Speaker 1 (00:00.11)
money in a traditional IRA, a SEP IRA, or a simple IRA, the IRS regards all that as just IRA. It doesn't matter how many accounts you have, where they're located, whether or not it's all in one of those or spread across all three, that's the IRS's IRA. And if you do a Roth conversion during the course of the year and you wind up with anything other than a zero balance in those IRA accounts, you're going to wind up subject to the pro rata rule, which means that some that's just going to be taxes ordinary income.
Welcome to the Physician Family Financial Advice Podcast. Moms and dads like you turn today's worries about taxes and investing into all the money.
advisors post where physician.
Speaker 1 (00:39.692)
you need for retirement in college.
Hello physician moms and dads. I'm Nate Renneke, Certified Financial Planner and Primary Advisor.
and I'm Ben Utley, also a CFP and the service team leader here at Physician Family. Today we're gonna just dive right into another bout of listener questions. Nate, what's on deck first?
Yes, we have a family medicine doctor in Alaska.
Is it Bayer, Alaska or Colb, Alaska? You know what? I'll tell you a quick story. I flew Alaskan airlines one time and the person who was a stewardess, steward, whatever you call them these days was like, just let me know if there's anything I can get you. And I said, just free beer. And you know what? They brought me a free beer and not only that was a micro three. That's my Alaska story.
Speaker 2 (01:06.968)
Yeah, so now...
Speaker 2 (01:27.374)
All right, this doctor wants to know what is bond discounting and how does it work?
Okay. All right. So I'm our local bond ghoul.
Yes. Let's, let's take it back a few steps here. We jumped right in. Yeah. What's a bond.
What's a bond? What's a bond? A bond is just, it's nothing but a loan. Okay. So if a friend makes, if you, if a friend borrows from you, you call it a loan or an IOU. If a government, a corporation, uh, one of those bars from you, then we call it a bond. Okay. And so a bond happens when school district or, um, Apple or somebody like that needs money. And as if Apple would ever need money.
They come to you and they're like, Hey, I want to borrow, let's make a bond. And this, that's the third grade version of it. And you buy that bond. And when the bond matures, they guarantee that you get your money back. Sometimes they welch it's called default. In the meantime, you get interest, right? So no big deal. Works like any other law. Okay. So that's, that's the basics of a bond. Where do I go from there?
Speaker 2 (02:37.496)
So you say you get your money back. so we're talking about the value of a bond, right? It's like the par value. think that's what it's called right then. You're the bond guy. So this is just like the face value of a bond. And I always think of this as like, you know, you get these, your grandparents may have given you like these paper bonds you have in the bottom of your shock drawer, of like a dollar bill. The top of that paper bond says like a thousand bucks. Face value of a bond.
When someone's buying this from you, let's say you needed to sell it, sometimes they don't buy it for a thousand dollars. Correct. And this is called discounting.
Thank
Just this county. Yeah. So every bond has what's known as a coupon rate, which is that is the rate that's printed on the face of the bond. You know, let's say it's a 5%, right? And bonds are usually issued in denominations of $10,000. they trade in bigger denominations than that, but let's say $10,000. Okay. So, you go out there and you buy a brand new bond, which is called an at issue bond. Okay. So you're buying it just as it's, as it's floated onto wall street.
Okay, so you put $10,000 in this bond at 5%. Let's say it's for a year. Okay. So over the course of that time, you are expecting $500 in interest. Okay. Now let's say that you're cruising along and interest rates rise from 5 % to 10 % just to make the math easier. So how do they rise that fast? Okay. Now let's say you also want to sell that bond at the same time. Well,
Speaker 1 (04:15.31)
So if I'm a brand new bond buyer, I can look at your bond, which yields 5%, or I can look in the market and I can get 10%. Okay, so I would never ever buy your bond if you're selling it for $10,000. But if you were selling it for a lot less than $10,000, such that the yield on it wound up being 10%, then I'd be like, sure, I'll buy your bond. But you're going to have to discount that bond. You're gonna have to reduce the...
purchase price that you want, right? You can't reduce the face value because that's printed on the bond, but the market value of the bond has gone down because interest rates go up. So the listener is asking the question like, what is bond discounting? As if, you know, as if you could discount a bond or there's a strategy about bond discounting. There's not, this is merely a market to the mechanic that is pricing down the value of an asset because there are better assets available out there.
It's many, I'm not sure how many listeners are familiar with this concept, but when interest rates rise, bond values drop because there are better interest rates available on newer issues, right? By the corollary, you know, from the eighties all the way through, the early two thousands interest rates dropped over that time period and bond prices rose over that time period. So there's this inverse correlation between bond prices and interest rates. So when interest rates rise, bond prices fall. If you buy one of those bonds.
that is below face value, that's called discounting. And assuming that the company who issues the bond does what they're supposed to do, which is to say that they repay the bond in full, then you would actually get a capital gain on that. So let's say you buy a $10,000 bond for $9,500. When that bond comes due, you're gonna actually get $10,000. So that means that you're gonna get $500 worth of capital gain in there. So.
To make things more interesting, there are some bonds called OIDs or original issue discount bonds. And so they're made available at a discount and they mature at face value. A common example of this is T-bills, treasury bills. US treasury bills are issued at a discount and mature at their face or more.
Speaker 2 (06:27.406)
Okay, so that answers the question, but I wanted to kind of bring this into something that's pretty relevant today. I see a lot of physicians or they'll ask me about sticking their emergency fund in some form of bond. And maybe we could talk about that for a second and kind of where that could you could be crossing the line of maybe inappropriate.
Yeah.
what bonds are appropriate for emergency funds and which aren't.
Yeah, so there are a couple of factors about bonds. One is duration or maturity. It's how long the bond goes. And that gives you some idea about how volatile it will be as interest rates change. The other one is credit quality or likelihood that it will be repaid. So you have junk bonds that are less likely to be repaid. You have a U.S. Treasury and government debt, which is the most likely to be repaid. have corporate debt, which can be re-rated somewhere in between. So I don't see a problem putting
Emerging a huge fund into ultra short bonds, which are bonds with less than a one year maturity and of high credit quality. So this would be AAA, AA government securities, that kind of thing. It's not a bad idea. However, buying bonds themselves, you know, like buying individual stocks, buying individual bonds is a pain in the butt. you have to have a brokerage account. have to go, you have to go buy these, you know, one at a time. It's like shopping for groceries. It is so much easier to pick up an exchange traded fund.
Speaker 1 (07:54.606)
then invest in those bonds and pay the 0.03 % to get it, which is next to nothing. Right. And then you have liquidity. So you can train that trade that exchange traded fund all throughout the day. You don't have to worry about things being traded dealer to dealer, which is bonds are it's just so much easier. know, it's way easier to trade them.
It's easier but there, you know, something you just said, the liquidity is really important for an emergency fund. You know, some people are just looking at this rate, the rate that they're gonna get and they're not kind of taking into account the goal of an emergency fund. So, liquidity is a big goal. Another one is if you're not buying those ultra short-term bonds, which circling back to something you just said, is essentially bonds that mature really fast.
Absolutely.
Speaker 2 (08:46.078)
and you get the full face value back. So if the interest rates go up and down, you don't really care because they're just going to mature and you're going to get the full value back. So if you buy longer term bonds and you need the money, if interest rates went up, you're not going to get all your money back. Right? that's what to look out there. And I get that question quite often. hopefully.
ETS are just such a, it's just a slam dunk way to handle this. I gosh, I don't know. I'm trying to think of an analogy and I can't come up with one. Yeah, that's, that's how I tackle it. If I was doing that. But before I do that, I'd buy, I look at something, this FDIC insured for emergency fund, you know, unless it's, you don't ever think you're going to tap this emergency fund in which case you could put it in bonds and make sense. But that's how bonds work. And, bonds belong in almost all portfolios, you know, even for aggressive investors, maybe 10%.
Okay, next question from a hospitalist in San Diego, California and an academic interventional radiologist in San Francisco. And I got these questions.
Are we getting a twofer here? We're getting two docks in one?
no, this is two separate families.
Speaker 1 (10:01.614)
same question, family.
Wow, this is the first time in Physician Family Financial Advisors podcast history.
That's right. So they're both asking me, how do I buy a house in California and stay on track?
or retirement college,
for retirement in college. Yes. So every once in a while, I will get these brave souls who attempt to buy a house in San Diego or San Francisco, and they still want to stay on track for college and retirement. They want to know how do I do it? So the San Diego doc, they have a story. They saved up a million dollars in cash, a million dollars in cash because they have this big goal.
Speaker 2 (10:52.662)
of buying a $3-4 million house.
And the combined income is maybe 650, 700. So they're looking at a $3 million mortgage. They make 700. But the issue is that in order to get that million bucks, they're now in their early 40s. So they don't have a ton saved for retirement.
Speaker 2 (11:19.95)
Both of these families, they have a decision to make. They can look at, they have to choose which prize they want. Do you want a really comfortable retirement or do you want a pretty lean retirement in a great house in San Diego, California or San Francisco?
Yes, it's just the sun tax and it's expensive. And I think physicians look at that and they think, you know, I'm a physician. I should be able to afford the house I want in the city I want. You know, the people who can really afford this are like the tech guys in San Francisco.
This seems like a rather arbitrary and false choice. mean, having to put a million dollars in a three or four million dollar house, mean, what happened to the 5 % down doctor alone? Like, where is that at?
They didn't have to that's just what they did and well Yeah, I don't know that's when they showed up on my
People tear the wings off of flies, but this is self-flatulation. terrible.
Speaker 2 (12:23.502)
Well, there is some merit to it, which is if you put 5 % down on a house, their mortgage payment is just absolutely absurd. so, looking back, if they would have been investing over the last 10 years instead of saving up cash, they would have done pretty well. But they are where they are now and that they're making this choice between a really nice house, which is their goal.
and saving for college and retirement and the plan made it very obvious that this is a choice. can't do it.
What's killing me here, Nate, is that equities have almost doubled in that decade. Yeah. Not that, mean, hard to say because 10 years is a long time horizon, but you know, if there's a house at the end of it, but you think maybe a portion of that in stocks, a portion of that in bonds or something. And I mean, they could have had it, they could have had the house back then, right. With five or 10 % down and we know what home prices have done. They've appreciated. So I don't know, just.
sitting on cash for a decade, that's a lot of that decade was 0 % interest rates. I mean, it's terrible.
Yeah.
Speaker 1 (13:37.518)
this is, this is what kills me. This is what absolutely killed me. They could have paid for our advice with a tiny fraction of the money that they've wasted. And it's so much better off, you know?
Yeah, so that's tough. And then the other family, non San Francisco family, San Diego family, they're waiting for kind of everything to line up. I mean, they needed to move, they needed a down payment. They didn't make as much. And I think they're gonna successfully do it. They prepared with our advice and have been saving along the way. But if you're in a position where you're paying the sun tax and you really want that big house,
versus retirement in college. My advice is don't, don't pay the sun tax, but, or, or don't buy the $3 million, $4 million house. mean, a lot of times what happens, people want to move to these big cities and they want a house that's comparable to the house that they're paying for South Carolina. And that's, you know, that's not the price. The price isn't the house in states. The price is the price is the beach. So buy a workshop.
I'm sure you want better Missouri. Missouri's got affordable home prices, right? Yeah. But I, you know, the reason people do this is because I want to live near family. Mom and dad live there, brothers and sisters live there. It makes total sense to me, but you know, there are lower cost areas in California and I don't know, it's, tough, but there are jobs that physicians can work at a distance. So there's lots of room for flexibility here, but you, have to carefully push back on all the assumptions and all the constraints.
Yes. So, the answer, I think the, reason I wanted to include this question is that physicians feel like they should be able to do this. What are they doing wrong to where they can't go buy a house anywhere they want? Yeah. you're not doing anything wrong. Houses in San Diego, San Francisco, New York are very expensive and I know physicians that don't buy.
Speaker 1 (15:35.582)
You're either competing with old money or tech billionaires. You can't compete with those guys as a physician. Not anymore, you know? Yeah.
All right, pediatrician in Washington. My employer makes discretionary non-elective contributions to my 401A at work. I read that these non-elective employer contributions may be increased, decreased, or eliminated at any time. I'm not sure what to make of the can be eliminated at any time piece in terms of our financial plan. Is this normal?
The eliminated at any time piece clause is normal. It just provides flexibility under bad business conditions for an employer. In fact, I've seen it so many times that when I'm writing plans, don't put in some measure of conservatism. We just say, you get it, because most of the time you will. But the deeper underlying piece of this question is, I think,
A lot of folks when they're writing their plans, they just assume things are not going to change. Like anytime there's a chance that something will change, it's like, what are we going to do about this? Well, I got news for you. Yes, I got news for you. Things are going to change. In fact, there's going be 10 changes before your employer decides not to give you your 4 % into your 401A. Right. So, you know,
Uh-huh.
Speaker 1 (17:04.43)
Yes.
You update the plan just like your life gets updated. Your financial plan, your financial journey, it's like a living story. That's your life. It's not a static spreadsheet and there's going to be plot twists.
Just cause you write it down, doesn't make it like, you know, very tail-end. So here's, here's, would summarize a lot of this. when they say that can be increased, decreased or eliminated, that is the definition, just discretionary. They're just, they're just defining discretionary. That's all there is to it, you know, and that's kind of like life. Things can be increased, decreased or eliminated. And so I fight, if you just kind of roll with the punches, but you've been good to have a plan before you get in the ring.
That's right.
Speaker 2 (17:53.806)
That's right. And you know, once you have a plan and you take away 4 % one place, you know exactly where to make up for it.
That's not gonna make or break a plan, you know?
All right. I got a listener question by email, which we really appreciate. You can send them to us. Active duty orthopedic surgeon. I currently max out my Roth IRA and spousal Roth IRA annually, but I anticipate needing to perform a backdoor Roth in the future due to expected income increases.
My concern is that I already have money in my traditional IRA at Vanguard. This money was a rollover from 401Ks. The amount is $64,000 and it's actively invested. I rolled it over because I preferred the investment options at Vanguard. Is it correct that in order to avoid the pro-rata rule of performing a backdoor Roth IRA conversion, the traditional IRA needs to have a zero balance? If so,
What should I do with the traditional IRA money now to plan for my eventual need for a backdoor rock?
Speaker 1 (19:05.294)
Yes, it's correct. Yeah. If you have money in a traditional IRA, a SEP IRA or a simple IRA, the IRS regards all that is just IRA. It doesn't matter how many accounts you have, where they're located, whether or not it's all in one of those or spread across all three. That's the IRS's IRA. And if you do a Roth conversion during the course of the year and you wind up with anything other than a zero balance in those IRA accounts,
That is.
Speaker 1 (19:31.726)
You're going to wind up subject to the pro rata rule, which means that some that's just going to be taxes, ordinary income. So, you know, the, listeners like, so first true. And second, what I do about it. Okay. So what you do about it is, you know, if you're active military, you've got the first thrift savings plan, which is basically your 401k. So you could take that traditional IRA and roll it back into the first thrift savings plan, which, uh, their investment options are there are not unlike Vanguard. Uh, their index funds and their, their great index funds.
and very super low cost, you know, so yeah, that's a, that's a good option. But, you know, they, might want to do a little tax planning because if they're able to make Roth contributions right now, that means that they're probably in a position where they could do a Roth conversion on a taxable basis and wind up with a whole bunch of money in their Roth to grow tax free forever. So you just have to do a little analysis to see whether or not it makes sense to convert that traditional IRA and pay taxes today.
and have that money grow tax free forever, or if it would make more sense to roll it into the first TSP and then continue doing the backdoor Roth contributions.
Yeah. So I'll put, right? Because if it's worth it putting money in the Roth IRA in the first place, isn't it worth it to convert some right now?
Yeah, it might, be. I, I this way early on before the business really took off. had some traditional IRAs. I just converted them and geez, you know, those were six figure accounts now because they'd just been growing Roth IRA tax free this whole time. It was, it was a good, I guess a good investment if you will, back then to, make that, that comes right. But I would not recommend this for somebody who's, you know, mid stage in their career and they're earning, you know, the mid six figures, that kind of thing. That's, that's a no-no at that time.
Speaker 1 (21:18.294)
Yeah. No, I said no, no. You said yes. I say no, no. And with that said, we have no, more time today and no, more questions. So, if you have questions, feel free to reach out to us. That's, what is it? The podcast at physician family.com. You can visit us at physician family.com. are accepting clients. if you have buddies and friends and you're looking for someone who is ethical, that will treat them right and hook them up with a podcast. Hopefully they'll give us a ring.
Until next time, remember, it's you're not just making a living, you're making a life. Thank you for
listening to the Physician Family Financial Advisors podcast. Are you breaks you really deserve? To find out, get your copy of the Overtax Doctors Retirement Investing Checklist available at PhysicianFamily.com forward slash go.
time.
Speaker 1 (22:06.796)
dot com.
Speaker 1 (22:11.05)
is for educational purposes only and is not personalized advice consult your tax advisor before taking action all investments involve risk of loss pass a future results read show notes for full disclosure
Performance is no guarantee.
