Category: Charlie

Categories
Charlie Education Pilot Money Guys Pilots

Why Estate Planning is Essential for Pilots

Professional pilots are economically valuable and worth every penny earned not just because they can fly safely from Chicago to LAX.  The real reason pilots are so valuable to their airlines and the flying public is that they are prepared to navigate dangerous weather, handle in-flight emergencies, and make difficult decisions. In other words, pilots are trained to get their passengers safely where they want to go regardless of what happens along the way. 

One of the most difficult things pilots do is prepare for an event that will most likely never happen in your flying career.  In almost 25 years of flying, I never lost an engine.  Which is great because one of my airplanes only had one engine!  I never lost a hydraulic system or experienced a dual-engine flameout, Sully-style.  However, I did (and you continue to) prepare for these events as if they are common occurrences.  This requires tremendous discipline, preparation and intense attention to detail.

The financial equivalent of preparing for life’s catastrophes is what financial nerds call estate planning.  I explain the gist of estate planning with a question to our pilot clients; will your spouse and children be okay if the unthinkable happens to you on your next trip?  It takes a lot of planning and preparation to answer this question with a confident “yes!” 

In this article I will explain the action steps and resources to help you confidently answer “yes” and have peace of mind knowing you’ve done everything you can to take care of your loved ones in case of a catastrophic life emergency.

Preparing for our own disabilities or death is akin to preparing for an engine loss right at rotation. It’s very unlikely that it will happen to you during your airline career. However, many pilots experience premature death and disability every year. But like the catastrophic emergency in the airplane, it’s hard to fully comprehend that it might happen to you at any moment. 

I recently returned from a family vacation in Edisto Beach, SC. The water was very rough with strong winds and currents. I shared with my kids about rip currents and what to do in case they thought they were in one. Tragically, when we returned from our trip, I noticed an article about two parents drowning in a rip tide while their six children were on the beach in Stuart Beach, FL.  Sadly, their children tried to yell instructions to the parents while dialing 911 from the beach.  It’s hard to comprehend this devastating family tragedy. I’m sure the parents woke up that morning and thought, like the rest of us, those tragic things only happen to other people. Therefore they may not have been fully prepared for this unimaginable scenario. 

Can you imagine the estate planning that needs to be considered when both parents with six children pass away? Who will take care of the children- aka guardianship? Who will take care of the financial needs of the children? Especially if they are minors. These are questions many of us need to address and prepare for. 

While we can rationally acknowledge that we will all die someday, we can't imagine our own deaths.  In fact, it may be our brain’s biological tendency to protect us. In a research study conducted by Bar Ilan University in Israel, Yair Dor-Ziderman explains; “The brain does not accept that death is related to us...We have this primal mechanism that means when the brain gets information that links self to death, something tells us it’s not reliable, so we shouldn’t believe it.”

“...The moment you have this ability to look into your own future, you realize that at some point you’re going to die and there’s nothing you can do about it,” said Dor-Ziderman. “That goes against the grain of our whole biology, which is helping us to stay alive.”

I probably should have prefaced that section with the same warning in the article I quoted; “Warning: this story is about death.  You may want to click away now.” 

However, as I mentioned in the first sentence of this article, the very reason you are so valuable as a professional pilot is because it is your job to prepare for scenarios that we believe probably will not happen to us. And in the airplane, the chances are in our favor that they never will happen. On the other hand, we’re all gonna die...someday! I know you’re inspired now, right? 

Now that you know why it’s so difficult to get around to accomplishing estate planning for your family, it’s time to do some of that pilot stuff and get it done! Let’s start with the question:

Will your spouse and children be okay if the unthinkable happens to you on your next trip?

Here are the essential steps to prepare for your potential disability and/or untimely death:  

1. Do you have the essential estate planning legal documents?

Estate planning attorneys recommend that we all have the following documents at the ready:

  • Power of attorney; financial and healthcare
  • Last Will and Testament
  • Beneficiary designations
  • Living Will
  • Life insurance policies
  • Titles and property deeds
  • Living Trust – may or may not be required, depending on circumstances. 

2. Ensure the loss of your income will be replaced by savings and life insurance.

3. Does your spouse know where to find essential documents listed above?

  • Take inventory and make sure everyone knows where to find these documents and passwords.  Review the contents and location occasionally.

4. Does your spouse have access to cash, funding to pay bills in your absence?

  • Our experience was that financial account transfers and life insurance payouts can take some time.  Be sure to have access to several months of cash to keep the household going while waiting for access to other assets.

5. Digital logins and passwords

  • This deserves its own category now.  Consider using a password manager for information security of passwords plus the ease of sharing with your spouse. 

Click here for a PDF version of an estate planning checklist from Freewill.com.

Great resources to help get with estate planning

•    Great website: Getyourshittogether.org:  https://getyourshittogether.org/

I almost always refer to this website to help people.  Not just because the name of the website is awesome! Founder and author of “What Matters Most”, Chanel Reynolds, experienced the premature death of her husband at a very young age.

From her website, “I am immensely proud of the book and grateful for the opportunity to tell the whole story of what happened, what I wish I’d done and what you can do when life goes sideways and what can help before and after the shit hits the fan...”

Another excerpt from the website: “Will you be prepared if life knocks you sideways?

Get your family protected with the critical ‘What-if’ answers like wills, power of attorney, healthcare directives, digital details and legal documents you need today and someday...”

•    Online website, TrustandWills.com, for great information and getting your estate documents completed:

There is still much debate about getting estate planning legal documents accomplished online.  I can’t give advice in this format, but I will say the online resources have vastly improved over recent years.  Using TrustandWills.com you can accomplish estate planning and get the support of an estate planning attorney in your state. 

From their website:   “Just like estate planning isn’t a one size fits all deal, neither is the help that our clients need. That’s why we're giving our members access to one-on-one time with licensed estate planning attorneys in their state. We want to offer products and estate planning tools that are inclusive for everyone, whether you have a multi-million dollar estate, or you’re just starting out planning for the future. Learn more about the benefits of Attorney Support.”

I have not personally used TrustandWills.com for my own estate planning documents, but I refer to this website regularly for great information, resources and learning. 

•    Workbook – “I’m Dead Now What?”

We often give this book as a gift for those who prefer a physical document(s) to refer to in case of emergencies.  This book, if completed correctly, covers all the nitty gritty details that a loved one will need to know in case of the unexpected death of a spouse.  The circumstances will be more difficult than we can comprehend, I believe we should not make it worse by not being organized. 

•    Airline specific financial podcast (and shameless plug), Pilot Money Guys Flight #12: I’m Dead, Now What?

This is part 2 of the Estate Planning Series "I'm Dead, Now What?" Three steps to make sure your estate is prepared. If you are unsure whether you have a good plan for the unexpected, this is the podcast for you...documents you need to have in place, why getting organized is important, and how beneficiaries and trusts go together to protect your family. Also see, Pilot Money Guys Flight #13: I’m Disabled, Now What?

 

Charles Mattingly, MBA, CFP®

CEO, Leading Edge Financial Planning

Hopefully, you found this article interesting and helpful. If you have any questions, I can be reached at 865-240-2292 or charlie@leadingedgeplanning.com. 

Also, please tell us if we can help you on your journey to financial peace and prosperity! Click here to sign up for our newsletter or click here to schedule some time to chat about your circumstances in more detail.  Also, check out our Pilot Money Guys podcast where we regularly discuss these types of financial topics along with some fun airline news updates and interesting guest interviews.  Even the editor and founder of Aero Crew News – Craig Pieper!


Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk and there can be no assurance that the future performance of any specific investment, investment strategy, or product made reference to directly or indirectly in this video will be profitable, equal any corresponding indicated historical performance level(s), or be suitable for your portfolio. Moreover, you should not assume that any information or any corresponding discussions serves as the receipt of, or as a substitute for, personalized investment advice from Leading Edge Financial Planning personnel. The opinions expressed are those of Leading Edge Financial Planning and are subject to change at any time due to the changes in market or economic conditions.

Categories
Charlie Rental Real Estate

How to Determine if Rental Real Estate Investing is Right for You?

It seems like there is almost a sense of obligation to purchase rental real estate once a person hits one of two financial milestones:

1. They maximize their airline retirement savings plan

2. Their income tax bill becomes so onerous that it compels them to take evasive action!


If you’re not there now, you will be soon!

Are either of these milestones reason enough to pull the trigger and purchase physical real estate for rental? My short answer is, no! However, there may be some other good reasons to do so, and we’ll explore them in this article.

In my financial planning practice, I am fascinated by the number of people that almost feel a sense of obligation to purchase rental real estate. It’s as if there’s a message out there somewhere that says:

• Step one: max 401k

• Step two: purchase rental real estate


Otherwise, you’re not really a sophisticated or properly diversified investor. 

Unfortunately, real estate is not always the tax savings or investment panacea it’s made out to be.

In this article, I will explain some common myths and misconceptions about the tax and investment benefits of owning rental real estate. If you’re in a hurry, look to the end of each point for the lessons learned. These lessons may prevent you from going down a path that may not be right for you or, at least, prevent you from making the same mistakes I did!


1. Rental Real Estate is Not a Hands-off Activity


There is no easy money. Grant Cardone makes it look like you purchase a real estate property and then board your private jet for the Caribbean. Easy breezy!

The phrases “side hustle” and “passive income” sound sexy and easy, but they are extremely misleading. In my experience, if you’re investing in real estate the right way, you’re probably self-managing and maybe even doing some of the work yourself. Sweat equity! If you’re outsourcing all these tasks to a management and maintenance company, be sure to check your profit margins and compare them to an alternative investment.

We’ve seen people spend all their investment profits on HOA fees, management, maintenance, taxes, insurance, etc. There are plenty of other great investments that do not require any of those expenses.


Lesson Learned:

Always think about the opportunity cost of investing in real estate. For example, you can get close to 5% guaranteed right now (August 2024) in treasury bills without worrying about renters, maintenance, and eviction notices. Make sure you’re rewarded appropriately for the time, money, and risk of real estate investing.


2. Are You Running a Real Business or Just Being Nice?


Many rental real estate investors that I know do not treat their rental real estate like a real business. I’ll use my father-in-law as an example. He’s the nicest guy in the world, so he rarely raises his rent. There is some value in keeping your renters happy if they treat your property well. However, no matter how nice your renters are, you don’t need to take money out of your business and give it to people. That’s called charity.

• Capitalization Rate (Cap Rate):

Evaluates the profitability of an investment property. A higher cap rate indicates a higher potential return on investment. This is also a great number to evaluate whether the time and effort are worth investing in rental real estate.

Cap rate = Net operating income ÷ Property value:
 Example:
 $24,000 (net operating) ÷ $500,000 (property value) = 4.8% Cap Rate


In this scenario, your success as a real estate investor hinges on the hope that your property will significantly appreciate. This is because  (At the time of this writing- August 2024), you could get approximately 4.5% - 5% in a treasury bill guaranteed, with zero effort or worry about renters.

If you believe you have a high chance of property appreciation, you may be willing to accept a lower cap rate and vice versa. However, be careful that solely relying on property appreciation does not become your main real estate strategy. 

One maxim of real estate investing that stuck with me was, make money when you purchase, make money when you rent, and make money when you sell. I learned from experience that any one of those is relatively easy to achieve. All three of those components are challenging and take great effort and due diligence. 

• Net Operating Income (NOI): 

Shows how much money a property is making. It can help evaluate your return on investment (ROI), assess cash flow, and make decisions about pricing, expenses, and business strategy.


NOI is used to measure the profitability of your property.  To calculate the net operating income (NOI) of a rental property, use this formula:

Real estate revenue – Operating expenses = NOI

The NOI is used mainly to determine if a property should be considered for investment. Calculating NOI shows your potential profitability. If a property has a very low NOI compared to similar rentals in the area or investment alternatives, you may want to look elsewhere to invest your money.

• Non-measurable Measurables:

What is your time worth?  You may be able to put a precise number on this since you are paid by the hour.  Don’t forget to factor in the cost of your time when calculating the cap rate and the NOI.  


Lesson Learned:

Do you enjoy being a real estate landlord? Or do you worry or stress about the next call from the renters or management company?  I did, and it sucks! I became tired of the kids flushing their toys down the toilets. I also did not like the boyfriend threatening to burn the place down because my renter broke up with him. True stories! And there are many more good stories where those came from. Those events helped me to remember that I had the ability to earn as much as one month's rental income by picking up a two-day airline trip!


3. Use Leverage Wisely!


Leverage: When I helped a friend run all the rental real estate numbers like a real business, I realized that using leverage (borrowing-mortgage) played a major role in the profitability of his rental real estate.

Does this mean you should borrow 100% of the property’s value? Absolutely not.  Think Great Financial - Housing Crisis 2008. Brought on largely by the over-levered housing consumer. On the other hand, is completely paying off every rental property the highest priority? Probably not.

You, as the investor, must be comfortable with a responsible balance of debt. One thought to guide your decision is to consider if you could make the mortgage, property tax and insurance payments if there were no renters? How long could you sustain these payments with no renters? These are questions you must consider as a real estate investor.
 


4. Tax Implications of Owning Rental Real Estate: The good, the bad and the many disclaimers and exceptions.

First, never let the tax tail wag the dog!


Focus on increasing your net worth and purchasing quality investments.  The tax benefits are a nice secondary benefit.  

Paying taxes often evokes a visceral response and drives us to take actions that may reduce our net worth solely to reduce our tax burden. I’ll admit, it is a nice feeling when I get that two-thousand-dollar refund at tax time. (Even though it may be better to zero out my tax refund as to avoid loaning the Government my money.) 

The point is we are overly focused on the net tax result at tax time.  We quickly forget about the benefit of rental income during the year. For example, many people are willing to reduce their monthly rental income to zero, usually by spending more on the rental property, simply to avoid a large tax bill in April.  We find ourselves advising clients not to lose money on purpose just to save on taxes!  


Lesson Learned:

Purchase quality real estate that may provide a good return on your investment. Focus on the investment and the tax benefits will follow.  

Depreciation Tax Deduction:  The phantom rental expense.  

Rental property owners can use depreciation to deduct the property's purchase price and improvement costs from their tax returns.

Here are two quick examples to explain the benefits of depreciation. But before I wade into these dangerous tax waters, understand that there are exceptions to every tax rule and something that initially sounds like tax magic will probably be taken away by the IRS as your income increases. This is the case with depreciation of rental property as well.  Click here to learn more about the details of MACRS depreciation system.

Overly simplistic example for illustrative purposes: Deducting the depreciation expenses from your current rental income (probably not deducting from your airline income – see below and seek advice from a tax professional): 

The IRS assigns a “useful life” to residential rental property of 27.5 years. Therefore, if you purchased your property (cost basis) for $300,000 then you simply divide the cost basis by 27.5. Your potential depreciation tax deduction may be $10,909 per year. 

For every full year a property is in service, you would depreciate an equal amount: 

3.636% (100% divided by 27.5) each year as long as you continue to depreciate the property.

More disclosure:

Do not use this example to calculate your tax deductions. If your income exceeds certain limits, you may have to defer the deduction. You would also need to calculate the true adjusted cost basis which is not equal to the purchase price of the home.  

Lesson Learned:

Take the time to understand these tax nuances. It’s not good enough to delegate this knowledge to your tax preparer. They can help you accomplish your tax return correctly but if you want to be a great CFO of your real estate business, you need to have a working knowledge of the IRS tax regulations pertaining to rental real estate.  

Do not expect to offset your airline income with rental real estate losses.

In most real estate investing scenarios, you will not be able to deduct rental real estate losses against your airline income.  

Real estate investors have been known to spend lavishly on anything having to do with their rental properties, thinking that the tax-deductible expenses would reduce their airline income and therefore their income taxes. Why not spend $80,000 on a used Kubota skid steer for your rental property if you could use that expense to potentially save $19,200 in income taxes. Wow! Less taxes and an awesome toy. 

Unfortunately, there are very strict tax rules about deducting passive real estate expenses against your active airline income. To better understand this concept, we first must know that the IRS’s definition of active and passive income is very different from that on Instagram. 

First the easy definition – active income is income received from a job or business that you actively participate in, such as your airline job.

From TaxSlayerPro.com:  “Passive income” is often used colloquially to define anything from stock investments to blogging. But the IRS has specific parameters for passive income activity. For tax purposes, true passive income activities are either 1) “trade or business activities in which you don’t materially participate during the year” or 2) “rental activities, even if you do materially participate in them, unless you’re a real estate professional.”

The last statement is what really limits an airline pilot’s ability to deduct real estate expenses from your airline income.  So, what is a real estate professional you ask: 

From IRS.gov; Instruction for Form 8582:

Any rental real estate activity in which you materially participated if you were a “real estate professional” for the tax year. You were a real estate professional only if:

More than half of the personal services you performed in trades or businesses during the tax year were performed in real property trades or businesses in which you materially participated, and

You performed more than 750 hours of services during the tax year in real property trades or businesses in which you materially participated.

It is not impossible to be considered a real estate professional but the “...more than half of the personal services you performed...” statement is the one that usually prevents pilots from also being considered a real estate professional. Clearly if you are married, filing jointly and your spouse is a legitimate real estate professional, you may be able to take advantage of the tax benefits of a real estate professional. 


Lesson Learned: 

Use caution and seek professional legal and tax advice to keep out of trouble if you decide to pursue this path. 

What can you deduct and why may quality real estate still be a tax-smart investment? 

Even though you may not be able to offset your airline income with rental expenses, you can offset your rental income with expenses incurred in the activity of renting. For example, if I earn one thousand dollars per month in rent, that could potentially be taxed at my marginal income tax rate. For an airline pilot that can easily be 24%, 32% or even higher, considering the latest contract bonuses and pay increases. 

That could increase my tax bill by $3,840 (32% x $12,000). That feels really painful when the tax bill comes due in addition to your airline tax bill. (You’ll quickly forget about the $12,000 in rental income you made throughout the year!)

So, in this example you could use your advertising costs, auto expenses, cleaning costs, and our favorite, depreciation just to name a few. Clearly you would not want to spend more on advertising simply to reduce your taxable income, but the expense can help reduce your tax bill if you need to advertise. 


Lesson Learned: 

Keep great records of all your potential deductible expenses. It will be required if you get audited by the IRS and it will help you determine if you’re spending too much on your investment.  


5. The psychology of money can make rental real estate a good investment.


That sounds weird so let me explain. Many of us stress out about the stock market fluctuations. The fact that the stock market seemingly tanks at the release of any negative news headline is frustrating to many people. 

Furthermore, we can view the value of our investments minute-by-minute on our phones. It seems like when the price of an investment goes down because of something completely unrelated to the quality of the company, my life savings disappear. 

When I own rental real estate in my local town, or any location really, I usually do not see or hear about any price fluctuations. In fact, before the housing crisis of 2008, we began to believe that the price of real estate could not go down! 

We learned the valuable lesson that real estate values can and will go down but at least I can’t see the price fluctuations minute-by-minute like I do in my 401k. This can be a tremendous benefit that helps me stay the course with my rental properties.

Investing in real estate, especially locally, gives investors a sense of control. And, sometimes, there really is more control. For example, you may have valuable information about your local real estate market that another investor might not have access to. In the world of stock investing, this is called insider trading and it’s illegal. Furthermore, in the stock market, any valuable information is processed and integrated into a stock's price in milliseconds. This is called an efficient market.  Your local real estate market is most likely not an efficient market. 


Lesson Learned: 

Find mentors that know your local area. Get involved in local organizations like the chamber of commerce. Learn about what new businesses are coming to your area. Network with local real estate agents since they may be the first ones to know when a property may become available. 

Hopefully, you found this article helpful in deciding whether investing in rental real estate is right for you.  There are many people that are really good at investing in real estate and being landlords. Those people are really good because they enjoy it, and they believe it’s worth their time. I am not one of those people! I’ve been down that road most of my adult life and I learned it’s not for me. 

In my humble opinion, I can get exposure to many different types of real estate investments through the public stock markets. More importantly, I’m the type of person who is okay with the temperament of the stock market. Many people want relief from that roller coaster ride, and I understand that. 


Final Lesson Learned

The final lesson for helping to decide whether investing in real estate is right for you is to know thyself!  

•  What do you want? 

•  What do you enjoy doing with your time?  

Life is short, don’t do anything solely for the benefit of taxes or even to make a bit more money if that’s not what you really need.

See Pilot Money Guys podcast to learn more about investing in rental real estate:  Flight #52: Gina Roth on How to Be a Real Estate Professional and Save on Taxes.


Charles Mattingly, MBA, CFP®

CEO, Leading Edge Financial Planning

If you have any questions, contact us at: 

•  Phone: 865-328-4969  

•  Email: charlie@leadingedgeplanning.com.  

Also, please tell us if we can help you on your journey to financial peace and prosperity! Click here to sign up for our newsletter or click here to schedule some time to chat about your circumstances in more detail.  Also, check out our Pilot Money Guys podcast where we regularly discuss these types of financial topics along with some fun airline news updates and interesting guest interviews.  


Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk and there can be no assurance that the future performance of any specific investment, investment strategy, or product made reference to directly or indirectly in this video will be profitable, equal any corresponding indicated historical performance level(s), or be suitable for your portfolio. Moreover, you should not assume that any information or any corresponding discussions serves as the receipt of, or as a substitute for, personalized investment advice from Leading Edge Financial Planning personnel. The opinions expressed are those of Leading Edge Financial Planning and are subject to change at any time due to the changes in market or economic conditions.

Categories
Charlie Education Kevin Pilot Money Guys Pilots Retirement

Southwest Airlines Market Based Cash Balance Plan

SWA Market-Based Cash Balance Pension Plan (MBCBP) Tips and Techniques

Below is an overview of the topics we cover in the video:

• Market-Based Cash Balance Plan basics

• Why do we love it? 

• How to max out the MBCBP 

• How to minimize your 401k spillover if you do not want more MBCBP. 

• How to use the potential MBCBP tax savings to contribute more Roth to your retirement savings.

Leading Edge is not affiliated with Southwest Airlines.  This is informational only.  Please refer to the Southwest Airlines Pilot contract for further information.

Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk and there can be no assurance that the future performance of any specific investment, investment strategy, or product made reference to directly or indirectly in this video will be profitable, equal any corresponding indicated historical performance level(s), or be suitable for your portfolio. Moreover, you should not assume that any information or any corresponding discussions serves as the receipt of, or as a substitute for, personalized investment advice from Leading Edge Financial Planning personnel. The opinions expressed are those of Leading Edge Financial Planning and are subject to change at any time due to the changes in market or economic conditions.

Categories
Charlie Education Kevin Pilots

United Airlines Pilot Long Term Disability Explained

United Airlines Long Term Disability

Kevin Gormley, CFP® Andy Christopher, CFA® , lead financial planners from Leading Edge Financial Planning, discuss the details of the long-term disability plan offered by United Airlines.

The key takeaways from the video are:

  • The long-term disability benefit pays out 50% of your pay until you reach age 65, which is the mandatory retirement age for pilots.
  • The benefit is tax-free.
  • The company pays for 75% of the premium, with the remaining 25% being paid by the pilot after tax. There is a cap on the monthly benefit amount.
  • The plan offers some additional benefits such as continued health insurance coverage at the active pilot rate and non-elective contributions to your 401k plan.
  • There are different waiting periods depending on whether the disability is occupational or non-occupational.
  • Pilots who are considering additional coverage on top of the United Airlines long-term disability plan can look into options offered by ALPA.

Kevin and Andy recommend that pilots carefully consider their options and do some budgeting to see if the 50% benefit will be enough to cover their expenses in the event of a disability. They also recommend having an emergency cash fund on hand to supplement the disability income.  

 

Note: Leading Edge Financial Planning is not affiliated with United Airlines.  This video is informational only.  Please consult an expert before making a decision.

Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk and there can be no assurance that the future performance of any specific investment, investment strategy, or product made reference to directly or indirectly in this video will be profitable, equal any corresponding indicated historical performance level(s), or be suitable for your portfolio. Moreover, you should not assume that any information or any corresponding discussions serves as the receipt of, or as a substitute for, personalized investment advice from Leading Edge Financial Planning personnel. The opinions expressed are those of Leading Edge Financial Planning and are subject to change at any time due to the changes in market or economic conditions.

Categories
Charlie High Income Pilot Money Guys Pilots Retirement Retirement Mistakes

If I Could Tell Every Airline Pilot One Thing…

If I Could Tell Every Airline Pilot One Thing…

If I could tell every airline pilot one thing it would be, save more money! I know it’s not rocket science, but like eating healthy and exercising – it’s not easy to do! 

As a Certified Financial Planner professional and an airline pilot myself, I understand how saving more can be a major challenge. If you’re just starting out with the airlines, you’ll make a lot more money as your career progresses but saving the right amount is never easy! I bet you won’t be surprised to know that some of these challenges are our own – new car, vacations, airplanes … In addition to our own limitations and difficulties, the IRS caps your qualified retirement contributions annually. 

Here, I’ll discuss three steps to maximize your savings and investing opportunities that will not only allow you to invest more now but can also greatly reduce your taxes in retirement. 

Every airline pilot, regardless of income, can and should contribute to their non-tax-deductible IRA. 

You need a taxable brokerage account in addition to your 401k and IRAs. 

Build tax diversification into your savings now so you’ll potentially pay less income taxes in retirement. 

Why save more?

Many airline pilots we work with have been employed by multiple airlines in their careers. Typically, this means they have had to start over with savings and investing multiple times. Furthermore, most airline pilots at major airlines made a transition from either the regionals, corporate or military careers. Most likely, those pilots took pay cuts to make the move to their major airline of choice. There are two important takeaways from this:

1) If you are a young pilot aspiring to work at a major airline, save your money now for that eventual transition, and

2) If you are a more senior airline pilot, but because of our tumultuous industry you were late to start saving for retirement, ​simply maximizing your qualified retirement accounts may not be enough. 

Every airline pilot, regardless of income, can and should contribute to their non-tax-deductible IRA 

I’ve found that some pilots with whom I’ve flown believe they make too much money to contribute to an IRA. Not true! Many pilots misunderstand the tax rules for contributing to IRAs. It is true that most airline pilot incomes are too high to contribute to a ​tax-deductible​ IRA, as well as a Roth IRA. However, anyone, regardless of income, can contribute to a non-tax-deductible IRA.

Although contributing to a non-tax-deductible IRA is beneficial, the best reason to contribute is to then convert your traditional IRA to a Roth IRA. This strategy is commonly referred to as the backdoor Roth IRA. There are no income limits on converting your traditional IRA to a Roth IRA, however there are a few things to consider before you choose to execute the backdoor Roth IRA strategy.

The process of converting your traditional IRA to a Roth IRA can be simple, but make sure you are aware of the tax rules that pertain to Roth IRA conversions. For example;

  • If you already have other IRA accounts, then all or a portion of your conversion to Roth IRA could be taxable.
  • One strategy to possibly avoid this taxation is to consider rolling your pre-tax IRA into your company’s 401k plan and then executing the backdoor Roth IRA the following calendar year.
  • Seek advice from your financial advisor or tax professional to make sure you follow IRS guidelines and make sure to correctly document the Roth IRA conversion on your tax return.

You need a taxable brokerage account in addition to your 401k and IRAs.

There is no IRS limit to how much you can save in a taxable brokerage account. You can withdraw your money anytime without penalties and there are very few limitations on your investment choices. You will not receive a tax deduction for your contributions to a taxable brokerage account, however, these accounts have other great tax advantages.

Essentially, you can create your own tax deferral on the growth of your investments as well as enjoy lower capital gains tax rates if you invest using low cost exchange traded funds (ETFs), individual stocks or low-turnover stock mutual funds. Make sure to avoid short-term capital gains by holding your investments for at least one year. Once you withdraw or sell the investments in your taxable brokerage account you’ll pay capital gains tax rates which are typically lower than ordinary income tax rates for a retired airline pilot.

Build tax diversification now so you’ll pay less income taxes in retirement. 

Sometimes we forget the entire reason for saving and investing now is to create your own paycheck during retirement. You can significantly reduce the income taxes in your retirement if you are intentional now and have a plan. Your goal should be to fill up at least three different types of investment accounts in order to increase tax diversification and potentially reduce your largest expense in retirement – taxes!

1. Pre-Tax 401k: Ordinary income tax rates upon withdrawal in retirement

2. Roth IRA and/or Roth 401k: Tax free in retirement

3. Taxable brokerage account: Capital gains tax rates

Bonus savings account: If it is appropriate for your family’s health care, consider using your airline’s high deductible health care plan so you can take advantage of the health savings account (HSA). The HSA is the only account with triple tax savings. They are tax deductible, they enjoy tax-free growth, and are tax free anytime they are used for qualified medical expenses.

One of your largest expenses (second only to taxes) in retirement will most likely be your healthcare expenses. Personally, I use my HSA as a healthcare 401k. Furthermore, once I turn age 65 I can use the funds from my HSA for any expenses with the understanding that I will pay ordinary income taxes on the gains if I use the funds for anything other than healthcare expenses.

 

Please reach out to us anytime. We’d love to hear from you because we’re here to help you navigate to your savings destination. Fly safe!

865-240-2292

info@leadingedgeplanning.com

Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk and there can be no assurance that the future performance of any specific investment, investment strategy, or product made reference to directly or indirectly in this video will be profitable, equal any corresponding indicated historical performance level(s), or be suitable for your portfolio. Moreover, you should not assume that any information or any corresponding discussions serves as the receipt of, or as a substitute for, personalized investment advice from Leading Edge Financial Planning personnel. The opinions expressed are those of Leading Edge Financial Planning and are subject to change at any time due to the changes in market or economic conditions.

Categories
Charlie Pilot Money Guys Pilots

Trust Your Instruments, Not Your Gut, when it Comes to Flying AND Investing!

TRUST YOUR INSTRUMENTS, NOT YOUR GUT

      ... when it comes to Flying and Investing!

As a brand-new pilot, one of the first things you learn is how to mitigate the risk of the potentially deadly physiological phenomenon known as spatial disorientation or spatial-D. In pilot speak, spatial-D is when your body is telling you one thing and your flight instruments (and airplane) are telling you something completely different. Sadly, spatial-D has claimed the lives of many pilots. 

One of our newest Leading Edge team members and previous Marine F/A-18 fighter pilot, Mark Covell discusses just one example of spatial-D. Mark shares how carrier pilots tend to feel like they are pitching up as they are launched off the carrier at night due to the massive acceleration from the catapult. During daytime VFR conditions, this is probably a non-issue. However, in weather or at night, this type of spatial-D is potentially deadly. 

What does spatial-D have to do with investing and retirement planning? Personally, I feel like all of 2020 could be compared to being catapulted off a carrier at night, not knowing what is up or what is down. 

During the heat of the battle from February until the markets settled a bit in early April, investor emotions were all over the place. Years of stock market gains evaporated in days, even hours. Furthermore, many people thought, and the news media quickly suggested, we were headed for the second Great Depression. Don’t get me wrong, anything was (and is) possible. Sometimes, the unknown can be terrifying. 

One slightly humorous example of investor spatial-D was early in the pandemic when the share price of ticker symbol ZOOM increased dramatically due to investors buying up shares as quickly as possible. Zoom Technologies, a so-called penny stock had risen more than 240% in the span of a month before the SEC suspended trading. Unfortunately, the traders failed to realize the ticker symbol ZOOM did not represent the Cloud Video Conferencing company Zoom they thought they were purchasing – Ticker symbol ZM. 

In the airplane, pilots must fight spatial-D by cross-checking and TRUSTING their instruments. As an investor, if you did not trust your instruments during 2020, it may have been very costly. 

So, it’s a dark and stormy night, what are the instruments you rely on and trust? What are your primary and backup instruments? Here are four instruments that I think can save your investments as well as your financial sanity during uncertain times…

1. Cash reserves 

Emergency Funds. Having extra cash can prevent withdrawals from retirement accounts or excessive credit card debt in emergencies. Studies also show having cash in the bank makes people happy. In an article posted on PYMNTS.com, Can Cash Really Make You Happier, Joe Gladstone, research associate at the University of Cambridge in the U.K. and co-author of two recent studies about money and happiness said,  

“We find a very interesting effect: that the amount of money you have in your bank account right now is a better predictor of happiness than your aggregate wealth,” Gladstone explained. “Having more money in their bank account makes people feel more financially secure, which leads to an increase in happiness.”

2. Have a working knowledge of financial history. 

You don’t have to be an expert or financial historian, but I believe being familiar with financial history is akin to training before you go on a flying mission. New military pilots call this chair flying. Athletes and musicians use a technique called visualization that helps them prepare for uncertainty and reduce anxiety before a sporting event or concert. 

3. Admit that times are scary and you do not know what’s going to happen. 

This may sound obvious, but I’ve seen many people get themselves into a “square corner” because they assumed that something was going to happen when in fact there was no indication or possible way of knowing what the future may hold. We have heard investors say, “My gut tells me…” many times. Don’t ever make investment decisions based on what your gut tells you!

Some of the best investors in the world invest with the mindset of preparing to be wrong. In other words, they diversify their investments. Diversification is not popular or sexy because it’s like admitting that you’re not all-knowing and you do not know what’s going to happen in the future. Diversification allows you to be successful in multiple investment and economic scenarios. Furthermore, diversification can feel disappointing but prove to be a profitable strategy over the long term.  

BlackRock Investment Management Company posted the graphic below on their investor education website about diversification and “S&P Envy” over the last 20 years. 

4. Prepare and Plan by having a clear vision of your goals and priorities.

If you don’t understand the “why” behind your investment strategy as well as why you’re investing and saving in the first place, you will most likely bail out on your plan during difficult and uncertain times. Changing your investment plan mid-crisis creates a very high likelihood that your investment returns will be significantly lower than had you remained invested as originally planned. Simon Sinek started a movement by encouraging businesses to “Start with Why.” It’s a powerful mindset that leads to trust, inspiration and success. I believe the same applies to your financial and investment game plan. 

5. Remember you are invested in companies – not politics. 

Sometimes our politics cloud the investment and retirement planning picture. This rule falls under the axiom; “control the controllable.” If you’re allowing your politics to affect your investment game plan than you may want to see rules number two and three above.

Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk and there can be no assurance that the future performance of any specific investment, investment strategy, or product made reference to directly or indirectly in this Podcast will be profitable, equal any corresponding indicated historical performance level(s), or be suitable for your portfolio. Moreover, you should not assume that any information or any corresponding discussions serves as the receipt of, or as a substitute for, personalized investment advice from Leading Edge Financial Planning personnel. The opinions expressed are those of Leading Edge Financial Planning and are subject to change at any time due to the changes in market or economic conditions.

Categories
Charlie Education

What is Legacy Planning and Why it Matters to You Now?

Yes, I’m a Tim Mcgraw country music fan. I think at this point, he might be considered old school country music. Nonetheless, when we unpack the subject of planning for our legacy, we conclude with the idea that we must first face our own mortality.  

  • What is it that we really want out of our lives?
  • What purpose or cause are we excited about?  
  • What will we look back on at “the end” that will have truly brought us joy and fulfillment
"Begin with the end in mind."

One of my favorite sayings is, “Begin with the end in mind.” I don’t know who said it first, but I know it’s the premise of the book “The Seven Habits of Highly Effective People” written by Stephen Covey. 

When we begin with the end in mind, i.e., our own mortality, it gives us the right perspective and context around the decisions we make today. It gives us the passion and urgency to impact those around us in a positive way. It also enlightens us as to what values we would like to pass on to our children. 

 
Legacy Beyond Financial Wealth
I turn fifty years old this July 2024, and I'm starting to feel a sense of urgency about what I am passing on to the next generation. Don’t get me wrong, I’m not concerned as much about how my children will handle gobs of money when I die (not yet anyway!). On the other hand, I’m more concerned about setting them up for success and not passing on certain dysfunctions I have battled through in my life.
I want my kids to be more secure in who they are than I was. I want them to know that in all situations, they are worthy, they are loved, and they are valued. You might say, these are our family values that I want to be intentional about passing on. 
Furthermore, I sincerely believe that I may have been a better military and commercial airline pilot if those values had been part of my natural identity from the start. When I think about creating my family, or community legacy, these are the things I think about.

 

Steps to Create an Intentional Legacy
This is an article about money and finances, so how do our values fit or apply to passing on wealth?  My answer to that question is this: 

If all I do is pass on financial wealth, there is a good chance my money may do more harm than good if the values I believe in are not part of my legacy as well. In essence, if I only pass on money to the next generation, I may actually set them up for failure.

  • Passing on character, values AND financial wealth is a very difficult thing to do. In fact, most millionaires in the United States are first generation millionaires

In a recent article in Business News Daily, author Stella Morrison says it this way:

”...around 68 percent of those with a net worth of $30 million or more made it themselves. Further, a second study by Fidelity investments found that 88% of all millionaires are self-made, meaning they did not inherit their wealth.” 

Let’s face it, airline pilots are earning more money now than ever. Many of you will be able to pass on significant wealth to the next generation or causes you care about. Furthermore, you will leave a legacy whether you know it or not, whether it’s good or bad.  Why not take the time to make it a good one? When you’re facing the end of your time on this earth, what will you value the most? Allow those questions to guide your life right now. 

Below are some practical steps and points to ponder to help you begin to think about how to proactively design your life and legacy. Because if you don’t take the time to be intentional about it, it will happen to you, and you may not like it!


Define the Problem:
You work your butt off to create income, wealth and a good life.  But your children probably didn’t see you overcome the obstacles and the challenges it took to get where you are. Money is not like other areas of our lives where we can expect our kids to pick up on our good habits and characteristics without significant effort and intentionality.

The other day I asked a friend of mine how his son got interested in the weightlifting team at his high school. He shrugged his shoulders and commented that his son must have been influenced by seeing him and his wife work out consistently over the years.

Learning about money and personal finances, on the other hand, is very different. Often families have great money habits, but if these principles and habits are not clearly communicated misperceptions can form.

For example, “my parents don’t spend lavishly, therefore we must be broke.”  In this example you may have excellent money habits but unless your money values and your intentions are clearly communicated you may unintentionally pass on an attitude of scarcity versus an attitude of abundance.


Here are three steps to consider if you want to be intentional about passing on your legacy:
Your children may not see all the hard work and sacrifice you put in to become a high-income airline pilot. All they see is you home three to four days a week trying to catch up on house chores before you pack your bags again. “That’s not so bad...I like this airline stuff!”

 

1. Share your experiences, challenges and struggles with your loved ones.
Consider sharing more of your experiences with your family. At the appropriate time, discuss some of the challenges you overcame to become that highly skilled, highly sought after airline pilot.
  • Your kids may scoff (mine just laugh) at you a little when you share but they will remember you struggled and overcame obstacles.  
  • Hopefully, when inevitable challenges come their way, they will remember that even though you struggled at times, and you were able to overcome obstacles and achieve your goals.  At least they will know enough to not expect the path to always be smooth sailing. 
  • Unfortunately, this means we must be a bit more vulnerable and open about some of our challenges. Personally, I like to make people think it was all a breeze. That would mean that I’m smarter, tougher, stronger than I really am. That’s not what our kids need to see.


2. Communicate with your spouse, significant other or trusted friends.

Often, we are creating a great legacy and positively influencing those around us without thinking about it. It may just come naturally to you.  However, for the rest of us, the first step is to literally say it out loud. What is it you want? Bring the subconscious into the conscience by discussing it with someone. I often forget that my wife doesn’t know what’s on my mind or doesn’t know what I’m trying to accomplish by talking to our kids about “who they are.”

•    Better yet, write it down. There is something very powerful that happens when you write down your goals, vision for your family, or family core values.  If you search the internet, “why is writing down my goals important” you will get a slew of great articles about how you are 42% more likely to achieve your goals if you write them down. 

One article from Inc.com written by Peter Economy, The Leadership Guy says, “writing your goals down not only forces you to get clear on what, exactly, it is that you want to accomplish, but doing so plays a part in motivating you to complete the tasks necessary for your success. The process of putting your goals on paper will force you to strategize, to ask questions about your current progress, and to brainstorm your plan of attack.”


3. Write down what you want people to line up to thank you for on your deathbed.
A little morbid, I know. However, let's just admit that we’re all going to die someday. And all the toys you’ve accumulated will not be on your mind when that time comes. What will be on your mind? What do you want your epitaph to say?
The next time you’re flying from New York to San Francisco… 
•    Take some time to ponder what the top five things you want to say about yourself before you’re gone.
•    Take some time to plan what you want to be remembered for, forever.
•    Write down what non-financial character traits and values you would like to see in your family passed down for generations.  Is it your faith? Is it something specific to your family such as an attitude of service before self or leadership. Be intentional and plant the seeds now.

 

Values to Pass on to Future Generations
In closing, here are a few of the values we are trying to pass on to our young children.

1.    An attitude of stewardship versus an attitude of ownership. In other words, we’ve been blessed with something (money, health, relationships) and it is our responsibility to take care of them, nurture them and hopefully bless others along the way.

2.   An attitude of generosity. Study after study shows that giving makes us happy. That’s all there is to it, so help them build habits of generosity now.
3.   An attitude of abundance versus scarcity. I believe if our kids are secure in who they are, they will not feel the need to get more for themselves at the expense of someone else.
4.   An attitude of ownership and responsibility. We want to teach our kids that it’s okay to make a mistake or even fail at something.  It’s part of the growth process. I want my kids to know they can fail and overcome the situation or face the consequences and it’s okay. If we shortcut or insulate the struggles our kids may face or go through, we cheat them out of the opportunity to find out what they really want and what they are willing to do to get it.

Final Thoughts
What we do now will impact multiple generations, possibly hundreds of years. Passing on financial wealth is the easiest form of capital to pass on but it can be the most destructive if we haven’t prepared the next generation to handle the responsibility of wealth.

 

Hopefully, you found this article interesting and helpful.
If you have any questions, contact us at 865-240-2292 or Charlie@leadingedgeplanning.com.
Also, please tell us if we can help you on your journey to financial peace and prosperity!
Click here to sign up for our newsletter or click here to schedule some time to chat about your circumstances in more detail. 
Also, check out our Pilot Money Guys podcast where we regularly discuss these types of financial topics along with some fun airline news updates and interesting guest interviews.  Even the editor and founder of Aero Crew News – Craig Pieper!

 

Disclaimer
Leading Edge Financial Planning LLC (“LEFP”) is a registered investment advisor. Advisory services are only offered to clients or prospective clients where LEFP and its representatives are properly licensed or exempt from licensure. For additional information, please visit our website at www.leadingedgeplanning.com.
The information provided is for educational and informational purposes only and does not constitute investment advice, and it should not be relied on as such. It should not be considered a solicitation to buy or an offer to sell a security. It does not take into account any investor's particular investment objectives, strategies, tax status, or investment horizon. You should consult your attorney or tax advisor.
The views expressed in this commentary are subject to change based on market and other conditions. These documents may contain certain statements that may be deemed forward-looking statements. Please note that any such statements are not guarantees of any future performance, and actual results or developments may differ materially from those projected. Any projections, market outlooks, or estimates are based upon certain assumptions and should not be construed as indicative of actual events that will occur.
All information has been obtained from sources believed to be reliable, but its accuracy is not guaranteed. There is no representation or warranty as to the current accuracy, reliability, or completeness of, nor liability for, decisions based on such information, and it should not be relied on as such.
 

 

 
Categories
Charlie Education

The Tax Man Cometh – Do Not Be Afraid!

“Intelligence pushes you toward the idea that complex problems require complex solutions”

~Morgan Housel, Money psychology expert*

Paying taxes often causes a visceral reaction. I get it! It is probably the single most painful financial task we have to face on an annual basis. Furthermore, many of you recently received large contract bonus paychecks. For some of you, income taxes will be withheld up front and others may owe a large tax bill, due to under withholding, next April when tax-year 2024 income taxes are due.  

This angry, visceral reaction causes us to go to great lengths to outsmart the tax man. Many of us seek complex solutions to avoid taxes at all costs. Unfortunately this sometimes leads to bad investment decisions or large, unwanted purchases (trucks, tractors, airplanes!) that we may not want or need, all in the name of reducing our tax bill.  Do not let the tax tail wag the dog! This is easier said than done and akin to buying high and selling low in the world of investing.  

While there are effective strategies to reduce our tax burden, we should not do things that reduce our overall wealth and net worth.

Avoid the Complexity Trap

Pilots are known for their type-A personalities and “get ‘er done” attitude. Pilots work hard to solve problems and make things happen under very difficult circumstances. However, it is human nature to spurn the simple solution for the complex. This phenomenon is called the complexity bias. https://fs.blog/complexity-bias/ 

Be aware that complex tax reduction solutions often come with higher IRS audit risk as well as risks of repayment penalties and interest. Extreme cases may even warrant prison time. For some good entertainment while you are waiting on your delayed flight, simply search the internet for, “Airline Pilot Tax Fraud.”  You will find some very interesting characters doing things to evade taxes that might sound familiar and not too far fetched from some of the conversations we’ve had on the flight deck!  

While we are often tempted to overcomplicate our tax strategies, especially with big-ticket purchases, it’s essential to recognize that complexity can lead to costly mistakes. Here are a few key rules to follow:

  • Do not reduce your wealth and net worth in order to stick it to the tax man!
  • Do not seek out complex tax strategies that are high IRS audit risks when there are several simple, audit risk-free strategies to reduce your lifetime income tax burden.
  • Do not spend money on big-ticket items that you do not want or need in order to reduce your tax bill.  This is mathematically equivalent to spending one dollar to save thirty cents. 
  • Reducing your income tax burden over your lifetime may be more profitable than reducing your current tax bill.  
Tax Strategies

Sometimes we have to choose whether to reduce taxes now or invest in strategies that could reduce our income tax burden during retirement. Unfortunately, it’s hard to imagine our future selves and what we will need, which can lead us to decisions that might benefit us today but are very costly in the future.  

Below are four tax ideas that can help you legally avoid paying more taxes than you are  required to pay. But first here are three strategies that require special care and attention to detail in order to avoid gaining the attention of the IRS:


Strategies that Require Special Care
1. Claiming Residency in Another State using your Condo or Crash Pad 

Many high-tax states get very aggressive about going after folks that reside in their state but claim to be residents of another state. Of course there are circumstances where this is absolutely legitimate but use caution and keep extensive documentation. 

You can search the internet for requirements to be an actual residence of each specific state, but here are a few that are standard in most states: 

  • Spend 183 days or more in the state you claim to be a resident of
  • Enroll your children in school there
  • Register to vote
  • Receive your mail
  • No tiny homes…

For example, New York will look at the size of your house in Florida to make sure your residence in Florida is similar in size to your captain mansion in New York. Evidently purchasing a tiny home or small condo in Florida is a tell-tale sign that you don’t spend much time there.

2. Deducting Your Airplane (e.g., because you’re teaching your kid how to fly)

The details of when and how to deduct airplane expenses are very complicated and beyond the scope of this article. However, here are a few things to keep in mind.  

  • You cannot deduct the cost of your airplane (depreciation) unless it is used more than 50 % of the time for your (legitimate) business.
  • It is not a deductible expense because you need to keep your flying ratings current.
  • If at any time during the depreciable life of the airplane, personal use exceeds 50% there will be an immediate depreciation recapture.  (I.e., you will owe a lot of taxes all at once.)
  • All of the excess bonus depreciation is recaptured if the business use of the property falls below 50% and also a portion of the accelerated depreciation (the excess over the straight line) is recaptured if business use falls below 50%. (Updated 09/19/24)
3. Investing in Real Estate to Deduct Losses Against Your Airline Income

Remember rule number one – do not reduce your wealth to save taxes. It is not uncommon to see bad investments in real estate when high-income pilots are desperate to reduce their tax burden. In fact, it seems that we almost feel an obligation to purchase real estate solely for the tax deductions at a certain income level. I have heard many pilots confess that they must not be very tax savvy because they do have a real estate investment…or three.  Here are a few things to know before jumping into real estate investing:

  • Over a certain income level (currently $150,000) you cannot deduct real estate losses against your airline income. For example, if you replace the roof on your rental home and therefore show a loss of $10,000 on your rental property income statement you cannot deduct the loss against your current airline income. (However, the loss can be carried over.)

Note: If you are considered a Real Estate Professional, the above may not apply.  Being a real estate professional is a very high standard set by the IRS and is nearly impossible for an airline pilot to obtain unless they have a spouse, “in the business.”  

  • Real Estate can be a great investment. However, one rule of thumb I read a long time ago is good to keep in mind; In real estate investing you need to make money on three occasions; when you buy, when you rent and when you sell. That is not easy to do!
  • If you do not enjoy being a landlord and managing the business of real estate, I would avoid it altogether. There is no tax deduction worth making you miserable. If you plan on hiring a property management firm to delegate the pain, make sure they don’t eat into your profits too much. Some agencies can charge as much as 30% or more depending on the level of support. There are cheaper ways to invest in real estate if your costs become excessive.  (Publicly traded Real Estate Investment Trusts aka REITs) 
Smart Tax Strategies for Long-Term Savings

Instead of risking your financial future with complex schemes, here are four simple, effective ways to reduce your income tax burden over your lifetime.

1. Backdoor Roth IRA

This strategy is based on the IRS rule that:

  • Anyone, regardless of income, can contribute to an after-tax, non-deductible traditional IRA.  
  • Anyone, regardless of income, can convert a traditional IRA to a Roth IRA if they pay the taxes on the gains (if any) in the traditional IRA.  

There are more things to know before executing the back door Roth IRA, so make sure to consult your tax and investment advisor. 

2. Health Savings Account (HSA)

If you are relatively healthy and only frequent the doctor's office for preventative care and the occasional sniffles, a high-deductible health plan may be right for you. If that is the case, a Health Savings Account (HSA) is a great tax savings account. It is the only account in existence with triple tax savings: tax-deductible contributions, tax-free growth, and tax-free withdrawals for medical expenses.

3. Taxable Brokerage Accounts (non-IRA, non-401k investment account)

This is the most overlooked and advantageous account once you’ve maximized your 401k and potentially the (back door) Roth IRA. The taxable brokerage account is very flexible. There are no contribution limits and no withdrawal penalties. It is taxed at capital gains tax rates, which for most of you is much lower than your income tax rate. Finally, if you invest in low-turnover mutual funds (index funds) and Exchange Traded Funds (ETFs), you can essentially create your own tax-deferred growth. 

4. Real Estate

Even though I bashed real estate previously, it can be great for rental income and investment diversification. People can be very successful investing in real estate if they enjoy putting in some sweat equity and managing the rentals themselves. Short-term rentals may qualify for cost segregation, bonus depreciation.

Bonus Tip: Electric Vehicle Tax Credit

If you’ve received a contract ratification bonus, consider purchasing an electric vehicle. If your adjusted gross income is below $300,000, you might qualify for a $7,500 federal tax credit.

Tax season doesn’t have to be a burden. By avoiding unnecessary purchases and focusing on long-term strategies, you can reduce your tax burden without compromising your financial future. Stick to these principles and consult a tax professional to ensure you’re on the right track. Smart planning is key.

Resources:

Morgan Housel CNBC article: “Why the smartest people make bad decisions – compared to those with average IQ.”  

How to establish Florida residency? Kiplingers Article

Real Estate Cost Segregation Study

Contact Us:

Phone: 865-240-2292

Email: info@leadingedgeplanning.com

Disclaimer:
The information provided in this blog post is for informational purposes only and should not be considered as financial advice. Please consult a qualified financial professional for advice tailored to your specific circumstances.
Categories
Charlie Retirement

Don’t spend a lot, to save a little on taxes!

Save on Taxes

Tax Aversion Bias

By Charlie Mattingly

We often talk about behavioral biases, and we are constantly trying to better understand behavioral finance and behavioral economics to make better decisions. We think it’s fascinating because it can have a huge impact on our investment returns, saving habits and therefore our success in retirement.

Another one of the things that it affects tremendously, believe it or not, is taxes. So how does paying taxes drive our behavior?

First, let me talk about behavioral biases. What do we mean by behavioral biases? Certain parts of our brains are wired to make snap decisions to help save our lives, and sometimes this quick thinking really does save your life. What I’m referring to is the limbic system. This system is the emotional center of the brain that takes over under stress. The limbic system is the part of the brain involved in our behavioral and emotional responses, especially as it pertains to behaviors we need for survival, feeding, reproduction, caring for our young, and fight or flight responses.

This system has no doubt led to our advancement and survival as a species, however it often fails when tasked with evaluating certain complex scenarios we face in modern society, especially those that are highly emotional such as our finances.

So, what I wanted to do is address some of the weird things we do as taxpayers to avoid paying taxes.

Of course, there’s nothing wrong with minimizing your taxes. We don’t want to pay one cent more than we’re legally required to, on the other hand, we don’t want to reduce our net worth just to minimize taxes. Unfortunately, that’s what happens a lot of the time.

My father-in-law owns a lake house here in the Knoxville, Tennessee area. The house is paid off and it has appreciated significantly in value over the years. It’s a beautiful place, but they don’t want it anymore. It’s a lot of work for them to properly maintain. So, maybe selling the property would bring them more peace of mind and less stress in retirement. However, he won’t sell it. The primary reason is because he’ll have to pay taxes.

What other ways has the tax aversion bias changed our behavior? Taxfoundation.org has a great article on some of these examples of tax aversion bias.

Have you been to Charleston, South Carolina and noticed that the buildings are narrow and close together? That design started in Amsterdam and was copied around the world. The buildings were intentionally built to be narrow because… you guessed it, taxes. In the 16th century, buildings in Amsterdam were taxed by the width of the property’s façade and how much street frontage they took up.

Real Estate Investing
Another fascinating example from Paris, is the design of the Mansard-style roofs. Architects actually created rooms above the roof line because taxes were levied on the number of floors below the roof line.
Mansard Roof
One of these behaviors that I struggle with and think about a lot is farm equipment. I’d like to buy a new tractor and I know a lot of you probably would too. Tractors are fun! That’s why towards the end of the year I hear folks say, “Hey, I need to reduce my taxes, so I’m going to go buy a tractor. Maybe even a bigger tractor!”
Again, if you need the tractor or farm equipment, that’s a different story, but don’t do things simply because it’s a tax savings. As my business partner, Kevin Gormley will tell you that’s the “tax tail wagging the dog”.

In summary, taxes are a very emotional issue, and this can affect our behaviors. Sometimes we let our emotions make decisions for us, such as the example where I’m not going to pay taxes no matter what or as little as possible no matter what. Just be aware that even though its painful, sometimes it might be smarter to just pay that tax.
Thank you for reading. Please reach out to us anytime. Leadingedgeplanning.com, My email is Charli@leadingedgeplanning.com. We’d love to hear from you!

Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk and there can be no assurance that the future performance of any specific investment, investment strategy, or product made reference to directly or indirectly in this video will be profitable, equal any corresponding indicated historical performance level(s), or be suitable for your portfolio. Moreover, you should not assume that any information or any corresponding discussions serves as the receipt of, or as a substitute for, personalized investment advice from Leading Edge Financial Planning personnel. The opinions expressed are those of Leading Edge Financial Planning as of 09/06/2019 and are subject to change at any time due to the changes in market or economic conditions.

Categories
Charlie Education

“The Envious Investor”

 

 

“My neighbor invested all of his portfolio in TESLA and now I’m envious!  It feels like I’ve FOREVER missed out.  And I might have less money in retirement because I missed the hot stock, ETF, Mutual Fund, etc.?” 

 

“As an investor, you get something out of all the deadly sins—except for envy. Being envious of someone else is pretty stupid. Wishing them badly or wishing you did as well as they did—all it does is ruin your day. Doesn’t hurt them at all, and there’s zero upside to it."

 

"If you’re going to pick a sin, go with something like lust or gluttony. That way at least you’ll have something to remember the weekend for.”

 

Warren Buffett

We understand these concerns and feelings because we’re investing for retirement too!  Furthermore, as investment advisors we hear these concerns almost every year.  If you’re a diversified investor, there will always be an asset class, a high-flying stock or mutual fund that has higher returns than your diversified portfolio.   

Does this mean we’ll have less money for retirement than our neighbor who’s ONLY investment last year was TESLA?  Historical evidence says you’ll likely do just as good or better over the long-term.  The “over the long term” part of the sentence presents the challenges.  In other words, it’s really hard to be a long-term investor when it feels like the world is falling apart around you AND your drinkin’ buddies are killing it with their daily newsletter stock picks!   

We all feel the pressure (envy) of missing out on great investments that we should have known were going to do better than all the others.  The good news is that diversification still works.  It’s never really “cool” nor does it ever feel great.  However, we believe, and the evidence supports the fact that your chances of success are better in the long run.  Check out the numbers from the chart below from BlackRock.   

 

Take a look at our short video where Charlie discusses what it was like in 2020 as investor.  How challenging it can be to stay the course and not chase recent returns.  Furthermore, the difficulties of feeling like you’ve forever missed out if your returns weren’t as high as your neighbor who invested in TESLA, Bitcoin, etc.   

Thank you! 

Charlie & the Team at Leading Edge Financial Planning 

 

Please remember that past performance may not be indicative of future results. Different types of investments involve varying degrees of risk and there can be no assurance that the future performance of any specific investment, investment strategy, or product made reference to directly or indirectly in this video will be profitable, equal any corresponding indicated historical performance level(s), or be suitable for your portfolio. Moreover, you should not assume that any information or any corresponding discussions serves as the receipt of, or as a substitute for, personalized investment advice from Leading Edge Financial Planning personnel. The opinions expressed are those of Leading Edge Financial Planning as of 03/12/2021 and are subject to change at any time due to the changes in market or economic conditions.