David McKnight’s Interview with the Nation’s #1 Financial Podcast, Stacking Benjamins

the power of zero

The story David tells at the beginning of the book is a tale about David Walker, the former Comptroller General for the federal government. Back in 2008 he appeared on a radio show and told them that tax rates have to double. The math says that the country is going to go bankrupt unless tax rates go up dramatically in the next ten years.

Most of us are putting money into tax-deferred plans hoping that taxes will be lower in the future than they are now.

Back in the 70’s and 80’s the tax-deferred strategy actually made sense, but the Trump era tax cuts have changed the math. We are now at a point where taxes haven’t been this low in a long time yet we continue to pile money into 401(k)’s and IRA’s.

A good analogy would be an American family that makes $50,000 a year but their expenses are over $100,000 and they just keep piling debt onto the credit card. At the same time all their neighbours are getting their financial houses in order.

We’re in a game with the IRS where they’re our opponent, but they can change the rules on us at any time. When you put money into an IRA it’s a little bit like going into a business partnership with the IRS, and every year the IRS gets to vote on the percentage of profits they get to keep. It makes it really hard to plan for retirement when you don’t know how much money you actually have.

The first bucket is the taxable bucket which is typically used for emergency funds, roughly six months of living expenses. The taxable bucket is the least efficient bucket.

The second bucket is the tax deferred bucket, where you pay tax on the back end. The first problem with this bucket is you don’t know what the tax rates are going to be when you take the money out. The second problem is when you do take money out, it counts as provisional income which the IRS keeps track of to determine whether they are going to tax your Social Security.

If as a married couple you have more than $44,000 of provisional income, up to 85% of your Social Security becomes taxable at your highest marginal tax bracket. For a lot of David’s clients, this can cause them to run out of money 5 to 7 years faster than people who don’t have their Social Security taxed.

It’s not bad to have money in the tax deferred bucket, you should just have the prescribed amounts. Annuities within your tax deferred bucket can trigger the same issues of Social Security taxation.

The tax-free bucket is everybody’s favorite bucket. In this bucket you pay the tax on the front end and never pay those taxes again. When you take money out of a true tax-free investment it does not count as provisional income.

The government may change the rules around Roth IRA’s but you have to look at whole picture. There is $21 trillion in the cumulative IRA’s and 401(k)’s in America and only about $800 billion in Roth IRA’s. They could change the rules and break their promises but that would end with people getting voted out of office. It’s easier to get the math done but raising taxes on the tax-deferred bucket.

The Roth IRA is David’s favorite tax-free investment, but it’s not just the Roth IRA it’s also the Roth Conversion. Not enough Americans are paying attention to those investments.

January 1, 2018 is the date that tax rates went on sale. Every year that goes by where we fail to take advantage of these historically low tax rates is potentially a year beyond January 1, 2026 where we may be forced to pay the highest tax rates we’ll see in our lifetime.

We now know the year and the day when tax rates will go up. If we let this tax sale go by without taking advantage of it we will have really missed an opportunity.

If David Walker is right, we will look back at today and ask ourselves why we didn’t take advantage of these historically low tax rates.

You don’t have to like life insurance or life insurance companies. You just have to like them a little more than the IRS, because in the end someone is getting your money.

The tax benefit for life insurance is the single biggest benefit in the entire tax code but many people don’t take advantage of it because life insurance has a stigma of being expensive. When structured properly, life insurance will cost you about the same as your 401(k) per year over the life of the program, and comes with a few other benefits as well.

There is a documentary coming out also called the Power of Zero. David found that the number one thing that prevents people from making the switch from tax-deferred to tax-free is that tax that they have to pay. They are not convinced that taxes will be higher in the future. All the experts David interviewed said the same thing, taxes will have to go up in the next ten years.

The official debt-to-GDP ratio is 100% but our actual debt-to-GDP ratio is 1000%. We are the only country in the world where our debt-to-GDP ratio is getting worse and worse. 


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