HOT TOPIC Do you Save / Invest along the way?

[michael515]

What's your opinion on investing in i.e. a 401k or IRA if you're an entrepreneur?

I used to be all for people on a CAREER TRACK or a JOB investing in a 401k for the long haul. Now I really see it as more slow-lane. I'd rather take my money and try to invest it into a business where the return could be 1,000's of % not peanuts...

Any thoughts?

 

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[SteveO]

Agreed. An issue that could come up is discipline. Can you put money aside that is geared toward investing without touching it. So many events happen in life that make it tempting to latch on to this money. If you can keep the "pay yourself first" mentality and not touch the money for anything other than your goal, then it is a good plan.

You must build capital the fastest way that you can in order to get started.

 

[AroundTheWorld]

I have a hard time "saving" in the traditional sense (401K etc.).

On one of my last projects - our "sweat equity" worth x amount of dollars TRIPLED in just over one year.

I got a 300% return on my money.

We may be selling that project soon. The question is... should we "invest" in a nice safe NNN 8% return - or do another value play and triple again??

hmmmm. Hard choice.

 

[Diane Kennedy]

There are actually three issues here, that are getting lumped together.

- Should you save/invest while you build your business?

- Is 8% a good return for really hands off investments?

- Is 401(k) or other form of tax deferral or tax free vehicles a good choice?

I want to make sure I understand exactly what you are asking before I weigh in...and I have a LOT of opinions about all three. :coffee:

 

[AroundTheWorld]

There are actually three issues here, that are getting lumped together.

- Should you save/invest while you build your business? / agressively investing in real estate
- Is 8% a good return for really hands off investments?

- Is 401(k) or other form of tax deferral or tax free vehicles a good choice?

I want to make sure I understand exactly what you are asking before I weigh in...and I have a LOT of opinions about all three. :coffee:

Looking forward to your input!! :smxG:

 

[kurtyordy]

I like the 401k, the company doubles my money immediately, not sweat, no waiting, just 100% return from the minute I put it in.

 

[AroundTheWorld]

I like the 401k, the company doubles my money immediately, not sweat, no waiting, just 100% return from the minute I put it in.

agreed... free money - hard to walk away from that.

however if one has no employer....

 

[kurtyordy]

In that case, unless it is part of a stategy to reduce tax liability, I stay away from tying up my cash. I personally like the freedom of the market outside of those incumberances, quick access if I need it. The other option is to go a flip burgers. I hear the feds just gave them all a raise with another one coming shortly. Just think, in a short time you could be making $7.25/hr.

 

[yveskleinsky]

A+ answer JScott! Seems like every financial decision goes back to your own personal financial plan- and how liquid and/or aggressive you want to be.

 

[tchandy]

I invest for big gains in stocks but waiting for the market to change course one of these days, invest for the longterm with an IRA and you could say the rental properties as well depedning on how you look at it, and also with my retirement check due to kick in another 9 years or so. I kind of see it as diversifying with your investments/savings.

Tom

 

[Diane Kennedy]

On the question of "Should you invest/save while you aggressively build your business?"

GREAT QUESTION! I like to have an amount of liquidity while I build my businesses, but to be honest, I don't save while I'm doing it. I have a program that I do that puts your money in "baskets". There is the emergency basket which is for those "emergencies" that always seem to crop up. Put in $5K + $1K/family member. So, for my family that is $8K. In the beginning, that would have seemed like much more money than it is now. And, to be honest, at this point that seems kind of ridiculous to even worry about it. Our cash position can change over $50K in a day as investments pay, we invest, whatever.... The next one, though, is more important - the "security" basket. I want to have at least 6 months of ALL the bills covered (all the tenants move out, no sales in my company, etc) and my husband thinks that 1 month is plenty. So, we negotiate on that one a little.

Right now I have three new business ideas that I'm working on. They are all long term and related to my core business. One at least could take a lot of cash to get going. So, we've moved from investing aggressively in real estate to investing aggressively in the businesses. But, aggresssively does not mean that we give up the emergency and security baskets. That cash is there just in case the bottom falls out and so we have time to recover.

My answer to this question is "It Depends!" :smxB:

 

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[Diane Kennedy]

Next question: Is 8% a good return for a truly hands off investment?

I'm curious what others on the forum have to say on this. 8% is more than you can get on most tax-free bonds, or at least the ones I've heard of. I have a whole life insurance policy that pays a guaranteed return of 8% and since i use the cash value of that policy as one of my liquidity sources (in case the bottom falls out), I'm happy with that return.

I know a couple of experienced real estate investors who average retuns to their investors of 15% - 25%. You don't get the liquidity with those investments, but those are nice returns for hands off investing.

Remember, though, that this is a separate question from "should I invest as I grow my business."

 

[Diane Kennedy]

And, final question, AFTER you've determined whether you want to invest outside of your business and whether the return you plan to get is a good one, should you use a tax deferral or tax free vehicle?

I'm really trying to avoid the knee jerk response that often happens when 401(k) is mentioned. The fact is that 401(k) is nothing more than an IRS Code Section that defines a particular type of tax deferral device. It's not good, it's not bad - it's the investments that make it good or bad.

If you have your own business and you and/your spouse are the only owners and only qualifying employees, you can set up something called a Solo 401(k). You can self-direct them which means you can use the funds for real estate purchases and for funding businesses. There are some rules on how you can access the money and restrictions on "self-dealing." But, follow the rules and you can build some pretty amazing tax deferred income and wealth.

Last year, the Solo 401(k) added on a "roth" component. The Solo Roth 401(k) grows tax FREE and you can self-direct it.

Now those are just two tools you can use - again, if the investment isn't sound it isn't good.

When I hear people trash 401(k) because they "always lose money" it reminds me of someone who blames Bank of America because they used a B of A checking account to write a check for a car that was a lemon. Hey! It was the car that was bad, not the bank that had the bank account. Same thing with a 401(k). It's a tax deferral device. Period.

Another question might be should you set up a Solo 401(k) if you're aggressively building your business. I'm actually doing this a lot with my high income clients because it will take them out of AMT danger and they can still access the self-directed funds.

Plus, in 2010, you can roll all of your pensions into Roth accounts (regardless of income) and have 2 years to pay the tax on that rollover. Currently, high income taxpayers can not set up Roth accounts.

Now, that all said - is it fast lane? I'll probably get some argument on this one - but I say absolutely yes it is. If you can build wealth faster because you lack the tax drag, in and of itself, it's not fast lane, but it's an accelerant on a plan that's already fast lane. I'm not going to use an example because it takes time to see the real effect of using this strategy and last time I did that it started a firestorm.

 

[Diane Kennedy]

In my opinion, it (should) all boil down to opportunity cost -- what would you otherwise be doing with the money if you weren't allocating it to a tax-free retirement investment?

If you would otherwise be spending the extra money on something you can't afford, then putting it in a retirement account is obviously a good idea. If you would otherwise be investing it, and could reasonably earn 30+% on your other investment, then putting it in a retirement account is obviously not optimal.

Of course, for most people, the alternative to the retirement account is somewhere in between, so the opportunity cost has to be determined on a case-by-case basis.

JScott I absolutely agree that you have to look at the whole picture before you know what the right answer is for you.

But, I have a challenge for you - what if you could invest and earn 30%+ AND do it through a tax deferral or tax free vehicle? It doesn't have to be "or"....use the power of "and"!

 

[michael515]

Great answers everybody - thank you...

Perhaps I was looking too black and white at (i.e.) investing with a MF through an IRA or 401k or taking the money and investing in a business venture. While both are investments - both carry different risk-reward ratios and liquidity issues, op cost of money, etc..

 

[SteveO]

But, I have a challenge for you - what if you could invest and earn 30%+ AND do it through a tax deferral or tax free vehicle? It doesn't have to be "or"....use the power of "and"!

shouldn't this be an easy answer? :smx7:

 

[Diane Kennedy]

shouldn't this be an easy answer? :smx7:

SteveO, I agree with you.

:coffee: Okay, now I'm going to go off on a tangent...because it's Sat morning and the rest of the family is all off doing their own thing or still sleeping...

There seem to be two main camps on 401(k)'s that I run into all the time. (1) 401(k)'s are the savior of the working classes. (2) 401(k)s are bad investments. The last one comes, in large part I think, because of Robert Kiyosaki's many statements about it. Robert's genius is taking on the 'tried and true' beliefs (creating controversy and interest) in way that is very simple (so it's easy to quote him without having to think).

A 401(k) is simply a way to defer taxes. And now, they are also a way to avoid AMT and set up for the HUGE 2010 tax loophole. Unfortunately people get it still jumbled up in their minds.

If someone tells me a 401(k) is a bad investment. I ask them "why?" They likely tell me that they started out with some sum (say $10,000) and it's now worth less (say $6,000). I ask them if the 401(k) was the reason they lost money, or whether it was the investment they made that lost the money. There is generally either complete silence or a "yeah, but..." which leads to a misquote of something Robert said.

That said - I am NOT telling everyone to go get a 401(k) or invest in their company's plan. Just please realize that a tax deferral vehicle is just that....a way to pay taxes later. A 401(k), used properly, is EXACTLY the same as a Sec 1031 like-kind exchange, only it's a whole lot easier to use.

 

[SteveO]

My response was not intended to say whether a 401K was a good investment or not. But, I have had many years of more than 100% returns that has been tax deferred through real estate. It just seemed like an appropriate answer to the question.

I have investors that have used their 401k money to do real estate deals.

 

[SteveO]

Just please realize that a tax deferral vehicle is just that....a way to pay taxes later. A 401(k), used properly, is EXACTLY the same as a Sec 1031 like-kind exchange, only it's a whole lot easier to use.

Here is a topic that I could use an answer to. If I die and pass all of my properties on to my children, they will pay an inheritance tax but will get a step-up in basis, correct? Overall, it seems that they would come out ahead and I would go out with a permanent tax deferral.

 

[Diane Kennedy]

Here is a topic that I could use an answer to. If I die and pass all of my properties on to my children, they will pay an inheritance tax but will get a step-up in basis, correct? Overall, it seems that they would come out ahead and I would go out with a permanent tax deferral.

Steve, great question and I wish I could give you a definitive answer. The problem is that the current estate tax laws are largely expiring in 2010. Sigh. So, yes, if you die before 2010, your kids will get a stepped-up basis (ie...the current fair market value). There will also probably be some estate tax to pay at that point as well. (There is an amount that is exempted, but anything over that amount is taxable)

You and your wife both have an amount that is exempted, so typically you want to set it up so that if one of you predeceases the other, the exempt amount is put into a trust for eventual benefit of the kids.

Oh - and on your earlier post - I LOVE that you have investors using their pension funds (Solo 410(k), Roth, SEP, rollover 401(k), etc) to invest with you. They get great returns PLUS they don't have to pay tax right now (or maybe not ever).

 

[AroundTheWorld]

Next question: Is 8% a good return for a truly hands off investment?

I'm curious what others on the forum have to say on this. 8% is more than you can get on most tax-free bonds, or at least the ones I've heard of. I have a whole life insurance policy that pays a guaranteed return of 8% and since i use the cash value of that policy as one of my liquidity sources (in case the bottom falls out), I'm happy with that return.

I know a couple of experienced real estate investors who average retuns to their investors of 15% - 25%. You don't get the liquidity with those investments, but those are nice returns for hands off investing.

Remember, though, that this is a separate question from "should I invest as I grow my business."

I would have a hard time settling for 8% - though if it were liquid, and 100% passive - those things sure do go a long way. Once I'm done with the aggressive growth phase of the plan though, my feeling may change. 8% totally passive might be looking pretty good.

 

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[AroundTheWorld]

This is my "problem" with retirement vehicles.....

I don't want to wait for retirement to get my hands on the money. I've heard little snippets about ways to get it out early w/out heavy penalties - but I've never taken the time to really research this.

 

[andviv]

well, the 'retirement vehicle' title sure turns me off as well, that's why I try to call them 'tax-free' and 'tax-deferred' vehicles... just to remember WHY I'm putting money there and using them.

 

[AroundTheWorld]

well, the 'retirement vehicle' title sure turns me off as well, that's why I try to call them 'tax-free' and 'tax-deferred' vehicles... just to remember WHY I'm putting money there and using them.

I'm all for tax-free and tax-deferred as long as I don't have to wait until I'm of "retirement age" to get the money. I need it when I'm 35 - not 65

 

[Diane Kennedy]

Just some alternative thoughts on tax deferral & tax free investing:

- You can access at 59 1/2 (still a long ways from 35, I agree)
- If it's a Roth, all you'll pay is 10% penalty (lots cheaper than the current 15% which goes to 20% soon or even up to 48% if Rangel has his way)
- You can do substantially equal distributions without penalty
- You can invest WITH your tax deferral vehicle, so that part of the money will flow to you for living needs

 

[AroundTheWorld]

- You can invest WITH your tax deferral vehicle, so that part of the money will flow to you for living needs

:smx6: huh? :smx6:

 

[Diane Kennedy]

Sorry - that statement was confusing.

Let's say you put in $20K and your pension plan puts in $20K and together buy a property. Half of the profits will flow to you for living expenses and half will stay in the pension plan.

Did that make more sense?

 

[NerdSmasher]

Sorry - that statement was confusing.

Let's say you put in $20K and your pension plan puts in $20K and together buy a property. Half of the profits will flow to you for living expenses and half will stay in the pension plan.

Did that make more sense?

Now that sounds like a good way to invest!:fastlane:

 

[AroundTheWorld]

- You can do substantially equal distributions without penalty

Is this true for all tax def. vehicles? 401K? Roth?

Thanks Diane !! :thankyousign:

 

[AroundTheWorld]

I'm intrigued.

Here is an article about Substantially Equal Periodic Payments:

http://www.investopedia.com/articles/retirement/02/112602.asp