Using Supplemental Tax-Deferred Annuity

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StubbornAndFearful
Posts: 9
Joined: Fri Mar 09, 2018 4:58 pm

Using Supplemental Tax-Deferred Annuity

Post by StubbornAndFearful » Fri Mar 09, 2018 5:45 pm

Hi,

I would like advice from the board members on the real-estate tax-deferred annuity offered by TIAA-CREF. I have been reading about this annuity both on these forums, and more generally online.

The setup is as follows for my wife and I:

-- We have Fidelity and Vanguard brokerage accounts with 74% in stock (53% in US, 12% international, 9% emerging), 11% iShares TIPS, 15% Vanguard VGSLX (REITs).

-- ROTH retirement account is maxed (we plan to continue this).

-- 529 accounts for 2 kids are maxed(we plan to continue this).

-- Optional Retirement Plan (ORP) with matching from our employer; this is maxed (we plan to continue this).

-- No debt, own house and car outright, and no major expenses in sight, other than college education for 2 children in approximately 15 years.

-- We are both 40 years old.

-- Annual income before tax is 160K. Not much hope for a raise over the next 5 years.

-- No intention of leaving our jobs for another 25 years (at least), unless we're fired (hopefully not, but that's always a risk).

-- We intend to invest according to our monthly plan, and otherwise leave our investments alone until we are much closer to retiring.

Now, we have extra money to invest, and the option to supplement our retirement plans by investing with TIAA-CREF using tax-deferred annuities; unfortunately, our employer does not offer options with Fidelity or Vanguard. I have read negative analysis of annuities in general, but I would like to utilize this tax-deferred space.

In particular, we would like to purchase the TIAA-CREF real estate annuity, while reducing our investment in VGSLX by the corresponding amount. We would essentially treat this annuity as a mutual fund; note that we apparently have the ability to withdraw with no penalty once per quarter.

Seemingly, this would allow us to keep a large portion of REITs in a tax-deferred place which offsets the higher expense ratio (0.12 vs 0.85). I have seen this recommended in at least one online article. Are there any downsides to this plan?

Thanks in advance.

dknightd
Posts: 1032
Joined: Wed Mar 07, 2018 11:57 am

Re: Using Supplemental Tax-Deferred Annuity

Post by dknightd » Sat Mar 10, 2018 11:06 am

Who handles your existing ORP?

All of my retirement savings are with TIAA. Sometimes I wish I had done differently, but when I decided many years (30!) ago it seemed like the right choice.

TIAA-CREF offers two more or less unique products in my mind. TIAA traditional, and their real-estate fund. The rules on how you can take money out depend on the plan you are in. For example in my ORP account TIAA traditional is very restricted, basically you have to take as annuity, or over 10 years. In the TAX DEFERRED ANNUITY PLAN you can move in and out of at will, but they pay a little less on it for that flexibility. But your question is about TIAA Real Estate. As I understand it, at least in my plans, I can take as much money as I want out of it every 3 months - in both plans. TIAA offers many different plans, and the rules are often specific to the employer. You really need to check with your employer to see what rules they have in place for the Real Estate account. You may be only able to annuities it (not always a bad thing), or you maybe able to withdraw only quarterly. The unique thing about the TIAA real estate fund is that it actually owns most of the buildings, and rents the space out. The expense ration of about 1% might seem high, but I suspect it is much lower than actually buying the buildings and managing them yourself. I like it because it lets you own commercial and large residential units without having to actually manage them.

I actually went the other way recently. I took some money out of TIAA real estate and put it into an REIT. I did this to further diversify how my real estate investments were invested. I don't know if this was a good idea. I hope it was. They both allow me to be invested in real estate (besides my home), and related products, without having work too hard at it.

YMMV,

StubbornAndFearful
Posts: 9
Joined: Fri Mar 09, 2018 4:58 pm

Re: Using Supplemental Tax-Deferred Annuity

Post by StubbornAndFearful » Sun Mar 11, 2018 12:53 am

Thanks for the reply, dknightd. We're with TIAA-CREF. I agree that the real estate annuity is unique, and the traditional seems nice too; there's been a lot of discussion about both in past forums.

On the one hand, it would be nice to use up the pre-tax space offered by the 403b supplemental plan in order to reduce our taxes. Our investments with TIAA-CREF would be liquid for both traditional and real estate annuities, and we are not forced to annuitize.

On the other hand, I don't see how to use the TIAA-CREF funds offered to us --- which are very limited -- to get the same allocation we have currently. Plus, there's the higher expense ratios which are troublesome. Even if we invest the money saved in taxes through Fidelity/Vanguard, the advantage seems limited. That is, if we gave up the pre-tax space and simply kept everything with Fidelity/Vanguard, we don't seem to lose much (we might actually do better, depending on the ERs, percent returned, and length of time invested).

So I figure we'll use TIAA-CREF only to the extent that we maintain our allocation, and then only if there is likely to be a non-negligible tax advantage.

Thanks again, best regards.

dknightd
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Joined: Wed Mar 07, 2018 11:57 am

Re: Using Supplemental Tax-Deferred Annuity

Post by dknightd » Sun Mar 11, 2018 7:31 am

TIAA ER do seem to be a little higher than Fidelity/Vangaurd. But they are not unreasonably high like some other alternatives. TIAA has many funds with ER in the .25-.35 % range. You might find it more convenient to keep all your investments with one company (I do). But if your only avenue to more tax deferred space is TIAA I'd give it strong consideration. Depending on your tax bracket putting $1000 into tax deferred only costs you $780 today. Assuming approximately equal returns, it would take many many years for the .30ish ER to wipe away that advantage (and the returns would have to be low for that to happen at all). Having that extra $220 compounding for many years is a powerful thing ;)

talzara
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Re: Using Supplemental Tax-Deferred Annuity

Post by talzara » Sun Mar 11, 2018 11:37 am

dknightd wrote:
Sat Mar 10, 2018 11:06 am
The unique thing about the TIAA real estate fund is that it actually owns most of the buildings, and rents the space out. The expense ration of about 1% might seem high, but I suspect it is much lower than actually buying the buildings and managing them yourself. I like it because it lets you own commercial and large residential units without having to actually manage them.
This is a common misconception that comes up a lot on Bogleheads.

The TIAA Real Estate Account (TREA) does not include property management expenses in the stated expense ratio.
Expense charges per Accumulation Unit and the Ratio of Expenses to average net assets reflect the year to date Account level expenses and exclude real estate property level expenses which are included in real estate income, net.

https://www.tiaa.org/public/pdf/reports ... ate10K.pdf (page 86)
TREA's expense ratio is directly comparable to the expense ratio on the Vanguard REIT fund. TIAA charges about 0.9%, and Vanguard charges about 0.12%. TIAA is simply much less efficient than Vanguard.

However, the two funds hold different assets. The Vanguard REIT Index Fund includes forestry companies, data center operator, and hotels. A lot of companies have converted to REITs recently for the tax pass-through. TREA is a pure real estate play.

StubbornAndFearful
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Joined: Fri Mar 09, 2018 4:58 pm

Re: Using Supplemental Tax-Deferred Annuity

Post by StubbornAndFearful » Sun Mar 11, 2018 12:13 pm

Thanks for the correction, talzara.

To dknightd (and anyone else), the following choice is what concerns me. To simplify, let's assume both the Vanguard REIT and TIAA-CREF real estate annuity earn 5% yearly. Then, consider two scenarios:

Scenario 1: Do a one-time investment of $37,000 (2x 18.5K limit for the 403b) into the Vanguard REIT VGSLX for 25 years that has a 0.12% ER. This results in growth of 4.88%, compounded over 25 years gives $121,764.

Scenario 2: Do a one time investment of $37,000 into the TIAA-CREF real estate annuity for 25 years that has a 0.85% ER. This results in growth of 4.15% over 25 years, which gives $102,255. Plus, we save (optimistically) a one-time $5000 due to the pre-tax, which can be invested at 4.88% over, say, 25 years (more like 24 years, but let's be optimistic); this gives $16,455. Therefore, our total is $118, 710.

In this single-year toy example, it seems we lose by going with TIAA-CREF to the tune of $3,054. Is there something wrong with my math, or my understanding of the concepts at work here?

livesoft
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Re: Using Supplemental Tax-Deferred Annuity

Post by livesoft » Sun Mar 11, 2018 12:29 pm

I own shares in the TIAA Real Estate Account (TREA) since its inception. It is not really a REIT fund, does not act like a REIT fund, and should not be confused as a replacement for a REIT fund. I consider TREA its own unique asset class.

Your toy example is just bogus because TREA and VGSLX are completely different investments.

Just because you can invest at TIAA, there is no reason to only look at TREA. You might wish to invest in something else instead. For instance, the TIAA traditional annuity is much like a bond fund over the long term, but with a floor guaranteed rate. You could use TIAA TA instead of the TIPS fund you have.
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talzara
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Re: Using Supplemental Tax-Deferred Annuity

Post by talzara » Sun Mar 11, 2018 3:01 pm

The Vanguard REIT Index Fund includes REITs that own apartments and office buildings, but it also includes REITs like data center operators. These companies rent space for computers, but they also charge customers for electricity and Internet service.

The TIAA Real Estate Account owns apartments and office buildings, but it doesn't own shares in data center operators. TIAA might buy a whole industrial park and lease one of the buildings to a data center operator, but it only gets rent for the building. It does not sell electricity or Internet service.

This is why I call TREA a pure play. TIAA has designed it to include only real estate investments. Vanguard includes everything that's legally considered to be a REIT.

TREA's expense ratio can't be as low as the Vanguard REIT, because it has to be actively managed. Vanguard can buy 1% of every REIT issued in the United States, but TIAA cannot buy 1% of every building in the United States.

However, I think TREA's expense ratio of 0.9% is too high even for an actively-managed fund. Their administrative and distribution fees are very high. Their liquidity fee is too high, and they're not doing enough to discourage market timing. Even the management fee is too high. Look at the expense ratios on Vanguard's actively-managed funds.

dknightd
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Re: Using Supplemental Tax-Deferred Annuity

Post by dknightd » Mon Mar 12, 2018 5:20 am

StubbornAndFearful wrote:
Sun Mar 11, 2018 12:13 pm
Thanks for the correction, talzara.

To dknightd (and anyone else), the following choice is what concerns me. To simplify, let's assume both the Vanguard REIT and TIAA-CREF real estate annuity earn 5% yearly. Then, consider two scenarios:

Scenario 1: Do a one-time investment of $37,000 (2x 18.5K limit for the 403b) into the Vanguard REIT VGSLX for 25 years that has a 0.12% ER. This results in growth of 4.88%, compounded over 25 years gives $121,764.

Scenario 2: Do a one time investment of $37,000 into the TIAA-CREF real estate annuity for 25 years that has a 0.85% ER. This results in growth of 4.15% over 25 years, which gives $102,255. Plus, we save (optimistically) a one-time $5000 due to the pre-tax, which can be invested at 4.88% over, say, 25 years (more like 24 years, but let's be optimistic); this gives $16,455. Therefore, our total is $118, 710.

In this single-year toy example, it seems we lose by going with TIAA-CREF to the tune of $3,054. Is there something wrong with my math, or my understanding of the concepts at work here?
Your math looks fine if you are in a 13.5% marginal tax bracket. If you are in a 22% bracket then your Scenario 2 would win. Guess it depends on what your taxes would have been on that 37000

StubbornAndFearful
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Re: Using Supplemental Tax-Deferred Annuity

Post by StubbornAndFearful » Mon Mar 12, 2018 7:36 pm

Thanks, dknightd , livesoft, and talzara; this has been helpful in figuring out how to view TREA and TIAA-CREF in general.

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