S1 E 4: Personal Finance Education Q&A

Hi, welcome! As part of Hispanic Heritage Month, we’ve put together a Q&A based on questions submitted by our community. Our hope, aligned with our mission, is to help advance financial education and knowledge so that you feel not only more empowered but also financially savvy in making decisions that best suit you and your family.

Thank you to everyone who submitted their questions. They are quite in-depth! I’ve got eight pages of notes, so we’ll try to go through them as quickly as possible. Let’s jump in and get started!

Questions from the Community

Q: At what age do you start allocating for long term care? What options are available for this?

A: Navigating Long-Term Care Insurance: Strategic Planning for Future Needs

Long-term care insurance is a crucial consideration for anyone planning for their future healthcare needs. Statistics show that more than half of individuals over the age of 65 will require long-term care. It's vital to understand all available options for funding such care to ensure peace of mind and financial stability.

Optimal Timing for Purchasing Long-Term Care Insurance

While the mid-50s is generally recommended as the optimal time to secure long-term care insurance, certain circumstances might necessitate earlier consideration:

* Health Considerations: Your current health and any medications you take play significant roles in your eligibility for long-term care insurance. Certain medications, especially those affecting cognitive functions or diseases like multiple sclerosis, a history of strokes, or diabetes requiring insulin shots, can preclude you from obtaining coverage. It's crucial to apply before such issues arise.

* Early Planning Benefits: Purchasing insurance earlier can lead to lower premiums and a higher likelihood of acceptance, safeguarding your future while also protecting your loved ones.

* Considering Others: Let's talk about others—this includes your spouse, partner, adult children, and grandchildren. Planning early can protect them from potential financial burdens or the responsibility of caring for you themselves, which could delay their ability to work or attend school. In some cases, they might not be physically capable of providing the necessary care, such as lifting another human being or relocating from another part of the country to assist. If you find yourself suddenly single and subsequently have a stroke or other health issue requiring long-term care, you would want to be self-sufficient through the assistance of long-term care providers. In all these cases, think of others.

Understanding Funding Options for Long-Term Care

There are several strategies to fund long-term care, each with its own set of benefits and considerations:

* Government Assistance: Programs like Medicare typically cover limited, short-term long-term care needs, mostly after hospitalization. Medicaid may cover long-term care but only if you meet stringent financial eligibility requirements. Research your state's Medicaid program, particularly for long-term care. Your financial situation will have to be quite dire, and there should be no attempts at "gaming the system" (which we know our readers would not do), among some of the basics.

* Hybrid Policies: These policies combine life insurance with long-term care insurance, offering a death benefit if the long-term care benefit is not used. This option provides flexibility and ensures that the premiums paid will not be lost.

* Traditional Long-Term Care Insurance: This offers the most comprehensive coverage for long-term care services, from in-home care to full-time nursing home care. These policies can often include benefits like spousal sharing, inflation protection, and return-of-premium features. Benefits usually have a set term of 2 to 6 years once a physician certifies you can’t perform 2 to 3 activities of daily living (ADLs), such as bathing, dressing, eating, and personal hygiene among others.

* Self-Funding: For those with sufficient resources, paying out of pocket may be an option. This requires substantial financial planning to ensure that personal assets can cover potential care costs without compromising other financial goals.

Estimated Funding

Aging is a fact of life, and in the United States, our healthcare system places a large financial burden on individuals. There are two pieces to consider when funding for your future age-related needs:

* Healthcare Expenses in Retirement: Plan to have approximately $157,000 saved (after-tax)/ per person to cover healthcare-related expenses in retirement. You may need more if you have larger incomes and are subject to Income-Related Monthly Adjustment Amount (IRMAA) Medicare surcharges for those whose incomes are over certain thresholds.

* Long-Term Care Needs: Separate from regular healthcare-related expenses noted above, Fidelity estimates that 7 out of 10 people will need long-term care in their lifetime. This includes services in your home, a day program in your community, or a residential facility like a nursing home or assisted living facility. To determine what amount you would need today and estimate in the future, check out the Genworth financial calculator. Fidelity estimates a blended cost of $116K/year and they estimate you will need three years of long-term care costs. Their Retirement Tool includes a feature to include Long Term Care costs to help you figure out any gaps in your retirement plan. You can adjust the total cost you will need to self fund by reducing the estimated cost by the amount of Long Term Care Insurance you already hold.

Choosing the Right Insurance Carrier

Selecting a reliable insurance carrier is paramount:

1.      Financial Stability and Ratings: Look for carriers with high ratings from independent agencies like A.M. Best, which reflect strong underwriting and actuarial practices. There used to be over 100 different policy providers in 2000; today, there are fewer than a dozen. Why, you may ask? Many providers underestimated the costs of these plans, had richer coverage features, and large total benefits. More of the financial burden is now on individuals. In 2018, long-term care carriers covered only about $10 billion in long-term care costs, while individuals covered $55 billion in out-of-pocket expenditures. So you can see that the carriers that remain have been disciplined in designing the plans, managing the coverages offered, increasing premiums to cover the risks, and strictly underwriting clients.

According to the American Association for Long-Term Care Insurance, over 45% of people over 70 are denied coverage, almost a third of folks between 60 to 65 are denied coverage, and even around 21% of people in their fifties are denied coverage.

2.      Coverage Options and Benefits: Ensure that the carrier offers flexible coverage options, including inflation protection, spousal discounts, and potentially a return of premium if the insurance goes unused.

3.      Customer Care/Claims Processing: Review each carrier’s ratings on customer care and claims processing. If the process to receive your benefits is difficult, remove them from your list of carrier choices to consider.

Spousal Considerations and Discounts

For couples, purchasing a joint policy can be beneficial:

* Spousal Discounts: Many insurers offer discounts when both spouses apply for coverage together. Even if only one qualifies, premiums may be reduced for both.

* Care Sharing Options: Some policies allow spouses to share their benefit pool, providing additional flexibility and potentially extending the duration of coverage available under one policy.

Your Living Status

Your living status is part of the underwriting process. If you are married or have a partner you live with, carriers look at that to help determine if you could, in fact, help should the other partner need it. Consider the following situations that may arise and when long-term care would be a need. Fidelity has a great chart to help you determine when Long Term Care would be appropriate or when it would kick in:

Source: Fidelity LLC

Conclusion

Planning for long-term care is a complex but necessary part of preparing for the future. By understanding the various funding options, features to look for, and the importance of selecting a suitable insurance provider, you can ensure that your long-term care needs will be met in a financially smart manner.  

In short, what you are buying is insurance for those unexpected or large burdens that may come your way. You are buying peace of mind and mitigating stress for what will be a stressful time for those who love you best.

Q: What is the best way to invest $5,000, $7,000, $10,000 for short and long-term growth?

A: First off, understand the job of each dollar you are putting to work. What is its purpose? Here are some questions to ask to help you figure out the purpose:

* Debt Management: Do you have any debt with interest rates above 7%?

* Emergency Readiness: Do you have at least $2,500 in an easily accessible savings account for emergencies?

* Job Security: Do you have a 3 to 6-month emergency fund (in cash or accessible equity) to cover living expenses in case you lose your job and struggle to find a new one?

* Upcoming Expenses: Are there large purchases (like appliances, significant car repairs, or college payments) coming up in the next two years that you’ll need this money for instead of relying on a high-interest rate credit card?

* Skill Enhancement: As an employee or entrepreneur, are your skills modern, future-focused, and marketable? Is there a course that could immediately enhance your earning power? Investing in your skills can translate into salary increases over time, enhancing your knowledge and skills stack, which in turn boosts your earnings potential.

* Retirement Planning: Where do you stand with your retirement savings? Are you on track, ahead, or behind? Can you afford to invest these extra funds and not access them until age 59½?

Depending on your answers, you can determine the best way to allocate your funds—whether that's paying off high-interest debt, establishing an emergency fund, improving your skills, saving for large purchases, or investing in the future and retirement.

Keep in mind, every dollar needs to have a job and every account should have a purpose. You don't need to obsess over it. Think of yourself as the leader and your dollars as soldiers ready to do the good work of helping to build financial well-being for you and your family. To create an accord in your life, it’s best to clearly define the role you want your money to play. This approach will help you achieve peace, joy, and harmony.

Investment Options Based on Time Horizon

* Immediate Needs: For needs that are very immediate, consider very liquid options such as a High Yield Savings Account or Money Market Account.

* Short-Term Goals (2-4 years): For needs that are not immediate but are expected within the next two to four years, consider treasuries or bonds. Treasuries have interest and par as their components. Bonds could have some potential appreciation.

* Long-Term Goals: For long-term horizons, consider equities through a broad-based, low-fee ETF, as they are more tax-efficient if in a taxable account. If you have a long-time horizon, place those funds in a Roth IRA if you have earned income. Consider that a Roth account has income limits, and future you will probably be making more money than you do today. If so, you may make too much money to participate in a Roth IRA in the future.

Q: When investing for long-term growth, what about purchasing property and starting a small business? How do you start a small business, and what is the best way to research a business you can grow into?

A: This person is looking for long-term investment growth prospects. In an earlier post, I provided a 9-box chart of investment options to consider, starting with investing in yourself to increase your earning power, followed by equities and bonds, real estate, small business ownership, and royalties. Take a look at the chart below for a high level of investment choices to consider:

Key Questions to Consider for Investments

When deciding on a long-term investment like property or a small business, ask yourself the following questions:

* Monthly Cash Flow: Do I need this investment to generate monthly income?

* Capital Access: How will I finance this investment? Where will I access capital for the purchase?

* Liquidity: How liquid will this investment be for me? How can I access my equity before I sell?

* Risk Factors: What risks are involved in this asset? Consider inflation risk, economic slowdowns, employee retention, the earning power of the business’ products or services, and the complexity of operations. Also, do you have a marketing and sales strategy to build awareness and then convert that awareness into sales? This is key!

* Time Commitment: How much time are you willing to commit daily to this business or property? These are active investments that require significant time and effort.

* Retirement Plan: Is this an investment you plan to take on in retirement, or will you remain active in your current employment? If you're planning this for retirement, how do you plan to manage the large time commitment for a business and your personal dreams to have more flexibility and freedom in retirement?

Starting a New Business vs. Buying an Existing One

When considering starting a new business, think about whether you’d prefer to start from scratch or buy an existing business. Both require a significant capital outlay, but starting from scratch comes with additional challenges. You’ll need to establish your product or service, set prices, figure out costs, marketing, and find customers—all while building the processes to secure sales, support functions like legal and accounting, and hire operational and sales teams.

The startup phase can be intense, with many business owners experiencing a J-curve—low points where pressures, lack of capital, tight margins, unfavorable business terms with strategic partners, and operational challenges can cause the business to falter or fail. It’s essential to anticipate this and prepare.

Buying an Existing Small Business

On the other hand, buying an existing small business might be a more manageable path. Here are some important facts of what is going on in the SMB marketplace:

* 40% of small business owners are Baby Boomers, and millions reach retirement each year.

* By 2030, the Baby Boomer generation will be at or beyond retirement age.

* Less than a third of small business owners have an exit plan.

* Many small business owners want to transfer ownership to employees or business partners, yet in many cases there is not a ready buyer.

With an existing small business, you’ll need less upfront capital. You can explore securing an SBA loan with a minimum of 10% down, assuming the seller will finance another 10% and the SBA loan will cover the remaining 80%. SBA-approved lenders will carefully underwrite the business to determine the loan amount. There are some excellent SBA loan officers who can thoroughly review the tax returns of the business you’re considering, helping you avoid potential pitfalls. Some of those pitfalls include market-based salary to replace that of the owner/operator, market rate building rent for an owner-occupied building, etc. The SBA loan officers job is to ensure the business can pay back the loan while also expecting the owner to run the business and be paid market compensation for the job/work performance. This will help you determine the maximum price you should consider paying for the business.

Key Considerations When Buying a Business

When looking at profit margins, anything north of 10% is a base starting point. Given that you can make around 10% in the stock market with liquidity, you want to find a business that offers much higher returns (15%+), given the risks and the fact that a small business is an illiquid investment.

* What Are You Buying?: You’re buying processes, operations, and existing products and services that already have a market presence. Ideally, the business has a solid sales and marketing team. However, many small business owners are also the face of the company and the primary sales team. If you lack sales and marketing skills, be prepared to secure proper replacements or skill up quickly.

* Solid Financials: You’ll want a company with clean, accurate financial records. If the books are messy or incomplete, walk away. Poor accounting can hide serious problems that may surface after it’s too late. It is also a sign of poor leadership and how unseriously they took the business.

Purchasing a Long-Term Asset (Real Estate or Small Business)

Here are the typical considerations when buying a long-term asset like real estate or a small business:

* Market Conditions: What are the current market conditions in the industry? Are there risks on the horizon? For example, autonomous long-haul freight could disrupt the freight industry. How close are we to seeing self-driving 18 wheelers on the road?

* Investment Quality: What is the quality of the investment and the cash flow, and how does that compare to the price you’ll pay (especially if you’re using an SBA loan)?

* Expectations: What are your expectations for this investment? Are you looking for cash flow to cover 100% of your living expenses? What happens if business slows down and that is not an option every year? How much work is involved? Am you willing to do whatever it takes, no matter what the personal costs in terms of time and relationships?

* Opportunity Cost: What is the opportunity cost of making this investment versus another? This is a HUGE question. Before you commit to any large capital-intensive investment, look at all your options. Especially with small businesses and real estate, you can be waiting a long time to sell or unwind the deal to secure a better return with less management hassle. This is usually the main driver of why I don’t pursue other investments. Compare. Compare. Compare.

And most importantly:

* Exit Plan: What is your exit plan? Is this a business others will want to buy? What will you do to make it so attractive and magnetic that, when you’re ready to sell, buyers will compete for it? If you don’t know the exit, figure that out before you build or buy.

Real Estate Considerations

Real estate investments require similar consideration, but remember that they are capital-intensive even after you make your purchase. You’ll need to save enough to build reserves for maintenance (appliances, HVAC, roof replacements) and keeping the property refreshed for new tenants and refreshed to compete with newer properties with better living options.

With private equity investing so much in apartment buildings and offering resort-like amenities (community events, pools, lounges), this is a lot of capital to compete with. If you decide to invest in single-family homes instead of apartments, keep in mind the need for scale. Determine your cash flow needs, reserve requirements, and how you’ll manage the property. And, of course, ensure your returns exceed what you could get with more liquid investment options over similar time horizons.

Q: I’m moving my previous 401(k) money from my old financial advisor to either self-manage or into my current employer’s 401(k) plan. What should I consider to determine if I should keep it in an IRA or add it to my current employer’s 401(k) plan?

A: Great question! We recently covered this topic, and I’ll reference some of that in my notes. Here are a few high-level considerations to keep in mind:

* Fees at a DIY Provider

* Consider the fees you’d pay at a self-managed provider. Providers like Fidelity, Vanguard, and Schwab are all solid, low-cost options worth reviewing.

* Personally, I’m a fan of Fidelity due to its user-friendly technology interface, comprehensive retirement planning tools, and excellent customer service. For DIY investors, they offer features like risk assessments and even volatility calculations (standard deviation), which is great if you want to understand your risk volatility better.

* While they’re not perfect (I wish they had more ETF options comparable to Vanguard), Fidelity still offers plenty of low-cost solutions themselves as well as many other providers like Vanguard, and other top Morningstar Rated Funds.

* Note: This is not an ad for Fidelity and we are definitely not paid by them. I’m just a fan of their technology platform.

* Can Your Current 401(k) Plan Accept a Rollover?

* Does your current 401(k) plan allow you to roll in funds from your old 401(k)? This is the first question to ask. If not, that’s a non-starter. Let’s not assume all plans offer this feature so it is best to find out before you go further.

* Fund Options and Associated Fees

* What are the fund options and fees with your current employer’s 401(k) provider?

* If your company is large and publicly traded, you may benefit from more investment choices and lower fees, thanks to their scale and negotiating power. It’s worth checking to ensure you’re getting these benefits.

* If your company is smaller, look very closely at the fund options and fees. They may not be great options and could cost you hundreds of thousands of dollars in the long run due to fees and lack of compounding.

* Brokerage Link Feature

* Does your 401(k) plan offer a brokerage link feature? This can give you the ability to invest in a broader range of funds or even individual stocks and bonds, which could be advantageous if you prefer more control over your investment options.

* Flexibility in Early Retirement

* What flexibility am I referring to? If you decide to retire early, you can access your funds from your 401(k) before age 59½ if you retire in the year you turn 55 or later. This rule, known as the Rule of 55, can give you more flexibility if early retirement is part of your plan.

* If you have an IRA with both after-tax and pre-tax contributions and are considering converting some to a Roth IRA, rolling a pre-tax IRA into your 401(k) plan can help manage the taxes on your Roth conversion for the remaining IRA. Keep in mind, Roth conversions are proportional, meaning you cannot choose which part of the IRA to convert. So, if you've moved your pre-tax IRA into your 401(k), your Roth conversion will only apply to the remaining IRA on a proportional basis. For example, if your remaining Traditional IRA has a large amount of after-tax contributions, a proportional amount of any conversion will be after-tax vs. pre-tax. By transferring your pre-tax IRA into your 401(k), which is typically 100% pre-tax, you can better control the tax impact of your Roth conversion. Since this can be complex, it’s best to consult a tax professional who specializes in this area to explore your options.

That’s a Wrap!

Alright, that covers a lot of topics! Thanks to everyone who submitted questions. If you found this valuable, feel free to share it with others who are interested in growing their personal financial knowledge and economic prosperity.

Disclaimer: 

This newsletter and podcast are not financial advice. Rather this is educational information as you build your financials skills to be a better sovereign of your own finances.

Until next time, keep building so you can embrace any future that comes your way!

If you are a mentor working with your mentees to improve their career possibilities, having financial strength is key. People are more apt to take on greater career prospects if they currently have financial security. Feel free to share so others can know and grow.

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