What Dentists Want to Know — Listener Q&A #19 – Episode 264

“Backdoor” Roth IRAs or retirement funding for extra entities you own—how can you get more pop in your retirement funds?

On this listener Q&A episode of the Dentist Money™ Show, Ryan and Matt answer a couple of common end-of-year retirement plan questions. And, after watching some U.S. markets reach all-time highs, are you wondering if it’s still a good time to make a lump sum investment?

“Backdoor” Roth IRA’s can be effective, but there can be a few complications you should know about. Plus, when putting retirement funds into an extra entity you’ve set up, the IRS has some rules you definitely need to know.

 

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Podcast Transcript

Ryan Isaac:
Hey, everybody. Welcome to another episode of The Dentist Money Show, sponsored by Dentist Advisors, comprehensive fee-only financial planning firm just for dentists all over the country. Check us out at DentistAdvisors.com.

Ryan Isaac:
Today, Matt and I have a great Q&A episode for you. Dentists want to know about retirement plans, backdoor Roth IRAs and investing chunks of money at perceived market highs. Great questions, keep them coming. If you want to submit a question for the show or one of our Facebook Live sessions when we answer these questions, go to DentistAdvisors.com/group or search for the Dentist Advisors discussion group on Facebook. Thanks again for joining us. Thanks for tuning in. Happy new year to you guys. Enjoy the show.

Announcer:
Consult an advisor or conduct your own due diligence when making financial decisions. General principles discussed during this program do not constitute personal advice. This program is furnished by Dentist Advisors, a registered investment advisor. This is Dentist Money. Now, here’s your host, Ryan Isaac.

Ryan Isaac:
Welcome to The Dentist Money Show, where we help dentists make smart financial decisions. I am a guy affectionately known as Sir Ryan Isaac, here with the Hollywood Mountain, Matt Mulcock. Matt, it’s holiday Christmas week. We’re almost at the new year. What’s up, man?

Matt Mulcock:
It is Christmas week, Ryan. I am pumped.

Ryan Isaac:
Feeling it?

Matt Mulcock:
Christmas week is awesome.

Ryan Isaac:
Today on the show, we’re going three-question rally, so we’re going to get going on this thing. We’re going to set the clock. We’re going to stick to it stick-to-it-tiveness people.

Matt Mulcock:
The stick-to-it-tiveness of us is incredible.

Ryan Isaac:
Sticky like flypaper. And we are going to get going. These questions come to us in a variety of ways. One of the most common ways, little shout-out to the Dentist Advisors discussion group on Facebook. That’s where a lot of these-

Matt Mulcock:
It’s a good group.

Ryan Isaac:
Yeah, discussion group. You can get there just by searching for Dentist Advisors discussion group on Facebook, or go to DentistAdvisors.com/group. That’ll get you there. People post questions, and then we post answers. And a lot of times they’re-

Matt Mulcock:
We do.

Ryan Isaac:
… Facebook Lives, they’re podcasts. We’ll respond in the comments. So go to the group if you’re not a part of it, post a question. We love this stuff. This is great.

Ryan Isaac:
And so here’s what we’re talking about today. There’s a question about whether or not someone should put in a lump sum of money into the stock market right now for various concerns.

Matt Mulcock:
Fun one, love it.

Ryan Isaac:
Always timely. It’s always a relevant question, right?

Matt Mulcock:
Always.

Ryan Isaac:
There’s always a market high somewhere and there’s always a market low somewhere, at all times, so it’s always relevant.

Matt Mulcock:
It’s either high or low, yeah, just take your pick.

Ryan Isaac:
We’ll take your question about Roth IRA conversions, also known as backdoor Roth IRAs, also known on some really cool blogs as like… What do they call it? Like the mega Roth or something. It’s the megalodon Roth.

Matt Mulcock:
Oh, the megalodon Roth conversion.

Ryan Isaac:
There’s always these funny, sexy names for putting money in a Roth. I’m like, it’s not that sexy, but it’s cool.

Ryan Isaac:
And third is a question about setting up a retirement plan in another entity to not include your employees, and it’s a very common, very frequent question.

Matt Mulcock:
Ooh, okay. All right.

Ryan Isaac:
So we’re going to hit all these three. Number one. Here’s the first one that someone posted in our Facebook group. We’re going to talk about this. As of right now, we’re recording, as we said, it’s second to last week of December 2020, wild ride. We’ve seen market high. We’ve seen-

Matt Mulcock:
It’s been a rollercoaster.

Ryan Isaac:
Yeah. We saw like a 36% decline in the market and then market highs within like four months or something.

Matt Mulcock:
Yeah. Breaking records.

Ryan Isaac:
Unbelievable, crazy time, still a lot of uncertainty. Anyway, here’s the question, and this is common, this is frequent, and we will just point out before we even start this that this is a very rational thing to ask. It’s okay to ask this. It’s very normal. It’s very common. It’s a great question. It’s a very normal feeling to have. Okay. So the question-

Matt Mulcock:
We’re giving you a hug right now.

Ryan Isaac:
A hug first.

Matt Mulcock:
Just think of us… It’s a hug first. Yeah.

Ryan Isaac:
“Hug first, pushback later.” That’s the T-shirt.

Matt Mulcock:
Yeah.

Ryan Isaac:
It’s today’s T-shirt, guys.

Matt Mulcock:
That’s the T-shirt. I like that.

Ryan Isaac:
Every episode we’ll just have today’s T-shirt. Today’s T-shirt is, “Hug first, pushback later.”

Matt Mulcock:
Yes.

Ryan Isaac:
Okay, so-

Matt Mulcock:
I like that.

Ryan Isaac:
Here we go. The question is, someone says, “Look, I’ve got a chunk of money. It’s been sitting in my business checking. It’s about 200 grand. And I want to start investing for the first time, but I’m a little worried.” In their words, it’s they’re “worried because markets are at all-time highs,” and they want to be efficient with their money. This is like their first big chunk of investment, and that’s very emotional, and it’s a very serious thing, and they just want to start off on the right foot and start with good timing.

Ryan Isaac:
So let’s dissect this a little bit. So the first thing we’ve acknowledged is this is a very normal thing that people ask all the time. And why do they ask that, Matt? What’s the thought behind, “This market high, and if I wait”? What are they implying? What would be more ideal?

Matt Mulcock:
Well, I mean, I think the implication is that they’re putting money in there, there’s fear behind the question of like, “If I put this in, I don’t want to quote-unquote lose money,” right?

Ryan Isaac:
Yeah.

Matt Mulcock:
If they’re mentioning all-time highs, they’re imagining it immediately dropping from there, like, “This somehow means all of a sudden I’m going to put this money in-”

Ryan Isaac:
And it’s gone.

Matt Mulcock:
“… and I’m going to lose half of it.”

Ryan Isaac:
Yeah. And probably thinking, “Well, man, I mean, if I invested this during a market dip, my returns on this money would be better.”

Matt Mulcock:
Yeah.

Ryan Isaac:
And so let’s break this down. Here’s the first thing we want to talk about. Matt, what is your take when someone says “the market, The market,” capital T-H-E, like The Ohio State University.

Matt Mulcock:
I love that, The Ohio State.

Ryan Isaac:
Who else uses The? Does anyone else like The? It should basically [crosstalk 00:05:43]-

Matt Mulcock:
I think it’s mainly Ohio State. This is why they’re very polarizing in the sports world with college football. People either love them or they hate them. A lot of people I know hate them because of that kind of, “We are The Ohio State.”

Ryan Isaac:
The, hey, they made the claim. So when someone says the market, The market, capital T-H-E, The market is at an all-time high. Let’s break that down a little bit. What’s your take on “The market,” that phrase right there?

Matt Mulcock:
Yeah. I mean, they’re referring to the US market, right. We’ve hit this quite a bit recently in Lives and on some recent past episodes. When they’re talking about The market, they are referring to, nine times out of 10… We’ll pull out a stat there. It means nothing.

Ryan Isaac:
Yeah, nine times out of 10, Matt made that up, but it’s probably accurate.

Matt Mulcock:
Nine times out of 10, I have no clue what I’m talking about. But they’re talking about-

Ryan Isaac:
What is it like 100% of the time or it’s 60% [crosstalk 00:06:32]?

Matt Mulcock:
It works 60% of the time every time. Yeah. Little Anchorman reference there. Again, natural, we live in the US, you’re going to be getting news about US markets. Generally, when they’re talking on MSNBC or CNBC or whatever money show you’re watching, their headlines are always going to be leading with, when they say… Again, and even the vernacular, even what they’re using, is they’re referring to the US market as the market, but that is not the market.

Ryan Isaac:
Yeah. Yeah.

Matt Mulcock:
It’s part of the market.

Ryan Isaac:
Yeah, so if you live here, I mean, S&P or the Dow is kind of a… It’s a fairish representation of the US market, but it’s not the whole even US market.

Matt Mulcock:
As I say, it’s not even the market in the US.

Ryan Isaac:
No, it’s not even the US market.

Matt Mulcock:
Yeah.

Ryan Isaac:
And for context, the US market only represents between 55% and about 60% of the world’s entire market. So the first thing we’ll say is when someone says, “The market is at all-time highs,” usually they’re just repeating what they’ve heard, what we’re all taught from news and financial media and blogs and things like that, that the market, the S&P 500, is really high right now, which yes, it is at all-time highs.

Matt Mulcock:
Which means large caps or large companies that are in the growth area of the market are at all-time highs. But even areas of the US market are not at all-time highs, like for example, smaller companies in the US, what we’d call small-cap, value-type companies, which is based around like the price-to-earnings ratio. Those are not at all-time highs. So there’s parts of the US market that are not at all-time highs, just the S&P 500.

Ryan Isaac:
Yeah. So I guess the moral of the story would be when you own a low-cost, globally diversified portfolio, your portfolio is not what they’re talking about on the news. Your portfolio should be a good mix of United States stocks and non-United States stocks all over the world. And within those regions all over the world, like you just said, Matt, should be a mix of what’s called the growth stocks, which is like S&P kind of stuff, value stocks. So growth and value are just like expensive and cheap. That’s a good way to think about it, right?

Matt Mulcock:
Yeah. Yeah.

Ryan Isaac:
Growth and value, they have different return patterns, different return cycles. They’re at different points right now. And then you also have sizes of companies, large, small, middle, and those have different return patterns, different return cycles, and they’re also at different points of their cycles right now, too.

Ryan Isaac:
So when you own a low-cost, globally diversified portfolio across thousands and thousands of companies, growth and value, big and small, international, US, you don’t have what the media is talking about in your portfolio. You have some of it. Some of it’s in your portfolio.

Matt Mulcock:
Its components, so yeah, part of it.

Ryan Isaac:
So when you put in money, some of your money is buying stuff that’s at all-time highs, a lot of your money’s buying stuff that’s nowhere near their all-time highs at all, and actually are quite below their averages.

Matt Mulcock:
Buying them cheap.

Ryan Isaac:
You’re buying some cheap stuff if you own a low-cost, globally diversified portfolio with all the stuff we’re talking about. So it’s important, folks, that we build-

Matt Mulcock:
Listen, folks, here’s the pushback.

Ryan Isaac:
Hold your chair. You got the hug.

Matt Mulcock:
We gave you your hug. Now we’re giving you the pushback.

Ryan Isaac:
You got the hug.

Matt Mulcock:
Here it comes.

Ryan Isaac:
So it’s okay if this is the first time you’ve ever heard someone say that what you hear as the market is not really what your portfolio should look like. Although I will say, a lot of people, when they go build their own portfolios, they just go to Vanguard or something and do their own stuff, that’s how they build portfolios. They just buy what the news is talking about, which is like some S&P stuff and then a little Tesla, although that’s now S&P too.

Matt Mulcock:
You got to have the Tesla. Come on, 350% in 2020. You got to have the Tesla.

Ryan Isaac:
A little S&P, a little Tesla, which is now in the S&P.

Matt Mulcock:
Tesla’s been changing lives this year.

Ryan Isaac:
Changing lives.

Matt Mulcock:
Let’s just say that.

Ryan Isaac:
Little bitcoin, little gold if you’re scared.

Matt Mulcock:
Yeah.

Ryan Isaac:
Anyway. So having a portfolio like that is just… It’s very, very different from what you’re hearing in the news.

Ryan Isaac:
Here’s another piece of data. We’ve done a podcast on this. If you go to DentistAdvisors.com, search in the podcast section, you’ll find an episode on lump-sum investing versus dollar-cost averaging. But studies have shown historically that investing in a lump sum has garnered greater returns than dollar-cost averaging, which means putting in a little bit over equal periodic times, every month, every other week, or every quarter, something like that. Lump sum investing has outperformed over long periods of time, and the longer it goes, the better that outperformance. Anything you want to say about that, Matt?

Matt Mulcock:
The other big if here that you just hit on is timeframe. We are assuming with this question, and I think the context of this question really was about long term.

Ryan Isaac:
Long term, yeah. We’re talking 20 years.

Matt Mulcock:
We’re talking 20-plus years.

Ryan Isaac:
Yeah. Yeah.

Matt Mulcock:
Yeah, the farther you zoom out, you’re absolutely right. I mean, the data is pretty unequivocal. Vast majority of the time, in pretty much any market environment over a long enough period of time, lump-sum investing is going to beat dollar-cost averaging from a performance perspective. There’s a higher cost there to you, being your patience-

Ryan Isaac:
Emotionally.

Matt Mulcock:
… being some stress, potentially, emotionally, but over time… And over time, it can be, I mean, we’re talking significant, potentially.

Ryan Isaac:
Yeah, because it’s just the whole chunk of money exposed to growth at an earlier point.

Matt Mulcock:
Yes.

Ryan Isaac:
That’s what’s happening. That’s why that works.

Matt Mulcock:
Time in the market is your greatest asset. That’s it.

Ryan Isaac:
There’s a recent tweet that went around financial Twitter this week that was really interesting that showed this kind of speaks to something called momentum investing, which is a whole other subject. But it showed how… So when people say all-time highs, they’re assuming that like today’s the last day of the all-time high.

Matt Mulcock:
I was just going to say-

Ryan Isaac:
All the time. This is it, man.

Matt Mulcock:
… like, “This is it, man. We broke the record. This is it. We’re done.”

Ryan Isaac:
Look, as a financial advisor, I’ve been in the industry I think… I keep mixing my years up, but I think I’m starting my 14th year right now, I think. I think I just finished 13 years. But-

Matt Mulcock:
Should we just say 15? 15 sounds cleaner [crosstalk 00:12:40]-

Ryan Isaac:
I keep rounding up in my head, but this is what happens when you get old. You just like start embellishing stuff.

Matt Mulcock:
Yeah.

Ryan Isaac:
But the point is, I’ve just heard that a lot, for a lot of years now, like, “It’s at all-time highs, man, I’m going to wait.” And those all-time highs…

Matt Mulcock:
I’ve been hearing that since like literally 2013, I’m pretty sure.

Ryan Isaac:
Yeah, they just keep going. So there’s an assumption here when people say, “It’s at all-time highs, I’m going to wait,” like it might be, but it’s also highly likely that-

Matt Mulcock:
Tomorrow could be another all-time high.

Ryan Isaac:
Yeah, it’s highly possible that [crosstalk 00:13:08]-

Matt Mulcock:
And then 2021 is going to be another all-time high.

Ryan Isaac:
So that’s a really interesting thing.

Ryan Isaac:
Last point on this, Matt, if a client was still really worried about investing a big chunk… And look, we realize this. The bigger that chunk of money, the harder that is emotionally.

Matt Mulcock:
Yeah.

Ryan Isaac:
And so would you support, Matt, someone who’s like, “Despite the data, I can’t commit it all right now, but I just want to start bleeding in a little bit every month, every quarter, over the next year”?

Matt Mulcock:
Yes.

Ryan Isaac:
Would you be okay with that? I totally would.

Matt Mulcock:
Absolutely. Yeah. Yeah. I mean, because here’s how I look at this. There’s really three options here. That’s really all there is when we talk about this question. Option number one is you do nothing, right, you sit there and you wait for a big-

Ryan Isaac:
And try your hand at the stock market guessing game. Try your hand at it.

Matt Mulcock:
Yeah. Exactly. So that’s option one, is you can sit there and wait for some arbitrary number of whatever you feel is best to put it all in.

Matt Mulcock:
Number two is you put it all in at once, you know, a lump sum. And option number three is you set it on a dollar-cost averaging schedule that’s a rules-based approach. You say, “Okay, over the next 12 months, I’m going to put in X. I’m going to break it down by 12. And I’m going to put it in.”

Matt Mulcock:
If you’re going to pick, first of all, the first one, throw it out-

Ryan Isaac:
First out, yeah, don’t do number one.

Matt Mulcock:
Don’t do that.

Ryan Isaac:
It’s not going to work.

Matt Mulcock:
Don’t think that you’re going to time something right and that’s going to… No. But option two and three I’m great with. Maximizing returns is going to be number two, market lump sum. For making it a little bit easier, if you’re going to say, like you said, Ryan, “I know what studies say, but I just… I can’t do it,” okay, great, take some action. Put it on a dollar-cost averaging schedule and just get it invested.

Ryan Isaac:
Yeah. I think that’s great advice, man. So to that person, thank you for posting that question. This question, although it seems like it’s… See, we have this thing in our brains called recency bias, and we think that whatever’s happening right now is the most crucial, most important thing, and that it’s the most urgent because it’s just now. But this question was asked six months ago, it was asked two years ago, it was asked six years ago, 10 years ago, 2013, 2012, 2010, after a rebounding out of… Like this question is-

Matt Mulcock:
Probably the 19th century questions were going on.

Ryan Isaac:
Yeah. This question will be the same thing in six months, in 12 months, in three years, in 10 years. It’ll just keep being asked. So thank you. That’s a great question. And everyone who is already investing is learning this lesson. People who are just starting, they’re just asking these questions because now they’re investing for the first time ever, and they’re going through what a lot of you have already gone through years ago. So great question. Keep them coming. Thanks for asking. And you can post those in the Dentist Advisors discussion group on Facebook. Let’s take a quick break. We’re going to come back to the mighty, the sexy, the amazing-

Matt Mulcock:
Sexy?

Ryan Isaac:
… Roth IRA.

Matt Mulcock:
On The Dentist Money Show, we teach dentists how to make smart financial decisions.

Ryan Isaac:
You’re correct.

Matt Mulcock:
I mean, is that all it takes, Ryan, to make smart financial decisions, listening to our show?

Ryan Isaac:
Matt, it’s a good first step. But to put your financial future on the fast track, the next smart decision is to go to DentistAdvisors.com. What you do there is you click on the Book Free Consultation button right in the middle of the home screen, and then you schedule a time to talk with one of our very friendly dental-specific financial advisors today.

Ryan Isaac:
Here’s what we’re going to now. This is a pretty common planning and investing question. Should I, can I, how do I use a backdoor Roth IRA, Roth IRA. For this discussion, we’re going to be talking about people who do not qualify for income purposes to put money directly into a Roth IRA. So if you’re an associate, you’re just out of school, your first job, most dentists after a while just won’t qualify. Their income just gets too high to put money directly into a Roth IRA. You can only do it like-

Matt Mulcock:
Congratulations to you, by the way, if you’re there.

Ryan Isaac:
Yeah, that’s a fine problem to have. It’s a great problem.

Matt Mulcock:
Yeah. I mean, you’re doing great. You’re doing great.

Ryan Isaac:
Yeah. So we’re going to address the people who are in that camp. Their income’s too high. They can’t put money directly into a Roth IRA. So what people want to do when they still want to put money in a Roth… And I don’t know if this is the discussion where we’re going to discuss the merits of a Roth and why you’d want to. We might touch on it a little bit, but that’s probably another day and time. But people, what they want to do is they don’t qualify so they do it indirectly. It’s called a backdoor Roth. There’s all kinds of fancy names for this. There’s some really good ones, and I forgot what they are. I like megalodon Roth, though. Can we coin that?

Matt Mulcock:
I think we’re going to coin that, megalodon Roth.

Ryan Isaac:
The-shirt number two of the episode is the megalodon Roth, and there’s no other explanation on the shirt. That’s it. [crosstalk 00:17:47]

Matt Mulcock:
You have to be an insider Dentist Money Show listener to know what that is.

Ryan Isaac:
The megalodon Roth. Oh, my gosh, man. Somewhere on a blog, though, if you were serious enough about it, you could sell that concept, and people would be posting Facebook groups-

Matt Mulcock:
Oh, yeah.

Ryan Isaac:
… like, “Have you heard about the megalodon Roth? You can do it [crosstalk 00:18:03]-”

Matt Mulcock:
“You do the megalodon Roth?”

Ryan Isaac:
“Kills, it kills.”

Matt Mulcock:
“Megalodon Roth, the only way to go, man.”

Ryan Isaac:
“You will get better returns in the megalodon Roth.”

Matt Mulcock:
“Oh, you’re not doing the megalodon Roth? Oh, you’re not doing that?”

Ryan Isaac:
“Oh, you’re not doing it?”

Matt Mulcock:
“Oh, you must not care about your finances.”

Ryan Isaac:
Oh, my gosh. Okay. So what they do is they’ll put money into a non-deductible, or sometimes it can be deductible, IRA. This is a whole other discussion too. But they’ll put money into a traditional IRA, and then they’ll just convert the money to a Roth IRA. It’s pretty simple. It goes into an IRA, you convert it, you pay the tax on it, and then it goes to the Roth IRA.

Ryan Isaac:
Let’s address this a little bit, not necessarily the merits of why a Roth versus traditional and the tax benefits, but where does a Roth, a backdoor Roth conversion, fit into a financial plan for a dentist, just from a cashflow perspective? Where is it on the priority list? Is it the first thing you’re going to go for? Where’s it on the priority list of where to put money in a cashflow plan?

Matt Mulcock:
So there’s two components to this. You make a certain amount of money, and you’re attached to a retirement plan at the office. Then your deductibility on a contribution to a traditional IRA goes away, which is kind of step number one of what you need to be able to do a backdoor Roth conversion.

Ryan Isaac:
Yeah, it’s called being an active participant of a qualified retirement plan, and they’re different too. The definition of an active participant in a 401(k) is different than other types of retirement plans you might have. You have like 403(b)s and other kind of things, profit sharing and [crosstalk 00:19:32]-

Matt Mulcock:
Which is surprising, because it’s not like any of these rules are ever confusing.

Ryan Isaac:
Everyone knows them.

Matt Mulcock:
They make it so straightforward. [crosstalk 00:19:36] Everyone knows them.

Ryan Isaac:
Everyone knows them.

Matt Mulcock:
It’s so easy, yeah. Just put them on an index card. It’s fine. So the reason I bring that up is to say to your question of would this be a top priority, generally speaking, no, because your income levels are going to put you in a place where your pre-tax retirement plan is going to be probably a higher priority, potentially building up cash for an expansion to the office or even a brokerage account.

Matt Mulcock:
One thing I will say, it definitely can be near the top of priorities after you’ve done… Again, I’d say pre-tax plans are probably going to be number one with the income level you’ll be in. But the fact that you can only do $6,000 for you and your spouse, again, if you’re at that income level, it’s usually kind of like a, “Hey, we might as well throw this in,” because you have the cash.

Ryan Isaac:
You have to see it, like you said, prioritizing, especially at a higher income range, prioritizing a deductible retirement plan at the office of some kind, shape, or form, mixed with after-tax liquidity. Most dentists make more money than can even fit in a 401(k), or they’re saving more money, at least our clients. So they also save money in after-tax brokerage accounts, invested for the long-term, right, but it’s liquid. So we’ve got this balance that’s nice on our asset balance sheet of pre-tax and after-tax money, which gives us more diverse options later in the future when you’re living on that money.

Matt Mulcock:
When you’re starting your special iron condor options strategy that people are pumping money into right now as well, that’s a side thing, right.

Ryan Isaac:
Side gig, yeah. [crosstalk 00:21:09]

Matt Mulcock:
Side gig, yeah. Side gig.

Ryan Isaac:
That’s coming in February.

Matt Mulcock:
Yeah. Side gig.

Ryan Isaac:
Sarcasm, folks.

Matt Mulcock:
Stay tuned.

Ryan Isaac:
So yeah, when a retirement plan’s been maxed out, being efficient with our tax savings on money we’re saving anyway, and we’re building adequate liquidity for our spending and our income level and our net worth level, a backdoor Roth IRA, chucking six grand at it, it’s a great little addition. I think that’s fine. And if you and a spouse do that for 20-plus years, I mean, you can build a significant chunk of money-

Matt Mulcock:
Could be pretty significant.

Ryan Isaac:
… that’s got a pretty good tax advantage inside of the Roth along the way. So that’s point number one I wanted to hit, where is it on the priority list? Oftentimes I’ll hear this, before we’ve even done any kind of deductible contribution, before we’ve built any liquidity, people are like, “I heard about this backdoor Roth thing I got to do this. Can we set this up?”

Matt Mulcock:
It’s because it sounds sexy.

Ryan Isaac:
Sounds like. Again, the hug first, totally rational to ask that. It’s a hype thing. It’s kind of a hype thing.

Matt Mulcock:
Yeah.

Ryan Isaac:
But it can be a good planning tool a few steps down the priority list when you’ve checked a few other boxes. That’s what we do. And if you’re confused about that, that’s when it’s just time… Like if you’ve got all these boxes on your plate, and you’re like, “I don’t have time, or I don’t really care. I don’t know what to do on this,” that’s a good sign you need a financial advisor. So find a good one, a fiduciary, a dental-specific fiduciary that are nice people like us, like DentistAdvisor.com. Just go there.

Matt Mulcock:
I mean, we do check those boxes.

Ryan Isaac:
We fit the bill, folks. So number one was kind of priority of this backdoor Roth IRA. And I’m sure we’ll hit this another time in another episode and dedicate a whole episode just to the special backdoor Roth IRA.

Ryan Isaac:
But here is a rule from the IRS. Isn’t my rule, folks, I didn’t make this up, because this is really complicated.

Matt Mulcock:
Don’t kill the messenger.

Ryan Isaac:
It makes my life harder. It’s a rule called the pro rata rule, R-A-T-A, pro rata rule. Basically, the intention of it was designed so when people… Because here’s the thing. You can have a mixture in an IRA account of pre-tax money that you deducted on your tax returns and non-deductible money in the same account, because some years you might qualify, some people qualify to-

Matt Mulcock:
Put that deduction.

Ryan Isaac:
… put that deduction on an IRA, and then some years they’re an active participant of a retirement plan at a workplace, so they don’t qualify because they’re also over an income limit, and then they don’t qualify so they put in non-deductible money in that IRA. So you can build a mixture of non-deductible and deductible funds inside of one IRA.

Ryan Isaac:
And the IRS says, “Well, if you’re going to go convert any of that money to a Roth, you can’t just pick and choose. You can’t say, ‘All right, I’ve got 50 grand of deductible money that helped me lower my taxes in my IRA, but I’ve got 10 grand of non-deductible money in there. It’s total of 60. I just want to convert the 10. I’ve already paid tax on it. I just want to convert it and move it to my [crosstalk 00:24:01]-‘”

Matt Mulcock:
Wouldn’t that be nice and clean?

Ryan Isaac:
Would be nice. Would be a clean move, nice and clean.

Matt Mulcock:
Yeah. Would be nice and clean.

Ryan Isaac:
The IRS is like, “Ha ha, no, you can’t. That’d be too easy and too simple. We’re not going to let you do that.”

Ryan Isaac:
So they make you take it out pro rata. So basically you take the amount of money that you’re going to convert out of your IRA to the Roth IRA, and you divide it, here’s the kicker, by the total of all of your IRA assets, which includes not only your IRAs, but your SIMPLE IRAs. So here’s where dentists commonly-

Matt Mulcock:
SEP IRAs as well.

Ryan Isaac:
SEP IRAs too. Here’s where dentists get caught on this. Like, “Oh, cool. I heard about this backdoor Roth IRA thing. Box number one’s checked. It fits on the priority schedule. I’m doing the other things first. It’s at the right priority.”

Ryan Isaac:
The way the calculation works is you do the little math, and the result out of that is the percentage that you don’t have to pay tax on, and the rest of it you have to pay tax on. So what happens here essentially is if the balances in all of your IRA accounts, IRAs, SEPs, and SIMPLEs, are big in the denominator, you’ll end up paying tax again on a big chunk of that conversion.

Ryan Isaac:
So let me give you an example. A client has a SEP IRA in the office. They’ve been doing it for years. Or a SIMPLE IRA, okay. The client spouse is on payroll, staff’s on, they’ve been doing it for years. There’s a couple hundred grand in there, right. And they’ve got an old SEP from when they were 1099 associates sitting around, and then they’ve got this IRA. It’s all pre-tax deductible money in there.

Ryan Isaac:
Then they go, “I want to do a backdoor Roth IRA. I’m going to put in six grand. I’m going to convert it this year, put it in my Roth.” Well, what you do is you divide six grand by the total amount in all of those accounts, like a few hundred thousand bucks, and what you end up doing is paying taxes on a huge chunk of that six grand again.

Matt Mulcock:
Like probably 90-something percent of that conversion is taxable.

Ryan Isaac:
Yeah, like 97% of it. You end up paying tax on the six grand again. So the moral of the story of this part of the Roth IRA… If this is sounding complicated, then before we do a backdoor Roth IRA, check with someone on this rule, okay, especially if you have some SIMPLEs and SEPs or big balances in your IRA already.

Matt Mulcock:
Can I add something even worse really quick?

Ryan Isaac:
Yeah, yeah, please, yeah.

Matt Mulcock:
Just we’re going go pile on to this pushback.

Ryan Isaac:
Yeah, keep it going.

Matt Mulcock:
We gave the hug, now we’re pushing back. Not only what you just highlighted, exactly right, but like you said, your IRA can have a mixture, can have both pre-tax and after-tax contributions to it. And the IRS says, “Guess what? You have to track that, every single year.”

Ryan Isaac:
Oh, yeah, by the way.

Matt Mulcock:
So that’s on you, to track that every year. And if you lose track, it’s on you.

Ryan Isaac:
Yeah.

Matt Mulcock:
It sounds weird. The IRS you’d think would be nicer than that, but they aren’t.

Ryan Isaac:
Would you? You would think that?

Matt Mulcock:
No, I would not. That was a heavy sarcasm alert.

Ryan Isaac:
[crosstalk 00:26:48] Sarcasm, folks.

Ryan Isaac:
Yeah. So you have to keep track of all this stuff, and then you do this calculation. So the moral of the story is that if you’re running a SIMPLE IRA or you’ve got big balances in your regular IRA or if you’ve got an old SEP IRA sitting around, chances are a backdoor Roth IRA might not be for you. This is starting to sound a drug commercial, you know, like when they start listing all the side effects.

Matt Mulcock:
The side effects, yeah.

Ryan Isaac:
The benefits are 30 seconds long, and the next 10 minutes are side effects.

Matt Mulcock:
Exactly, yeah.

Ryan Isaac:
That’s the way this has gone. There are some workarounds, like if you set up a 401(k), you can… There’s caveats to this, okay, but some people will set up like a 401(k), and then roll like SIMPLEs and SEP money, and they’ll move some money into their 401(k) because 401(k)s are exempt from this calculation, just to make it harder, just so you know.

Matt Mulcock:
Yep. Yeah.

Ryan Isaac:
So anyway-

Matt Mulcock:
But also it gives you a possible solution there.

Ryan Isaac:
It gives you solution.

Matt Mulcock:
Which you can hear later, maybe. Teaser.

Ryan Isaac:
Moral of the story, what I want someone to take away from this is if you hear something about the backdoor Roth IRA, just know that it is not your make-or-break financial future strategy. It’s cool. It has its place. It’s not top three in priority of cashflow. It might be four or five if you wanted to put it there. I’d put it above like if someone said, “Hey, should I do backdoor Roth IRAs or like a whole life insurance plan?” I’d be like, “Pfft. Roth IRAs.”

Matt Mulcock:
Oh, yeah.

Ryan Isaac:
I mean, if the money going in and out was equal, you know.

Matt Mulcock:
Yeah.

Ryan Isaac:
So it has its place. That’s the first thing you’d want someone to know. And the second thing, you don’t have to remember all the stuff we just said about the pro rata rule and all the calculations. Just know that there are situations where it’s not going to be to your advantage, and you’re going to want to talk to an accountant, your CPA, and a good financial advisor about making sure you do it right so you don’t end up just paying too much tax.

Ryan Isaac:
Topic number three, let’s hit it really quick. This is also, here’s the hug, it’s a really common question. It’s normal to ask, because the question is this. “Hey, I’ve got two offices, two locations, and got a couple partners, got a lot of employees. We already have a retirement plan at the office. It’s 401(k). The 401(k) people made us include both companies because you have to legally.” [crosstalk 00:28:54] Yeah. “And we’re doing it. But I have this other entity on the side. It’s an LLC, it’s a PLLC, it’s an S corp, it’s a C corp, whatever.”

Matt Mulcock:
“Spouse doesn’t even know about it.”

Ryan Isaac:
“Gee, no one really knows about this thing. It doesn’t really have a…” Well, let’s just keep it vague. I was going to say it doesn’t really have a purpose, but let’s just keep it… “I got this separate entity, okay. It’s not my operating entity for these practices. Can I put a retirement plan in that entity? Can I just set that up and put it in there and exclude my employees and just fund it?”

Ryan Isaac:
“Sure. The IRS has never thought of that before.”

Matt Mulcock:
Never.

Ryan Isaac:
Now, that’s a really common question, and we get it a lot towards the end of the year when people start looking at tax bills. And usually the plan that people are talking is like a SEP IRA, because it’s so easy and the limits are big.

Ryan Isaac:
So they’ll just go, “Look, I’ve got a couple entities for my real estate and these practices, but I’ve got a personal S corp, no employees in it, and it receives some revenue. I get some revenue from my job as a dentist in my practices, I get some revenue from rental real estate maybe, or maybe I charge a consulting feed to my practices for some of the partners and I get all the revenue from that,” whatever, it might have a few streams, right. “Can I just put a retirement plan? I’m going to put a SEP IRA in there and exclude my employees and just max it out for me and get myself a bigger deduction.”

Ryan Isaac:
First thing is if there’s anything fancy you’ve ever thought of or heard of, the IRS thought of it and heard of it first, and then made a rule so that you can’t do it.

Matt Mulcock:
Yes. Or someone got away with it one time. The IRS found out-

Ryan Isaac:
Baddabing baddaboom.

Matt Mulcock:
… and they said, “okay, good for them. No more, though.”

Ryan Isaac:
Baddabing With a Pipe. We are not going to… It’s a good punk rock song, actually. But yeah, they figured that. And it’s a common audit item, okay. So this is a quick piece of advice because this topic-

Matt Mulcock:
That’s one they will catch, I promise you that.

Ryan Isaac:
They will catch it.

Matt Mulcock:
That is an easy catch. Yeah.

Ryan Isaac:
And the penalties are steep, steep, steep, because you have to go backwards in time and it’d be like, “Oh, you know the other 43 employees that were not on this SEP IRA where everyone got 25% or should have received 25% of their comp-

Matt Mulcock:
Of their compensation.

Ryan Isaac:
… because that’s what you gave yourself, you have to do it backwards for the last nine years that you didn’t.”

Matt Mulcock:
Yeah.

Ryan Isaac:
I mean, it’s bad. So this is way more complex… There’s no way to outline every possible solution. The moral of the story is there is a complex set of rules from the Department of Labor and the IRS and ERISA, the governing body who oversees this stuff, that says when you… And it’s complex, guys.

Ryan Isaac:
We’re not even the end say when our clients want to set up different things. We outsource these questions to teams of people that we work with closely, and kind of quarterback this communication and this research and analysis. They’re attorneys. They’re called ERISA attorneys, and they’re attorneys, all they do is work on this stuff.

Ryan Isaac:
But there’s a complex set of rules that has to do with you and your spouse’s cross-ownership, partnerships with other people, employees-

Matt Mulcock:
What percentage you own in each entity.

Ryan Isaac:
Yeah, what percentage. If you have kids that are minor-age children that will tie businesses together… Let’s say a wife is the dentist, owns the practice. The husband’s, I don’t know, an attorney-

Matt Mulcock:
A barber.

Ryan Isaac:
… a barber, owns a barbershop, but they have minor children. Those minor children, even though the entities are totally owned separately and the businesses are totally different, those minor children can actually tie those entities together under the same umbrella if you put a retirement plan in one or the other. It’s kind of crazy.

Ryan Isaac:
So too much to list, and we kind of coordinate and quarterback this stuff with attorneys that oversee this. So the moral of the story is if you’re trying to do this, it’s possible that you have a separate entity that is very different from your businesses, that has legitimate business reasons and legitimate business income. It’s possible. I’ve seen it happen. But I’ve seen it happen more often where it is not cool. They’re not going to [crosstalk 00:32:59]-

Matt Mulcock:
Yeah, I was going to say I think a pretty solid rule of thumb here would be just question, just think about the intent here, right. If you’re in your heart of hearts sitting here and thinking, “All right, Ryan, my question is coming from a place of, I want to hide this from my employees, I want to be able to put money away,” if that’s your intention, again, totally valid, this is not a moral judgment, this is just saying the IRS knows that, and they’ve seen every level of intention from every different angle. And so if that’s your intention, the IRS… Or you can basically guess, okay, this is not going to be possible.

Ryan Isaac:
Yeah, it’s [crosstalk 00:33:36]-

Matt Mulcock:
The IRS knows what you’re trying to do, and they’re going to stop it.

Ryan Isaac:
So before you do that… Luckily, when our clients… That’s why we’re here. They’ll call us or email us or text us, be like, “Man, I got a big tax bill. Any way I can do this?” We’ll steer them in the right direction. If you don’t have an advisor, you probably at least have a CPA, so go talk to them.

Ryan Isaac:
But just get some expert opinion, because I have seen it in the past where someone ran a retirement plan the wrong way. They kind of DIYed their retirement plan or multiple plans. And they got audited, fined, and retroactively had to go back and pay people money, and they didn’t have the money. It was bad. I’ve seen it a couple of times.

Matt Mulcock:
Not something you want to do it yourself-

Ryan Isaac:
No way, man.

Matt Mulcock:
… with the administration of a plan, no way.

Ryan Isaac:
So we’re saying it’s a very common question and, I mean, that’s a rational thing to want to do, is keep as much money from the government as you legally possibly can. I mean, yes, do that.

Matt Mulcock:
Of course.

Ryan Isaac:
But just be careful, and don’t get yourself in a situation that could really ruin things for you down the road. Talk to a CPA, talk to an advisor, get expert advice from people who know how to handle and treat this stuff.

Ryan Isaac:
So anyway, this episode is likely going out on the last week, I think probably the 30th of December, 2020. So I guess the high note must be a note of gratitude. I know I speak for all of us, I know I speak for Reese Harper-

Matt Mulcock:
The Hoss.

Ryan Isaac:
… the OG Hoss himself, when I say that we’re coming into our fifth year of The Dentist Money Show and, man, it’s been an incredible experience. And we’ve met some just amazing people. This industry is full of true teachers who really want to help a dentist succeed in all these different ways in their life. So we’re just incredibly grateful.

Ryan Isaac:
We’re very grateful for everybody listening and tuning in, going to the group and showing support, posting questions, giving us content and ideas. Keep it coming. We’re looking forward to 2021. We love you all. Thank you very much, Matt, the Mountain. Thanks for joining me today.

Matt Mulcock:
Thank you, Ryan.

Ryan Isaac:
Happy new year to everybody. We’ll see you next year. Carry on.

 

Investing, Retirement Plans