:20:27.840 | Correct. And starting this year, we can, as an employee, myself, I'm 31 years old, I'm

00:20:33.480 | going to elect the Ritholtz contribution to be a Roth contribution now.

00:20:37.680 | Okay. I got to tell HR to change mine, too, because I make my Roth 401(k) because Bill

00:20:43.440 | told me to.

00:20:44.440 | That's right.

00:20:45.440 | Also, we have some tax bill jokes in the comments here. Not bad. Another tax bill. Get it?

00:20:53.400 | There are two of us. We multiply. And not to plug ourselves, but we are looking for

00:20:58.920 | another tax associate. And if your name is Bill, you get put right to the top of that

00:21:02.760 | list.

00:21:03.760 | Shoot your shot, people.

00:21:04.760 | Yeah. Yeah. Send him those applications. Though, I don't know, how does it look this time of

00:21:09.080 | year right before, you know, filing for someone?

00:21:11.400 | It's a weird time to make a job change. We honestly don't expect to find somebody until

00:21:15.400 | the springtime.

00:21:16.400 | Okay. Yeah.

00:21:17.400 | After April, probably, right?

00:21:18.400 | Yeah. Exactly.

00:21:19.400 | All right. Got another one?

00:21:22.360 | Okay. Up next, we have a question from Matt. My wife and I will have our first year married

00:21:28.100 | for tax treatment in 2023. We have both contributed to our Roth IRAs up to the max for our working

00:21:33.760 | years. We are 27 now. I, humblebrag, am probably starting a new job that will have our combined

00:21:39.720 | income above the Roth IRA contribution limits of $218,000 to $228,000 in 2023. I'm a little

00:21:47.560 | confused. Y'all can talk about this, maybe, about why it's a range and not just a number.

00:21:51.200 | But what is the MAGI? What is in the, hold on, what's MAGI?

00:22:00.140 | Modified Adjusted Gross Income. We'll just, we'll call it MAGI.

00:22:02.780 | Okay, MAGI.

00:22:03.780 | For now.

00:22:04.780 | What is in MAGI has never been that straightforward to me. So, I wanted to reach out and see what

00:22:08.300 | deductions we can take to try to lower our MAGI so we can contribute to our Roth IRAs.

00:22:14.240 | Can we take the standard deduction and 401(k) deductions to lower our MAGI? We have no student

00:22:19.420 | loan or housing debt to potentially subtract. Are there other common deductions we can take,

00:22:23.820 | or is our best bet to do a backdoor Roth conversion? MAGI's a new one for me.

00:22:28.380 | But lowering your tax bill is one of the reasons you get married in the first place, right?

00:22:32.660 | Right.

00:22:33.660 | Not really, but what, so this is their first time doing it. They're trying to look through

00:22:37.340 | this. What are some simple ones they can do if they want to get in that lower tax bracket

00:22:41.800 | and maybe do the, get in the Roth, unless the backdoor's just their easiest route?

00:22:45.140 | Right. So, I want to answer Duncan's question first, because I think that helps. So, there

00:22:49.540 | is a range to be eligible for a Roth contribution. Our guy, Matt, here has it right. For 2023,

00:22:56.980 | if his modified adjusted gross income as a married couple is north of $218,000, he starts

00:23:06.380 | to get phased out. And by $228,000 of income, he can't make a Roth contribution at all.

00:23:12.300 | So, that's the range you get into, Duncan. So, we're, obviously, Bill Sweet and myself,

00:23:19.420 | we're big fans of Roth money around here. Let's talk about that modified adjusted gross

00:23:24.100 | income, that MAGI first. John, can you put up that chart? Thank you. So, this is like

00:23:30.140 | an order of operations for how taxes work. So, you take all your sources of income, all

00:23:35.900 | your gross income, wages, dividends, interests, capital gains, whatever else you have. The

00:23:41.020 | good old US of A basically doesn't exclude any of your income. So, almost assume all

00:23:45.540 | of your income is in that first bucket there. And then, important to note that in that gross

00:23:51.660 | income bucket, your pre-tax payroll contributions, like if you're doing traditional 401(k), if

00:23:59.860 | you're paying medical premiums out of your paycheck, that's netted against your wages.

00:24:03.420 | So, if you're maxing out your 401(k) and you're also paying medical premiums, that might be

00:24:07.780 | $20,000 to $30,000 that you're knocking off of your income. And then, you're allowed to

00:24:12.980 | take, we call these above the line deductions. That's where you see these adjustments here.

00:24:18.700 | Most of these are related to self-employed people. So, it sounds like our guy, Matt,

00:24:22.940 | here may not be eligible to really reduce his income. One of the deductions he may be

00:24:27.300 | eligible for is a health savings account contribution. You have to have a high deductible health

00:24:33.060 | plan. But if he does, and he's on a family plan, he could contribute and deduct up to

00:24:37.660 | $77.50 in 2023. So, I don't know that we have a ton of options for Matt here to reduce his

00:24:46.060 | adjusted gross income.

00:24:47.060 | - Well, the biggest one to me would just be max out your 401(k). Right off the bat, that's

00:24:52.180 | the biggest one you can probably take, correct? Unless you can do a SEP IRA with, like you

00:24:56.300 | said, your own business. But max out your 401(k) at 27. If you're maxing out your 401(k)

00:25:01.740 | from 27 on, you're going to be a millionaire someday. And it's probably not going to take

00:25:06.500 | that long. So, do it. That's what I would say. Max out your 401(k).

00:25:09.700 | - Right. And Matt's talking about how can you get more into the Roth bucket. And if

00:25:12.940 | he's above this income, his thought was, "Let's go back to a Roth." And I'm not going to go

00:25:17.180 | into every way that can work, but basically, a backdoor Roth is a way for folks who have

00:25:22.540 | high income to contribute to an IRA or a 401(k) and then convert it tax-free to Roth. It can

00:25:30.180 | get messy. So, consult a tax advisor, specifically a tax advisor named Bill, if you want to make

00:25:36.580 | a backdoor Roth contribution. But if you can, and John, let's do that last chart up here.

00:25:42.420 | If he has a backdoor Roth 401(k) eligibility, and more and more employers are offering this

00:25:49.140 | now, basically, your total limit from Matt is going to be $66,000 this year. Let's say

00:25:54.260 | he contributes the full maximum $22,500. Let's say the employer kicks in $10,000. If he has

00:26:01.780 | the backdoor Roth 401(k) eligibility, he could do another $33,500 after tax and then convert

00:26:08.780 | it to Roth. They're very specific steps to take to make sure you don't screw this up.

00:26:16.120 | But there is a way for Matt, if he's eligible, to put away $66,000 in a Roth bucket this

00:26:21.540 | year. So, Matt, if you don't have a side hustle, create one and then turn it into a business.

00:26:27.180 | Put more money away. He's got to have at least two side hustles. All right. Everyone under

00:26:32.940 | the age of 30 does. All right. Let's do another one. Last question. Okay. Up next, or last

00:26:37.700 | but not least, we have a question from Mason. "I'm curious about your thoughts on when to

00:26:41.220 | hire a personal accountant. I'm asking as someone who's never had one or known the benefit

00:26:45.380 | of my parents using one, but what are things to consider? Is there an income at which it

00:26:50.060 | becomes materially more valuable? My taxes are pretty straightforward. W-2 employee.

00:26:54.900 | I don't own any real estate or have overly complicated capital gains or losses. My income

00:26:59.660 | is creeping higher into the six-figure range and not sure if it's worth hiring someone

00:27:04.100 | to help optimize taxes." I have just a personal anecdote here. For me, it's just really important

00:27:09.340 | that the person that helps with my taxes can dunk on a regulation basketball goal. But

00:27:15.380 | that's just a personal thing. That's why I'm your guy, Duncan. I got you. I don't know.

00:27:21.300 | He's a dad now. You can't dunk in white New Balance shoes. It's impossible. Okay. So how

00:27:26.820 | complex do things have to get before bringing a professional in? Is it income levels? Is

00:27:31.420 | it sort of other financial obligations? What do you think? And how does someone... We talked

00:27:36.420 | to Bill Sweet about this, about figuring out which CPA to hire, but how do you get to the

00:27:40.300 | point where you know that, okay, it's time to talk to someone? I think there's three

00:27:43.980 | factors here. Number one is just opportunity cost. We pay people for different services

00:27:49.920 | for different purposes. Mason, if you don't like doing your taxes and you want to outsource

00:27:54.220 | that and you're willing to pay for it, it's like, Ben, you pay somebody to mow your lawn.

00:27:58.580 | Michael Badnik pays somebody to fold his laundry. We do stuff like this to outsource stuff we

00:28:04.220 | don't want to do. I have the plow come do my driveway because

00:28:08.260 | that way I don't have to get out in the morning in 30-degree weather and turn the snow plow

00:28:12.020 | on. It's okay to outsource. Exactly. It's okay to outsource. Number two is when things

00:28:17.620 | get complicated. I don't know if this is an income thing or an investment thing, but when

00:28:23.240 | you're worried that... When you want peace of mind that this is being done correctly,

00:28:27.980 | that's the time to pay somebody to do this for you. It could be real estate investments,

00:28:32.100 | small business ownership. It could be crypto. It could be as the dollars increase, as your

00:28:37.340 | wealth increases, the numbers get bigger, so do the risks of doing something incorrectly.

00:28:41.940 | And then number three is when you're in need of advanced tax planning. What we do here

00:28:47.820 | in our tax group, it coincides with the work our investment advisors do is we do a lot

00:28:53.620 | of planning. We consider the tax prep to be kind of table stakes. And what we're doing

00:28:58.140 | is we're meeting with clients throughout the year for short and long-term tax planning.

00:29:02.220 | And that's proved to be extremely valuable to the folks that we're working with. And

00:29:06.060 | so if you're looking longer term, rather than just saying, "Hey, do this tax return for

00:29:09.900 | me," if you have longer-term goals, taxes may play a large part in that. And that's

00:29:14.380 | when you can bring somebody in with a niche in tax planning.

00:29:17.100 | I think if you're also someone who's willing to A/B test a little bit, you could try to

00:29:20.180 | do them yourself and then have a CPA do them for you and see how much value they actually

00:29:24.260 | add and how many things they find that you maybe couldn't have found yourself. And then

00:29:27.940 | kind of run a cost-benefit in terms of, well, I'm paying them $500 or however much you pay

00:29:33.460 | them and figure out whether that's worth it or not for the stuff that they're helping

00:29:35.980 | you do and how much easier they can make your life. And you can always go back if you just

00:29:39.060 | find there's not enough value there.

00:29:41.220 | When Sam Bateman Freed did his own taxes for FTX, right? So, I mean, you're never too big,

00:29:46.460 | I guess.

00:29:47.460 | TurboTax, right?

00:29:48.460 | No, you said QuickBooks, right?

00:29:49.460 | He was in QuickBooks. I don't know who did the actual tax return, but they were doing

00:29:54.620 | their bookkeeping and it was comical.

00:29:56.100 | All right, Bill, one more question for you since you're a new-ish father. Any big changes

00:30:00.100 | to your family finance now that you have a dependent?

00:30:04.620 | So Alex Palumbo, who's been on the show, makes fun of me for this all the time, but not really

00:30:09.900 | because five years ago, I opened a 529 for our future children. And I've been saving

00:30:16.700 | for five years before the kid was even here. So that's maintained itself pretty regularly.

00:30:22.340 | I thought I got ahead of the game by opening a 529 the day our kids were born, basically.

00:30:26.780 | But you got ahead of the game a little bit.

00:30:28.540 | Yeah, that was a little loophole that I got through. The biggest change right now is we're

00:30:32.460 | just not, my wife and I, we don't buy ourselves anything. All our money goes to the kid. And

00:30:37.540 | rightfully so, she's adorable. But my wardrobe is going to get pretty worn out in a short

00:30:43.660 | matter of time.

00:30:45.080 | My one piece of advice, find yourself a good vacuum once they start eating, okay? Because

00:30:50.500 | you're going to put like 100,000 miles on that thing.

00:30:52.700 | Do you have a recommendation? Maybe we can get a sponsor, a vacuum sponsor?

00:30:55.780 | I use the Dyson. The Dyson cordless handheld, I probably use it five times a day. Kids produce

00:31:01.700 | millions and millions of crumbs a year.

00:31:03.460 | Good to know. Good to know.

00:31:06.100 | Okay. All right. Any questions for us, leave them in the chat here on YouTube on the side.

00:31:11.740 | Send us an email, askthecompoundshow@gmail.com. I want to thank Bill for his tax advice. Remember,

00:31:16.060 | if your name is Bill, reach out to us and let us know if you want to work on our tax

00:31:19.060 | team or if your name's not Bill. If you're listening to this podcast, leave us a review.

00:31:23.180 | We have a new Compounded Friends tomorrow, right, Duncan?

00:31:26.060 | That's correct.

00:31:27.060 | New Compounded Friends tomorrow. Hit that like and subscribe button. Keep those comments

00:31:30.780 | and questions coming, and we'll see you next week.

00:31:32.860 | See you, everyone.

00:31:33.740 | [Music]

How Much Do Dividends Matter to the Stock Market? | Portfolio Rescue 59

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