Help me test / align this slightly alternate take

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Help me test / align this slightly alternate take

Post by SantaClaraSurfer » Sun Apr 14, 2019 10:40 pm

I am a huge fan of this site and deeply appreciative of the quality of the advice and insights to be had here on the wiki and in the forums.

In my 20's I worked, for a short spell, running computer-assisted plans directed at everyday people for a major financial services company. The reason I share this is that I entered and outputted (very basic--this was the 90s) financial planning reports for thousands of customers and financial planners across the USA. This influences my viewpoint on what I'm about to share. In a nutshell, most people have basic issues with savings rate, revolving debt and over-reliance on the equity they have in their home that dwarf, for example, the fees they pay on a theoretical investment in their 401(k). (To be clear, my work highlighted the issue of revolving credit card debt, more than anything else I did, and I was just a peon working with the data and the professionals gave out the real advice.)

I agree with, and follow, Boglehead principles the best I can with my own finances, but my grounding still references my time logged entering basic financial plans. I find myself disagreeing with (or maybe 'not quite aligning with' is a better way to put it) some of the commentary here sometimes. Given that, I would like to test and improve my take against the best advice of this forum.

Here it is. I think the majority of folks would benefit from working through their planning/investing in tiers, filling these tiers in starting from the top and working to the bottom:

Tier 0: Maximize your income, education, and career training/networking. Set a household budget, go over it with principals (ie. your spouse/partner, etc.) at least once a month, and leverage the best tools available to make sure your income, expenses, and tax payments (!!) align with your goals. (GoodBudget, Quicken, YNAB, Google Sheets (don't underestimate the Cloud/App advantages of this one), etc.)
Tier 1: Defined Benefits: SSI, Pensions, etc.
Tier 2: Tax-Advantaged Accounts 401(k), Roth, etc. (up to your maximum)
Tier 3: Tax-Advantaged Fixed Income Investments (US Savings Bonds, etc.)
Tier 4: Taxable Fixed Income Investments
Tier 5: Taxable Equity Investments

I will admit, right off the bat, that I don't have a good place to put real estate (personal or investment) into these Tiers. If you have a good idea, let me know. Full disclosure, my wife and I rent, so we see housing as a monthly/yearly cost.

What makes my take slightly alternative are twofold.

1. I feel that after you max out Tiers 0-3, the impact of your exact choices within Tiers 4-5 are less impactful on your overall financial security and happiness that we often allow. In fact, there's more flexibility in Tiers 4 and 5, so long as you follow best practices in 0-3. (Full disclosure, 85% of my Tiers 4/5 are in balanced, low cost ETFs with a mainstream Boglehead allocation.)

2. I feel that, contrary to much of the advice I've read here, most people would get the best outcome in real world conditions if they set Tier 2 to reflect Boglehead principles within those accounts and NOT try to gain tax advantages by diversifying against their overall portfolio. (Eg. have one, or two, if you are partnered, diversified tax advantaged accounts that are effectively self-standing units focused on a balanced group of index funds. Effectively, two spouses could have two 401(k)s in simple Target Date funds with a set it and forget it approach. My best instinct is that would meet most people's needs better than trying to diversify asset allocations between Tier 2 which in my view is a "must have" for retirement security with Tiers 4 and 5, which have a different role to play.)

Let me give a couple examples to make the above points clear:

For point 1., maxing out Tiers 0-3. If someone tracks their savings and budget, maximizes their income, properly takes advantage of SSI and any Pension available to them, and maxes out (again, to the best of their income) their 401(k)/Roth IRA options into a Boglehead set of index funds and takes some advantage of the unique features of US Government Savings Bonds, almost ANY problem they might have in a taxable account (ie. they owe taxes on dividends, they were not quite Boglehead in their asset allocation and over-invested in a sector fund, their ratio between Bonds and Equities leaned the wrong way) comes under the heading of "problems you'd rather have" in that the foundation of their retirement savings remains fundamentally secure.

For Point 2., I am very wary of the Tax Tail wagging the Dog of Overall Financial Health.

When I was running reports, I can't tell you how many questions came in related to paying less taxes from folks who were WAY sub-optimal on their basic financial health. My Tiers are oriented around the concept of, first, do everything you can to make sure you maximize the security of your financial plan. I see significant risk to making tax minimization/avoidance a priority that somehow creeps into a concern that is greater than common sense management of your overall financial health. For example, someone who has filled in Tiers 0-4 to their capacity, and who wanted to build a dividend income stream in their taxable accounts with high dividend stocks would likely generate a sensible outcome so long as they understood the tax consequences and stuck with their plan. I don't think it should by default be stigmatized or ruled out as an option, since, in my view, it's a valid approach that might well deliver results that most here would find acceptable, especially in context.

Thanks for reading, I'm very fine with disagreement. I may well become more orthodox the longer I read and learn here.

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David Jay
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Re: Help me test / align this slightly alternate take

Post by David Jay » Mon Apr 15, 2019 12:00 pm

Your post reminds me of a “Hierarchy of Investor Needs" discussion last year. The article being discussed had this pyramid.

The key takeaway is that one needs to focus on the things at the base of the pyramid, the upper level items are much less critical.
Prediction is very difficult, especially about the future - Niels Bohr | To get the "risk premium", you really do have to take the risk - nisiprius

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Re: Help me test / align this slightly alternate take

Post by onourway » Mon Apr 15, 2019 12:20 pm

I don't actually see all that much difference in what you suggest here than the typical advice given out on this board. The first question to a new member here nearly always center on income and debts before considering investments. The difference may be that we get relatively few people posting here who don't have Tier 0 basically figured out. Most have also taken advantage of Tiers 1 and 2, even if they may not be optimized. Many of the Portfolio Questions come from these levels. Given that most of the participants of this forum either have, or will have after a short period of time, tiers 0-3 taken care of, that leaves the flexibility of tiers 4-5, as you say, to develop most of the conversation around here.

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Re: Help me test / align this slightly alternate take

Post by ThrustVectoring » Mon Apr 15, 2019 12:28 pm

I think the long-term growth of equity investment dwarfs the tax advantages of US Savings Bonds and the like. Definitely agree that human capital and personal financial behavior is incredibly important, though. I'd also throw in having an adequate emergency fund - not only can it deal with otherwise-catastrophic emergencies, but having more than enough in your cash accounts has been shown to be a significant quality of life improvement.

So, my list:

Tier 0: personal finance - income, expenses, savings rate
Tier 1: downside risk management. Insurance (term life, own-occupation disability, home/renter's, auto, umbrella, medical). Emergency fund.
Tier 2: upside risk - putting the savings you know you won't need to work through aggressive equity investment. Prefer tax advantaged accounts (401k, IRA, HSA)
Tier 3: de-risking your aggressive investment plan with bonds or other fixed income as your assets grow big enough to consider retirement
Current portfolio: 60% VTI / 40% VXUS

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Re: Help me test / align this slightly alternate take

Post by SantaClaraSurfer » Fri Apr 19, 2019 3:59 pm

These responses are all super helpful and let me understand that I'm pretty close to aligned!!

The kind of questions/challenges I want to be able to withstand (and that this set up should protect against):

1. Spouse and I follow our allocation glide path and the market has a major downturn proximate to our goal retirement year.
2. Spouse and I follow our allocation glide path and the US market is flat for the last decade of our earnings
3. I enter "late career" and have to adjust my earnings expectations downward significantly
4. Spouse and I want to do something really amazing ahead of retirement with some of our wealth building, but want to feel like retirement component of our plan is intact

I prefer approaches that meet criteria like:

First, avoid poverty and catastrophe
Second, ensure the basics
Third, allow yourself upside exposure/enjoyment while having a plan to cover first and second.

Thank you to everyone. My post was too long. Appreciate your engagement.

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