Brett Klamer

Table of Contents

Financial Policy Statement

A guide to personal finance.

Investing

More money is lost by trading and timing the market than by following a pre-specified investment plan. A successful stop loss requires you to be correct twice, once when selling and again when re-entering a position. Outside of random luck, you cannot profit from this strategy. On average, lump-sum investing provides higher returns compared to dollar cost averaging. You may sell investments after creating a tax-advantaged withdrawal plan, your investments are sufficient to support your retirement, and you have decided to retire.

Investment Allocation

The most important investment consideration is the asset allocation which will allow you to sleep at night. For example:

  • Cash = 10%
  • Bonds/TIPS = 15%
  • Total US Stock = 50%
  • Total International Stock = 25%

Open an investment account at a reputable low-fee broker, choose a single low-cost index fund (either ETF or mutual fund investment types) for each of those four categories, then purchase the four chosen investments at the allocation percentage you have chosen.

Not sure where to start with selecting an asset allocation? Consider Larry Swedroe’s take:

Example Holdings

Cash

An investment class which will always return your dollar, but not much more. Usually loses to inflation.

  • Vanguard
    • VMMXX - Prime Money Market
  • Fidelity
    • SPAXX - Gov Money Market
    • FZFXX - Treasury Money Market
  • Other
    • Bank Savings
    • Bank CDs

Bonds

An investment class which is expected to return more than cash, but is generally more stable than stocks.

  • Mutual Funds
    • Vanguard
      • VBTLX - Total Bond
      • VWIUX - Muni intermediate term bond
      • VIPSX - Inflation-Protected Securities
    • Fidelity
      • FXNAX - Total Bond
      • FLTMX - Muni intermediate term bond
  • ETFs
    • Vanguard
      • BND - Total Bond
      • VTEB - Muni long term bond
      • VTIP - Inflation-Protected Securities
    • Fidelity
      • FBND - Total Bond
      • AGG - Total Bond
      • IUSB - Total Bond
      • MUB - Muni intermediate term bond
      • TIP - Inflation-Protected Securities
  • Other

US Stocks

An investment class which provides reasonably high reward for reasonably high risk.

  • Mutual funds
    • Vanguard
    • Fidelity:
  • ETFs
    • Vanguard
      • VTI - Total Stock
    • Fidelity
      • ITOT - Total Stock

International Stocks

An investment class which provides reasonably high reward for reasonably high risk.

  • Mutual Funds
    • Vanguard
      • VTIAX - Total International Stock
    • Fidelity
      • FTIHX - Total International Stock
  • ETFs
    • Vanguard
      • VXUS - Total International Stock
    • Fidelity
      • IXUS - Total International Stock

Account Types

A brief summary of account types:

  1. Non tax-advantaged
    1. Personal Brokerage account (taxable account)
      1. You open this account yourself at a reputable brokerage.
      2. You contribute to the account using money that has already been taxed (gifted or earned income).
      3. The growth (profit) is taxed at short-term capital gains or long-term capital gains rates any time you sell.
  2. Tax-advantaged
    1. Personal
      1. IRA
        1. You open this account yourself at a reputable brokerage.
        2. You contribute to the account using earned income, and these contributions will be deducted from your federal income tax liability.
        3. The growth (profit) is tax free when held inside the account.
        4. You will be taxed ordinary income tax rates on the amount withdrawn from the account.
        5. Contributions are limited to $6,000/year (2022).
        6. You can’t withdraw money (penalty) before 59.5 years old.
        7. You must begin withdrawing a specified portion of the funds in your account at age 72 (year 2022).
      2. Roth IRA
        1. You open this account yourself at a reputable brokerage.
        2. You contribute to the account using earned income, and these contributions will not be deducted from your federal income tax liability.
        3. You won’t pay taxes on anything inside or withdrawn from the account.
        4. Contributions are limited to $6,000/year (2022).
        5. You can’t withdraw money (penalty) before 59.5 years old.
        6. No required minimum distribution while owner is alive.
    2. Employer
      1. 401k, 403b, 457b, and 401a
        1. Non-Roth
          1. Your employer implements and is responsible for this account.
          2. You contribute to the account using payroll deductions, and these deductions reduce your federal income tax liability.
          3. The growth (profit) is tax free when held inside the account.
          4. You will be taxed ordinary income tax rates on the amount withdrawn from the account.
          5. You can contribute up to $20,500/year (year 2022).
          6. Your employer may contribute additional money beyond the $20,500/year (year 2022) limit.
          7. You can’t withdraw money without penalty (excluding 457b) before 59.5 years old.
          8. You must begin withdrawing a specified portion of the funds in your account at age 72 (year 2022).
        2. Roth
          1. Your employer implements and is responsible for this account.
          2. You contribute to the account using payroll deductions, and these deductions won’t reduce your federal income tax liability.
          3. You won’t pay taxes on anything inside or withdrawn from the account.
          4. You can contribute up to $20,500/year (year 2022).
          5. Your employer may contribute additional money beyond the $20,500/year (year 2022) limit; however, this money is pre-tax (non-Roth).
          6. You can’t withdraw money without penalty (excluding 457b) before 59.5 years old.
          7. You must begin withdrawing a specified portion of the funds in your account at age 72 (year 2022).
    3. Self-employed
      1. One-participant 401k (Solo 401k)
        1. Non-Roth
          1. You open this account yourself at any reputable brokerage, as long as you are a single member sole proprietor/LLC.
          2. You contribute to the account using payroll deductions, and these deductions reduce your federal income tax liability.
          3. The growth (profit) is tax free when held inside the account.
          4. You will be taxed ordinary income tax rates on the amount withdrawn from the account.
          5. The employee (i.e. you) can contribute 100% of earned income, up to $20,500. This $20,500 limit (year 2022) is shared with W-2 income retirement accounts 401k and 403b.
          6. The employer (i.e. you) can contribute up to 25% of earned income, without going over the $61,000 limit (employer + employee contributions) (year 2022).
          7. You can’t withdraw money without penalty before 59.5 years old.
          8. You must begin withdrawing a specified portion of the funds in your account at age 72 (year 2022).
        2. Roth
          1. You open this account yourself at any reputable brokerage, as long as you are a single member sole proprietor/LLC.
          2. You contribute to the account using payroll deductions, and these deductions won’t reduce your federal income tax liability.
          3. You won’t pay taxes on anything inside or withdrawn from the account.
          4. The employee (i.e. you) can contribute 100% of earned income, up to $20,500. This $20,500 limit (year 2022) is shared with W-2 income retirement accounts 401k and 403b.
          5. The employer (i.e. you) can contribute up to 25% of earned income, without going over the $61,000 limit (employer + employee contributions) (year 2022); however, this money is pre-tax (non-Roth).
          6. You can’t withdraw money (penalty) before 59.5 years old.
          7. You must begin withdrawing a specified portion of the funds in your account at age 72 (year 2022). This rule can be mitigated by executing a trustee-to-trustee rollover to a Roth IRA upon retirement.
    4. Medical
      1. Health Savings Account (HSA)
        1. There is no Roth vs Non-Roth distinction.
        2. Only available if you have an HSA-qualified health plan, also known as a high-deductible health plan (HDHP)
        3. You open this account yourself at any reputable brokerage, or your employer implements and is responsible for this account.
        4. You contribute to the account using your own (gifted or taxed) money, or through employer payroll deductions. These contributions will reduce your federal income tax liability.
        5. The growth (profit) is tax free when held inside the account.
        6. You will not pay taxes on any money withdrawn from the account that is used to pay for qualified medical bills.
        7. You may contribute $3,650/year for an individual plan and $7,300/year for a family plan (year 2022).
        8. On death, a surviving spouse may inherit the HSA tax free. Non-spouse inheritance is immediately taxable at income tax rates.

and a table of highlights:

Contribution Hierarchy

  1. (Roth) 401k
  2. (Roth) 457b
  3. (Roth) 403b
  4. Roth IRA
  5. HSA
  6. Taxable

As long as you are not at the top of the tax bracket now, and expect to be at the bottom of the tax bracket in retirement, any Roth option should be used as the default choice. Taxes are low right now, so there is little reason to defer to a potentially higher cost.

You can access your employers Form 5500 filing (annual return/report of employee benefit plan) at https://www.efast.dol.gov/portal/app/disseminatePublic.

What to do when you have a large tax deferred IRA and it’s preventing you from contributing to a Roth IRA? Roll it over to a one-participant 401k (solo 401k).

  1. Get an EIN at https://www.irs.gov/businesses/small-businesses-self-employed/apply-for-an-employer-identification-number-ein-online
  2. Earn money through self-employment, report it on schedule C and schedule SE.
  3. Open a one-participant 401k.
  4. Roll the IRA over to the one-participant 401k.
  5. Now contribute to the Roth IRA.

Replicating an index

How to fix your terrible employer provided investment options.

Morningstar provides market cap distributions for funds.

Let’s use OLS!

vtsax <- c(Giant = 41.18, Large = 30.42, Medium = 19.65, Small = 6.49, Micro = 2.26)
vfiax <- c(Giant = 50.12, Large = 33.81, Medium = 15.73, Small = 0.34, Micro = 0)
vexax <- c(Giant = 1.12, Large = 13.94, Medium = 37.10, Small = 34.99, Micro = 12.86)

mod <- lm(vtsax ~ vfiax + vexax)
summary(mod)
## 
## Call:
## lm(formula = vtsax ~ vfiax + vexax)
## 
## Residuals:
##    Giant    Large   Medium    Small    Micro 
## -0.12341  0.17522  0.01865 -0.09445  0.02399 
## 
## Coefficients:
##              Estimate Std. Error t value  Pr(>|t|)
## (Intercept) -0.128412   0.232845  -0.551   0.63668
## vfiax        0.822544   0.005030 163.512 0.0000374
## vexax        0.183858   0.007077  25.978   0.00148
## 
## Residual standard error: 0.167 on 2 degrees of freedom
## Multiple R-squared:  0.9999, Adjusted R-squared:  0.9999 
## F-statistic: 1.891e+04 on 2 and 2 DF,  p-value: 0.00005289
# Or, more simply
X <- cbind(vfiax, vexax)
Y <- vtsax
round(solve(t(X) %*% X) %*% t(X) %*% Y, digits = 2)
##       [,1]
## vfiax 0.82
## vexax 0.18
df <- data.frame(
  Size = factor(names(vtsax), levels = c("Giant", "Large", "Medium", "Small", "Micro")),
  vtsax,
  vfiax,
  vexax,
  replicated = round(predict(mod), 2)
)

df[c("vtsax", "replicated")]
##        vtsax replicated
## Giant  41.18      41.30
## Large  30.42      30.24
## Medium 19.65      19.63
## Small   6.49       6.58
## Micro   2.26       2.24
df <- gather(df, key = "Index", value = "Percent", vtsax, vfiax, vexax, replicated)

ggplot(df, aes(x = Size, y = Percent, color = Index, group = Index)) + 
  geom_point() + 
  geom_line()

VTSAX and replicated overlap in the plot above.

Investment Considerations

  • Expense ratios should be 0-0.2%. Anything outside of this range needs to be avoided almost always.
  • Utilize new contributions to rebalance the allocations.
  • Rebalance quarterly/yearly/as necessary by adjusting the tax-deferred holdings or taxable holdings (if losses or long-term gains are available). A common rebalancing point is when allocations break the 5% absolute or 25% relative boundaries.
  • Utilize cash and bonds as necessary to purchase on short term panic drops 10%+ or longer bear markets.

Tax Considerations

  • Hold tax free bonds in taxable accounts. Or, even better, just keep all bonds in retirement savings accounts.
  • Tax efficient index funds (no capital gains) in taxable accounts makes life easier during tax time.
  • A small number of invested index funds makes life easier during tax time (and general record keeping).
  • Convert traditional holdings to Roth when marginal tax rate is low (<~22%).

Financial independence

  • When investments are equal to at least 33x expected annual spending in retirement (i.e. 3%), your income generating method is no longer relevant :)
    • Track expenses and calculate expected annual spending as the average of the previous decade.
    • Multiply your expected annual spending by a safety factor (1.25x, 1.5x) to cover unexpected events in government policy, the financial system, and your spending.
    • Does this seem unreasonable? Fix that by spending less.
# psave = proportion of salary saved and invested
# swr = safe withdrawal rate
# return = expected investment return
# years = years until financial independence
years <- function(psave, swr, return) {
  expense <- 1 - psave
  log(((expense * (1 / swr) * return) / psave) + 1) / log(1 + return)
}

df <- data.frame(psave = seq(from = .1, to = .9, by = .1))
df$years <- years(psave = df$psave, swr = 0.03, return = 0.05)

df
##   psave     years
## 1   0.1 56.826796
## 2   0.2 41.747798
## 3   0.3 32.526332
## 4   0.4 25.676548
## 5   0.5 20.103012
## 6   0.6 15.314857
## 7   0.7 11.047237
## 8   0.8  7.138871
## 9   0.9  3.482239
ggplot(df, aes(x = psave, y = years)) + 
  geom_line() + 
  scale_y_continuous(breaks = seq(0, 50, 10), limits = c(0, 60))

Insurance

Protect your assets with insurance.

  • Term life insurance
    1. Hold term life insurance when you have dependents and are not financially independent.
    2. Many jobs provide term life insurance. Keep a personal policy as you don’t want this tied to the job.
    3. If traveling, and while during transport, credit cards often offer automatic term life insurance if used to purchase travel method (airlines).
    4. If you are young and the insurance amount is less than one million, most insurance providers do not require physical health checks before approval.
    5. It’s usually a pretty easy process to acquire by going through a local insurance agent who can get quotes from several companies (verify these with instant internet quotes).
  • Renters or Home insurance
    1. Be sure your homeowners policy includes extended dwelling coverage as it will replace or rebuild your property even if the cost exceeds your policy’s coverage
  • Car insurance
    1. Liability coverage: If you’re responsible for an accident, your liability coverage will cover the costs of any injuries or property damage caused in the collision. If the other person is responsible, and they have liability coverage, then they will pay for your damage. Most states require you to carry a minimum amount of coverage.
      • Minimum property damage liability you should have is $100,000 (i.e. plan max).
      • Minimum bodily injury liability you should have is $250,000 (i.e. plan max).
      • Liability coverage is the most important part of car insurance and you can only further reduce exposure to this liability through umbrella insurance!
    2. Collision coverage: No matter who is at fault, collision coverage pays to repair or replace your car if you’re in an accident with another vehicle, object, or even yourself. Can be useful for filing a claim with your personal insurance company so that they are the ones who get you money from other insurance company when someone else is at fault. Collision coverage is needed to insure rental vehicles. Is quite expensive. Only needed if your car is worth more than 3x your deductible?
    3. Comprehensive coverage: This level of insurance covers your losses that aren’t caused by a car crash such as theft, vandalism, flood, fire and hail. Probably the most common use for this is to replace window glass? Usually pretty cheap. Only needed if your car is worth more than 2x your deductible?
    4. Uninsured and Underinsured coverage: It will pay you if the other person is at fault, but they do not carry insurance or are underinsured and broke (i.e. the majority of people who drive cars).
      • If you carry collision, then separate un/underinsured property damage coverage isn’t needed. If you don’t carry collision, then property damage coverage is pretty cheap for what is usually a very small maximum coverage ($7,500).
      • Minimum bodily injury liability you should have is $250,000 (i.e. plan max).
    5. If renting, credit cards often offer automatic rental insurance if used for purchase. Though, recently, many have been canceling these additional benefits. Otherwise collision coverage will be needed to cover rentals.
  • Health insurance
    1. Unfortunately health insurance has little to do with covering unexpected costs. It’s more of a middle-man payment system that, in combination with healthcare providers, means the market for healthcare is not a service/good to be purchased, but rather a rent to be extracted.
    2. If not supplied by your employer, use the ACA marketplace at healthcare.gov to search for policies.
    3. Alternative healthcare sharing accounts through faith based companies are also available. These contracts are often not as robust as traditional insurance and can have maximum payouts ($150,000) or drop clauses for who knows what (smoking, no support from pastor, etc.). They generally operate by expecting you to pay cash for all bills. After submitting these receipts, they will provide partial refunds.
  • Long-term care insurance
    1. Purchase in 50s
    2. Reassess as needed as it is currently very expensive or no longer reasonable with current healthcare inflation?
  • Umbrella insurance
    1. This insurance gives protection for you and your assets when you need liability coverage that exceeds the limits of your homeowners or auto insurance. You want an additional buffer between traditional insurance liability limits (~250-500K) and your at-risk assets (anything held outside of ERISA-qualified plans, e.g. 401k or other non-governmental retirement savings accounts) when they become large enough to be enticing. About 80% of umbrella claims are a result of car crashes. This coverage usually doesn’t cover personal business issues (malpractice, etc.), extreme sports and racing, pollution/chemical/radiation incidents, any intentional damage caused by covered entity, transmission of disease, damage resulting from serving alcohol, damage caused by mold/mildew, etc.
  • FDIC (bank) insurance
    1. The FDIC insures up to $250,000 per bank account. If you have more than $250,000 in a bank account, there are two methods for extra protection. First, you can open multiple account across different banks, or within the same bank (one spouse and one joint (2x250,000) for 1,000,000 total). Second, the FDIC will protect $250,000 per beneficiary noted as payable on death (POD; and informal revocable trust), up to five beneficeries for a total of $1,250,000 protected assets per account (https://www.fdic.gov/resources/deposit-insurance/financial-products-insured/).
  • Service/contractor insurance
    1. Before entering a business agreement, require a Certificate of Liability Insurance. It will verify the policy holder, insurance company, policy number, limits of coverage, and type of liability. Ask/require that you are added as an “additional insured” to this policy. This all must be done prior to start of work. Make sure to stipulate in the contract requirements that notice must be given before any cancellation or change in insurance status, a waiver of subrogation applies to you?, and coverage provided is primary and non-contributory. Other forms of interest are the rider and floater.

Family Planning

  • Create a will once you have dependents. Update the will and beneficiaries of all accounts with each new dependent.
    • Last Will and Testament with Testamentary Trust
    • Durable Power of Attorney
    • Health Care Surrogate Designation
    • Living Will

Other Financial Items

Published: 2021-02-01
Last Updated: 2022-08-07