What to do with your 401k when you change jobs?

My husband is changing jobs and a question came up what to do with his 401k.

Usually this decision must be made within 30-90 days.


After researching this I found that there are four options available:


1. Cash everything out.
That doesn't make much sense. He is still too far away from retirement and there is also no point to pay penalty on early distributions in addition to the taxes. 
If you are younger than 59 1/2, there will be a 10% early-withdrawal penalty on the sum you remove.   

2. Do nothing and leave the 401k with the old job.
You can do it with a minimum balance of $5,000. If it is less, the amount will most likely be paid out to you and you have to make sure to immediately roll it over into a simple IRA or a Roth IRA (dependent on what type of 401k you had. If you had a mix of both, see below).
If your old company will be sold or switches 401k providers, your login information may be changed and you will have to spend time to locate the new information.
Also an additional fee may be charged to non-employees.


3. Roll over to an IRA.
With IRAs there are more investment choices which include stocks and ETFs which are not available in the 401k plan. The fees are lower.
If your 401k is a partial Roth 401k, which are more common in the last years, it will require some more work.
Since 2014 it is possible to roll over the 401ks which have both, pre-tax and post-tax contributions. Those contributions are kept separate and when you log in into your account you can see them listed separately. You can request the pre-tax portion to be rolled over into an IRA and the post-tax portion into a Roth IRA. But the entire amount in your 401k has to be rolled over at the same time. You can not roll them over at different times. 

4.  Roll over into the new employer's plan.
Many new employers accept rollovers. You might check out the investment options and the fees before deciding.

There are two types of rollover: a direct rollover and an indirect rollover.

Direct rollover: The money is transferred from one account to another by the institution without you touching it. You will fill out a form. The company will do the rest.

Indirect rollover: You will receive a check and will have to send it yourself to your new account.
You will need to make sure that you deposit it to the IRA timely. The time limit is 60 days.


If you decide for options 3 or 4, you will have to initiate rollover by calling your 401k administrator to give instructions about the specifics of the rollover. If you rolling over into IRA, you have to have open an IRA account before initiating the rollover.


What will we do with my husband's 401k?
We will wait until we get the information about the new 401k plan and see if the fees and expense-ratios will be comparable with the old plan. They probably will be.

If he decides to roll over into the IRA he will have to do the split because this 401k contains both, pre-tax and post-tax contributions. I am worried about that being done correctly but I probably worry too much. The providers had since 2014 to learn and develop processes how to do it without mistakes/mischaracterizations. They will have to calculate the same pre-tax/post-tax split for rolling over to the new employer's 401k anyway.  

With a rollover into IRA we could save on fees.
The statements of the current 401k shows $75 in fees for the year. He probably will still work for another 21 years until he is 65. If he rolls over into the IRA instead of the new employer's 401k plan, he will save on fees. If the fees are comparable, that will make  about $75x21= $1575.

This is not a very large amount. It probably outweighs the  unnecessary worries about the transfer being messes up.

Having multiple cash flows - is this the ultimate goal?

M. asked me: Should having multiple cash flows be the ultimate goal? Some say that this defines the level of wealth.


Multiple cash flows are nice to have. If they are multiple, at least some of them should be passive or you will work yourself tired.
This goes along with not keeping all eggs in the same basket. But maybe instead of juggling multiple small baskets one can get a single really sturdy basket with a lid and with a low upkeep and have all the eggs in it?

How will that define the level of wealth? It depends on how much return those eggs will bring.

Articles about generating passive income are very popular right now. The suggestions focus mostly on something like creating an online course, writing an e-book or some other side hustle.
If you are a high income earner, you will not bother with anything like that. A super successful online course or an e-book are "zebras".

I prefer 'horses".  "Horses" in this case will be using your saved money to produce additional income. Some people buy timber land and get income from timber, some buy farms and rent them out, some buy rental property. This requires work and dealing with people.

I was looking for something like a business that produces income but has no customers to deal with. And I found it in investing.

I see my investments as a business which I bootstrapped with my savings. The trading fees and expense ratios are business expenses. The realized gains and dividends are income (which is taxed). The stocks and other investment vehicles are your "clients" and you can be very selective with which clients you work. The good thing, those clients never complain.

This business is brutally honest. Any mistake in investing is your own mistake due to lack of knowledge or experience. The more you know the better you get.  

The percentage value of your return is the profit margin. You can get down your business expenses by picking a broker with lower fees. There is not much tweaking on taxes. But you can select your clients and you can fire your clients too. You can follow up with the statistics and see how your business is doing.

You also an choose the degree of involvement into this business. You can put it onto the slow burner and just buy ETFs and dividend paying stocks long term. Or you can choose to be more active.

Like every business it will have seasons. And they are called "bear" and "bull".  They vary in length but those are just seasons, and after a bear there will always be a bull. And after a bull there will always be a bear. I know, the previous sentence sounds like I am unconcerned about the bear markets. I am actually concerned a bit, but I am not close to retirement and if one will happen tomorrow, there is still time to recover. Also the dividend paying stocks give you some protection during the bear markets. I am curious to see how I will deal with the next bear.

I would separate 4 levels of risk in this business:
Risk level 1: Very low risk - CDs, government bonds, money market accounts
Risk level 2: Medium risk - ETFs, dividend paying stocks with good track record
Risk level 3: High risk - Non-dividend paying stocks or stocks of troubled companies, junk bonds
Risk level 4: Very high risk - Penney stocks, options

Many might disagree with this classification and it will be just an opinion against another opinion. Only results will matter and show who is right.

Since I have a very big fear of loss, my risk level is level 2. I might move slower, but at least I will move forward.

A good thing about this type of business - investing doesn't take much time. Any other side hustle feels like a second job with very low pay compared to my main job.

By the way, this blog is not a side hustle. It only qualifies as a hobby. It costs $12 a year to maintain and has brought in $1.5 trough advertisements this year (there were 2 clicks on the ad banner sometime 2 months ago). That is it. 
I am writing just for fun and education. $12 per year is really not a big deal. I am not doing anything to promote it. Mainly because I want to stay anonymous but also because that requires to post comments on popular blogs so people can click on your name and see what blog do you come from, but I am too introvert for that. 

In elementary, middle and high school my school jobs were "class nurse" and "stengaseta" - Russian word for school wall poster/news paper. That is almost the same I do now. Physician and blogger, hahaha. But at home I had a different job. I was "the money keeper". My father was giving me the money from his side hustles to hide from my mother. I kept it well. Mostly I didn't give it back to him, because many times he forgot to ask back for it. I had a good stash. I still do the same thing today. Of course I don't keep my father's money, now I keep my own. I use this Warren Buffet's rule: Never loose your money. So I keep it.

If some strange star constellation will move me to write an e-book, writing it shouldn't feel like a second job. If that will be fun, like this blog, I might. I just don't know what about...  

How to calculate your net worth?

M. asks: When you are talking about net worth do you count everything you can sell and get money for? Paid off cars, jewelry, any collectibles?


According to the most used definition, the net worth is the value of all the non-financial and financial assets owned minus the value of all its outstanding liabilities.

But practically, in case if you get in trouble and you have to sell your assets, you will not just sell everything you own. Some items like collectibles are not easy to sell. And there will still be some items you will have to keep like your car or your house.

For items like car, house, jewelry and other personal items I would only count the net liquidation amount.
That means, that for the house I would take the amount it will sell for in the current market minus realtor fees. 
For the collectibles and jewelry - only that what you can sell it for. Collectibles are sometimes difficult to sell, the jewelry might be worth less then it was bought for.

Knowing and tracking your net worth is useful. It will make you aware of your financial situation and it gives you a reference point for measuring progress.  


How to create your personal net worth statement

List all your assets:
1. Cash in bank accounts
2. Retirement savings (tax-deferred accounts)
3. Investments (taxed accounts)
4. Cash value of insurance policies
5. Personal property (if there is any high value property like art, or jewelry or precious metals bars or coins)
6. Car value
7. Value of your house
For the last three I would use the current sell value.

List all your liabilities:
1. Mortgage
2. Car loan
3. Student loans
4. Other personal loans like credit card balances

Subtract the liabilities from the assets. The number you get is your net worth. You can update it monthly and hopefully enjoy to see how your liabilities are melting and your assets are growing.


After you got that, you might be interested to see how you rank among your fellow Americans.
Here is the link to the Net Worth By Age Calculator for the United States which will show you where you stand compared to your age group.

Here are two more interesting calculators:
Income Percentile by Age Calculator for 2017, United States and Net Worth Percentile Calculator for the United States in 2017.

How to stay within budget? Where is the problem?

Here is another question from M: How to make a budget that flows better? I've been too strict with my monthly budget and it never seems to work out. Some months we are really short and some month we are way over.


When I just started to date my now husband, he asked me if I have a monthly budget. I said: "No. I don't use a budget. I just buy what I want." I could see that he got scared because my answer sounded like I suffer from uncontrollable spending. In reality it was the exact opposite. 

I already went trough my budgeting phase and learned my best way to spend and to save. When I saw that my method is working, I didn't see the need to track my spending anymore. My savings were maximized. Everything was automated and "didn't have a budget" anymore. 

He didn't know all that. I explained it to him and he calmed down. I guess I passed his test to be suitable as a potential future wife who will not spend the family money out the window.

For me, budgeting is not a torture instrument. It is just an emotionless tool. Let me explain. 

Most people use budgeting to restraining themselves from overspending. Some kind of a too to enhance will power.

But that is not what I used it for. I used it as information gathering about my spending, comparing it with my goals and making adjustments. 

To start using a budget, you first need to learn what your expenses are and only then you can start to budget.

You can't start to budget before you have enough information about your spending habits. If you don't know your expenses it is like budgeting rainfall. You predict some level of rainfall and get either disappointed if there was more rain and happy if it was less. This is not budgeting, it is guessing.


Here are steps I used:

Step 1.
Write down all your expenses. Everything: fixed and variable expenses. Include luxury items (like Louis Vuitton bags or expensive travel).

Step 2:
Track your expenses for 4 or 5 month.This is not budgeting yet. It is careful collecting of information about your expenses.

Step 3: (optional)
Divide all your large fixed expenses which are payed yearly like disability insurance, car insurance payments or vacations. Calculate the total estimate for a year and divide it by 12. This will be your monthly amount which you can put into a separate savings account, which can play a role of an escrow account.  When a large expense comes, the money can come from that account and the monthly budget will not show any wild swings.  This is an optional step. I used to do that when the money was less.

Step 4:
Start budgeting. Get your monthly numbers from the data you collected. Ad 10-20% for surprises if you prefer to be in a good mood. Don't add any % for surprises if you like to torture and guilt yourself with no reason.

Watch for 4-5 months and see if you need any adjustments.
If you buy more Louis Vuitton bags and blast your budget, you have to either add it to your expenses or to convince yourself that 6 of those bags are enough. If you just can't stop buying those bags, there might be another solution (see this post about consumerism versus minimalism).  If you are constantly under your budget you can celebrate at the end of each month. If you like celebrating, keep that 10-20% room to stay in a good mood. If you don't like celebrating, adjust your budget numbers and celebrate less.

People in general like to constantly put themselves under some sort of restrictions. Even young children do that. You see it when they start to jump over the cracks in the asphalt or seams between the bathroom tiles, trying not to step on the lines. Putting restrictions on yourself is very natural. But like anything, if it becomes extreme, it becomes pathological.

Budget is simply a realistic projection based on previous statistics which will be evaluated, adjusted and used for more projections and optimization. It will help you to know what to expect and to catch deviations early.

Some people talk about saving 50% of gross income or setting 10% of bonuses for fun things like vacations and hobbies for emotional well being. But the percentages say nothing. If your monthly income is $2,000 you just can't save 50% of your gross income. If your monthly income is $20,000, setting only 50% for savings is not appropriate. And if you have loans, all of that will be modified by that. The same problem is with setting 10% for vacation and hobbies. If the budget is made and used properly, it should not raise questions about arbitrary percentage amounts. 

Consumerism versus minimalism - can you freely choose for yourself?

M. asks again: What about consumerism versus minimalism? How to say when enough is enough? Half of me wants to declutter and become minimalistic but the other half (somewhat competitive) wants to chase the next good deal...


M. wants to declutter and at the same time she also wants to own more. 

The main question here is WHY? Why do you want to declutter? And why do you want more things at the same time? There might be a conflict between the perceived and the real need. 

The real need is based on facts. If you have no food in the fridge and you are hungry, that is a real need. 
The perceived need is remembered feelings of lack from the past. If you didn't have enough food in the fridge when you were child, you will keep your fridge full no matter what but you may still feel the need to fill the fridge with more. 


Real minimalists are rare. Those are people with naturally low necessity to own things. Most others just suppress their wishes for some particular reason. 

I watched quite a few YouTube videos about minimalism. Some of the minimalists show bare walls rooms which border on sensory deprivation chambers. Some have the same amount of things I have. There is no definite criterion how much do you have to have to qualify as minimalist. 

There is usually an underlying idea for minimalism. Some do it to "help to save the environment". Others use it to save money. I knew someone who called himself minimalist but actually he just didn't have enough money to buy anything, was embarrassed to admit it and tried to cover it up with minimalism. 


Minimalism just doesn't feel good to me because it jeopardizes my "enough".

I would prefer to use "enough" as my measuring stick. You can say that you have enough of something, let's say, shoes. When you really have enough, you know it. You  clearly don't feel any necessity to buy more. But everyone has a different level of "enough".  

Why are the levels so different that some people just can't stop buying and become hoarders?

It is all your parent's fault.  
If in your childhood you have experienced severe lack of money (true or perceived), you might still have the feeling of lack burned into your brain as a very stressful situation. 
The brain has a function to evaluate every situation and classify it as danger or not. Any stressful memory will get into the drawer labeled "danger". 
To re-classify the situation to non-danger it is not enough to just even it out. It has to be compensated well above the need.

When I was growing up, my parent's didn't have enough money for anything. I had to wear shoes which were too small and which were broken, worn out or had holes. 
Now, to remedy that I have to compensate. I will have to own more shoes than I need. I will have to own as many as my brain will consider "enough" and will stop worry. 

People with previous experience of lack usually have only few specific key lack areas. A good method to identify them is to go trough each area of the house and identify the most severe ones. 

I have identified  three key areas of lack: shoes, clothes and money. 
Logically money is the most important area. If you have money you can buy shoes or clothes. 


There is published research saying that when people reach yearly income levels of $70,000, there is no increase in happiness above that number. This smells like propaganda. Or maybe they didn't have enough people with childhood lack trauma in their cohort. This statement will never be true for me or anyone with experience of severe lack of money in their childhood or adolescence.


The childhood  trauma of lack is different from "trying to keep up with the Joneses". The main point here is the comparison to others. The new things will be constantly bought but there is no problem to discard them, because they already did their job. They were shown off and now have to make space for something new. This happens mostly when parents frequently compared their possessions and level of wealth to others and were bitter about not being on top. In this case there is no felt need to keep things. This kind of trauma doesn't produce hoarders. 


When you go trough your house and identify your key lack areas, you will also discover your "enough" areas. 

If you discover that you have too many coffee cups and you clearly feel that you have more than enough, pick out those you like. It is important to ask the question "Do I like this cap? instead of "Do I need this cap? The results will be very different. 

Make some space by cleaning out the non-lack areas, because you will need to expand the key lack areas. 

What if you will only feel good when you have 30 pairs of shoes when the common sense tells you that 10 pairs are enough? Get 30 pairs, if you have enough money. There is no such thing like balance in life anyway. 
Sort the shoes the same way, by asking the question "Do I like them?" Fill the space with liked once until you feel "enough".  

Sometimes you just have to admit that you are not normal and learn to live very well with that.  


If you think you have a childhood trauma of lack, this is your to-do list:


1. Admit that more money will make you happier.
2. Get into high income field or marry someone with high income.
3. Get on track with your savings.
4. Identify key lack areas and support them.
5. Declutter the rest by asking "Do I like it?"
6. Enjoy abundance of items in your key lack areas.
7. Keep increasing your financial Independence and never stop.

ETFs fee war between banks - how can you win as investor?

There is an ETFs fee war going on. 

It started recently. This war is between ETF providers. As investor, I already enjoy reduced trading fees and watch what else is going to happen, because this war is not over yet. 

Vanguard has recently eliminated trading fees on almost all of their ETFs and some of it's rivals (more than 1800 of approximately 2000 ETFs available in the market, leveraged ETFs are excluded). Etrade offers more than 250 commission free ETFs,  TD Ameritade  - more than 300. Charles Schwab has over 200 commission-free ETFs and Fidelity has over 90. 

The new progress in this war is the $0 expense ratio Fidelity products FXROX and FZILX (which are mutual funds and not ETFs). Of course competitors will response to that. 

It is very possible that the $0 expense ratio may also soon come to the ETFs.

But how the banks make their money with a completely expense-free and trading fee-free product? 

The banks are fighting for the investor's money, so there must be some other ways than fees to get the revenue form a "free" product.  

ETFs are low cost investments but they generate significant profits for the banks. The scale matters and the more money is invested, the more revenue the bank will make. 

There are three main ways for the bank to generate revenue from an ETF/mutual fund:

1. Management fees (expense ratio). 

2. Dividend enhancements by reducing the amount of international taxes by having bank presence in other countries.

3.Securities lending. Legally ETFs and mutual funds can lend out up to 50% of their unlevered assets for interest. The usual borrowers are short sellers. 

So even if the ETFs will go completely fee-free for the investor (no trading fees and no expense ratio) the bank will still generate substantial revenue with the other two methods. The scale matters and that will make the fee war continue. 

Investors already had some benefits from the fee war: 

1. The trading fees are reduced among many brokers, not just for ETFs but also for stocks and options.

2. The low expense ratios are offered for many ETFs with many brokers (0.03% for SCHB is low considering 0.17% for SPY, I am still waiting for a low expense ratio ETF equivalent for QQQ).  

3. $0 expense ratio are starting to appear and they may become more frequent.

So what is the major factor in choosing a bank or a broker firm while the fee war still continues? 

Some of the major participants in the fee war are Vaguard, TD Ameritrade, Etrade, Schwab and Fidelity. Another (somewhat different) participant is Merill Lynch. 

I don't use Vanguard yet. I have accounts with Etrade, Schwab, Fidelity and Meryl Lynch. Most frequently I use Etrade and Schwab. But I only started to use Schwab after they lowered the trading fees for stocks from $7.95 to $4.95. I used their $0 trading fees ETFs before that. 

Fidelity has restrictions on their own ETFs - the Fidelity own ETFs have to be held in the account for at least 30 days. That is too restrictive for me. Schwab's own ETFs don't have such restrictions. 

Merill Lynch is interesting in another way. The trading fees are $6.95 per trade, but once you have $50,000 - $100,000 in assets (averaging over three month time), you have 30 free ETF and stock trades per month. And once you have above $100,000 in assets, you have 100 free trades per month. Options are not included.

I was looking forward to use so many free trades, but I discovered a very important (for me) issue - their unrealized gains web page is not updating real time after a trade was done and the value updates only after several days. Customer support representative told me that the updates happen after the trade has cleared and that is after 2 days. That is too long for me. I found a way to go trough the recent orders page which gives a real time quote per position but it is too cumbersome. My use of Merill Lynch will be limited for longer term trades until they fix that. 

In summary:

1. The fee war continues.

2. We know the banks can go lower because they have other ways to produce the revenue from ETFs.

3. The fees will stay low overall but are still the major factor in deciding which bank to choose. The comparison of trading fees and expense ratios will still stay the major factor. Per recent Schwab ETF survey, 45% of millennial and 39% of Generation X investors say they will move their account to a firm that offered commission free options. As a Gen Xer I agree. I don't like fees. 

8/22/18
Update:
Just 6 days after I posted this article, the news came out that in September J.P. Morgan Chase is planning to start a service "You Invest" with free trades. That will include 100 free trades in the first year and continuing 100 free trades per year for balances above $15,000 and unlimited free trades for balances above $250,000.
I will check it out and if they will have real time updates, I might replace my inflexible Merill Lynch account with this new option.
I also hope that Etrade and Schwab will join and offer free trades too.


 

What is FDIC and SIPC? How much money is safe to keep per account?

Every proper bank has a disclosure on their web site: FDIC insured up to $250,000. But what does it mean exactly?

What happens if you have more money than $250,000? Is your money at risk?

Probably only people who approach $250,000 in an account will ask those questions.

There are 2 types of insurance for different types of accounts.

The FDIC insurance is for deposit accounts: checking, savings, money market accounts, sweep accounts and certificate of deposit (CDs).

Surprisingly the retirement accounts such as IRA and 401k are included. The $250,000 insurance is per depositor per account category.


The SIPC insurance is for securities held in a brokerage account. The brokerage accounts are protected for up to $500,000 for securities and $250,000 limit for cash.

Why is there limit of only $250,000 for cash? Brokerage firms use sweep accounts for cash and cash is swept into deposit accounts through bank sweep programs. These sweep accounts are covered by FDIC insurance, which goes only up to $250,000 limit per person per each account type. 

All deposit accounts are FDIC insured per depositor, per each account category. 

That means that if you have one joined checking account with two co-owners, the entire account is insured for $500,000 ($250,000 per co-owner). If you have more accounts of the same type with the same bank, the limit will be shared among all accounts of the same type.

If you have a checking and a savings accounts with the same bank, the amounts will not be shared because those are different type accounts.

If you have two checking accounts and one savings account and all of them are joined, the insured amount will be $500,000 for both checking accounts and another $500,000 for the savings account. 

If you have an additional singe non-joined savings account with the same bank, this single account will share the limit with your portion of the insured amount in the joined savings account.  

If in addition you have more than one CDs, they all are counted as one account type.

The interesting thing is that IRA and 401k are insured by FDIC, only up to $250,000. Both IRAs and 401k accounts are considered to the same type of account. Health savings account is also in the same category. That means that the FDIC insurance limits will be shared among all three accounts if you have them at the same institution and entire sum of retirement money in IRA, HSA and 401k will be insured only up to $250,000. It might be the best to hold IRA, HSA and 401k with different institutions unless you are sure you will never reach the limits.

You can use the Electronic Deposit Insurance Estimator (EDIE) to play with the numbers and see what is insured and how. It works OK to get the feeling.

But who keeps so much money in a checking or savings account? You want your money to work and produce returns.

A more interesting question is how brokerage accounts are insured.

As I was approaching the $250,000 in my brokerage account I wanted to know if I should start opening  more brokerage accounts with other banks to have all money covered.

The securities in a brokerage account are insured by SIPC for up to $500,000. If there is cash in the account, the cash goes into the sweep account and which will be insured by FIDC for the time being.

I usually don't hold more tan $250,000 of cash in that account (yet). It is a joined account, So the sweeped cash is insured up to $500,000 because of 2 depositors and the securities are insured up to $1,000,000.

With all that information it looks like in my joined brokerage account I can hold up to $1,000,000 in securities including up to $500,000 in cash. This amount in cash is not in addition to securities but as parking cash position when some securities are sold and before the new once are bought. So total will still be $1,000,000.

Obviously there is still time left before I will get over those limits and will have to open another brokerage account.

And I probably worry too much. My research on the web showed that the SIPC insurance had to be used are exceedingly rare and that FDIC was used more frequently than SIPC.  

What happens when a FDIC insured bank fails?

The FDIC replaces cash up to insurance limits. It happens within few days of bank closing and it provides the insured with a new account at another bank and the insured will receive a check with the amount. If the money exceeds the limits, the bank assets will be first liquidated and the proceeds will be divided between debtors pro-rata.