Motley Fool Answers Mailbag: From Retirement Healthcare to Fee-Based Advisors

It’s the end of the month, which means it’s time for listener questions! Hosts Alison Southwick and Robert Brokamp join forces with special guest Sean Gates from Motley Fool Wealth Management to answer the most pressing questions facing you, dear listeners, this June. How quickly should you pay off your mortgage? Do you have to reinvest home sale profits in another home to avoid angering the tax reaper?

How can someone who’s very late to investing get started without too much risk? What can you do about high-fee mutual funds, and why might it cost you a whopping $75 to toss some dough in your Vanguard fund? Get some expert insight on these questions and many more in this week’s mailbag extravaganza.

A full transcript follows the video.

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This video was recorded on June 26, 2018.

Alison Southwick: This is Motley Fool Answers! I’m Alison Southwick, and I’m joined as always by Robert Brokamp, personal finance expert here at The Motley Fool.

Robert Brokamp: Hello, everybody!

Southwick: It’s the June mailbag! We also have special guest Sean Gates, a financial planner with Motley Fool Wealth Management.

Brokamp: [whispers] A sister company of The Motley Fool.

Southwick: Today, we’re going to answer your questions about health insurance for early retirees, avoiding transaction fees, finding a fair fee-only advisor, and whether you should prioritize paying off your mortgage. All that and more on this week’s episode of Motley Fool Answers.

Sean, how have you been?

Sean Gates: Great!

Southwick: It’s been a while since you’ve been on the show.

Gates: It has been. I’m glad to be back.

Brokamp: The last time you were on the show, you were a single man. Now …

Gates: Now I’m a married man.

Brokamp: You’re a married man. How’s it going?

Gates: What if I said, “Now I’m a divorced man”? Just went straight to that.

Southwick: Then we’d be doing this episode on a different subject. “So, You’re Getting A Divorce — With Sean Gates.” Alright, should we get into the mailbag?

Brokamp: Let’s do it!

Southwick: First question comes from Daniel. Daniel writes, “My 69-year-old mom receives $547 a month from Social Security and has $100,000 in a savings account. That’s all she has. How can I maximize her money without risking losing it? You discussed I bonds on a previous show, but I have no idea what those are. I’m looking for more information, and also some other options. Is it too late to start a retirement account? Thanks, as always and stay awesome, or rather, Foolish. Daniel.”

Brokamp: Daniel, good for you for trying to help your mom, because she’s in a tough situation. You didn’t indicate whether she’s retired or not, but I’m going to guess that she probably is. You can get Social Security and still be working, but I’m going to guess she’s retired. If she is capable of working, I think that’s actually something for her to consider doing, because she’s a young retiree and she really does not have that much money. She has about half of the average monthly benefit of Social Security. So, if possible, she should consider going back to work, if she can.

For someone who’s either in retirement or close to retirement, the first rule of thumb that I always throw out there is that you should have the next five years’ worth of income you expect from your portfolio out of the stock market. That would be the first thing. Put it somewhere safe. You mentioned I bonds. You can learn more about them at I don’t think they’re necessarily a good option for most of the money, because they’re not good for providing current income, and you have to leave them alone for five years or you pay a penalty. But for a little bit of the income, it’s possible. Otherwise I’d look at high-yielding savings accounts, maybe CDs, something like that. A one-year CD these days you can get for about 2.5%.

Normally, I’d say also for a retiree, be looking at, generally, a 60% stocks, 40% fixed-income portfolio, and that three to five years of income out of the market would be part of that 40%. I don’t know if I’d be comfortable recommending that she goes 60% into the stock market when you have so little. You have to play it pretty safe. Even a 60-40 portfolio dropped 25-30% in 2008. It recovered, of course, but it would just make me nervous, especially someone who hasn’t accumulated much over her career. I’m guessing she’s probably not invested in the stock market, so doing that now at her age would be tough.

I think it’s still worth considering, maybe, a broadly diversified, dividend-oriented stock portfolio for a small portion of it. Such a portfolio, like the dividend-focused funds, yields maybe 3.2%. That’s a good start. But she’d have to be comfortable with the possibility of that going down 30-40% at any given time.

Gates: Yeah. I would say, the piece of information we’re missing from this is how much money she needs off of the portfolio. That’s a big piece of it. If her Social Security and other income sources provide her retirement needs, then maybe the $100,000 could go into stocks at a heavier degree. But, yeah, I think all of Bro’s advice is good. Just get her started.

Brokamp: And it doesn’t say anything about whether she owns a home or not. If she does, she’s a great candidate for a reverse mortgage at some point down the road.

Southwick: Next question comes from Isaac. “In the first week of February, the market took a hit. I read several articles about why it happened and really couldn’t pinpoint a good reason. I believed the sell-off was irrational, so I took $3,000 out on margin and decided to only hold for one month. My thought process was that I could buy solid companies that had reported good earnings or were about to. However, I did not want to hold for long because I know that margin can be dangerous.

“So, I bought five companies. At the end of the month, I sold everything for a total gain of just under 10%. I know it’s a small amount of money, but anything helps a medical student. This strategy seemed to have worked well for me, despite making the poor decisions of using margin and holding for a short time period. So, my question: was this foolish, Foolish, or somewhere in between?”

Brokamp: I love how Isaac’s doing this while he’s in medical school. [laughs]

Southwick: Got some time on your hands, Isaac?

Brokamp: Yeah, exactly, in between gross anatomy.

Gates: I would say the answer falls, squarely, for me, on somewhere in between.

Southwick: [laughs] This is decisively somewhere in the gray area!

Gates: I mean, it’s foolish from the standpoint of, you’re sort of convincing yourself that this was a good decision because you thought you had some sort of insight into the irrational sell-off in the market, but you really don’t have any insight into what no one knows.

Brokamp: Nobody does.

Gates: Yeah. And, also, the timeline. The timeline was very short. That’s foolish, because you should only be risking that type of equity with money you’re willing to lose, essentially, on a 50-50 coin flip. I don’t know that you were, in that case. Maybe.

But, I think one of the positive things of this question that’s Foolish is, margin isn’t always bad. I think margin gets a very bad rap. It’s almost like it’s a risk zone that no one should go into. But it’s just a form of debt, in a way, and everyone uses debt to facilitate their financial goals. I personally used margin to finance some of my own house. Houses here are ridiculously expensive and I didn’t have a $200,000 down payment, but I did have an investment account.

I think one of the things to take away is, it’s important to have a taxable account that you can use for margin. You need a fairly large taxable account because margin has requirements. Let’s say, for example, you have a $100,000 taxable brokerage investment account. You wouldn’t want to take $70,000 on margin, because now you’re at a 70% margin loan balance, and that’s very risky. If the stocks go down, the margin requirements will get called and they’ll just sell everything on you. But, if you took out $20,000 on a $100,000 account, now you have a 20% margin balance, and that’s not so bad. It’s very unlikely that stocks are going to drop 80% and have to have you force-sell positions. So, yeah, I would say that’s a Foolish way to utilize margin.

Brokamp: Basically, margin allows you to magnify gains, but has the potential to magnify losses. As long as you’re willing to do that, it’s OK for some people. But, I would say, definitely, investing in the stock market for a one-month timeframe because you feel like you have a specific insight into that, that’s pretty risky.

Gates: The other interesting thing is, he says his total gain is 10%. I’m wondering if he included the margin interest cost in that calculation. Probably not. There is a cost associated with doing margin loans.

Southwick: Yeah. I assume you have short-term capital gains and all that, too. No?

Brokamp: You would, yeah.

Gates: Yeah, it depends. There’s a raw cost to borrow. If you have a 4% interest rate on your mortgage, there’s a raw cost interest rate to lend out that money. But then, there are other implications. If you have to sell to pay down the mortgage, you would have short-term and long-term capital. There’s a ton of knock-on effects.

Brokamp: And you can’t use margin in an IRA. If you’re using margin, they are going to be tax consequences.

Southwick: Next question comes from Jeff. “My wife has a Roth IRA with Fidelity in which we bought a Vanguard target-date fund. I recently realized that every time we add money to the fund, they charge us a $75 fee!” Woof! “Would you recommend waiting until we have a large enough sum of money to add to the fund to make the fee 1-2% of the investment, or perhaps open an account with Vanguard and transfer the fund? Or maybe there’s a better option than those two. My wife and I each already have a Roth IRA and 401(k), so if I transferred the fund to a normal account, wouldn’t I get taxed on the dividends?”

Brokamp: What he has encountered is what’s called a transaction fee. When you open up a regular old brokerage account and you buy a stock, you pay a commission. It’s usually $7-10. But when you buy a mutual fund, it can cost you — as we’re seeing here — $75, unless it’s a non-transaction fee fund — you’ll see a little NTF on the broker’s website. One thing he might consider doing is selling that fund and buying a fund that is an NTF fund.

I will point out, though, there’s a reason why Vanguard’s fund in this situation is charging that. To be in these big brokerages, a mutual fund company has to pay Fidelity a fee to be on their fund marketplace. And in the end, the person who owns that fund is going to pay that. I’ve read an article that says the average is they’re paying the broker 0.4% just to be on their platform.

So, to a certain degree, you’re going to pay for it either way. If you love Vanguard’s Target retirement fund, my recommendation would be then to transfer the money to Vanguard.

The second part of your question, about how you’ve said that you and your wife both have a Roth IRA and 401(k), it sounds like you’re not aware of the fact that you can transfer this money to those accounts. You don’t have to transfer the money to a taxable account. If you did do that, that would be considered distribution and it would be taxable, you’d pay penalties. You can just transfer it to your existing accounts. It might be that you’re aware of the annual contribution limits to those accounts, and you might be confusing those contribution limits with what you can transfer. There’s no limit on how much money you can transfer from one account to another. If you transferred this Roth IRA with Fidelity to another Roth IRA, that wouldn’t affect how much money you could then contribute as a regular contribution. I’m just assuming, reading between the lines there, what the confusion is there.

Gates: The only other thing I would add is, I don’t think I would recommend waiting to collect a large sum of money before purchasing a mutual fund. I think that waiting has an opportunity cost associated with it that you might be discounting. Looking for alternate funds to invest in that don’t have that commission would be a better option than just waiting until you have some sum of money to cover the cost of the $75 transaction fee.

Brokamp: We’ve talked about studies before that have looked at dollar-cost averaging vs. lump sum investing. You’re better off just getting the money in as soon as you can — just to back up what you said there. Having your money just sit around in a cash account until you’ve accumulated enough, there’s a cost to that.

Southwick: Next question comes from Diane. “I plan to retire soon, and my husband and I need health insurance until we are old enough for Medicare — three years for me and eight for him. He is on my health insurance now since he is running a small business out of our home.”

Gates: The first thing I would say is that Alison is modest in that the first seven sentences of that question were love for Alison. Just, for what it’s worth.

Brokamp: [laughs] It’s true.

Southwick: [laughs] Diane was kind enough to say that she loves to hear my voice because I sound so wonderfully happy. And I am! How could I not be wonderfully happy with you guys? Come on! Thank you, Diane! That’s very sweet of you to say.

Gates: I run into this question in my day-to-day all the time now. There’s a huge swath of retirees who are getting to the point where they’re not quite Medicare age, but the clock has punched its last card, so to speak, and they need options for healthcare. Of what I know of, there are really three options that you can do.

You can do COBRA, which is an extension of your existing health insurance, but that has a time delay on it. You can only have that for about 18 months, and you have to pay the equivalent amount of premiums that you would have while you were employed to get a similar level of coverage to your employer. That’ll gap you some of whatever, if you’re 60 and you need to make it to 65, that gets you to 61.5. That’s part of the way there, and usually a good option.

For the rest of the time period, there are really two ways: the Obamacare exchanges, which everyone hates, until they need it.

I won’t lie, they’re getting more expensive. It’s very difficult. You used to be able to find plans that had nice benefits like HSAs, and those are becoming less and less common on the exchanges. The selection is worse and worse. But it’s still one of the only options.

The second option, which I will make you aware of, but is risky in its own right, is something called health share ministries. It’s basically not health insurance as codified by law, but it is something that’s snuck in as a loophole. Religious organizations, because they didn’t want to pay for abortions or things like that in the premium coverage, were allowed to create this almost separate entity. It’s basically a cost-sharing pool, which almost all insurance is, but it’s relegated to particular organizations. In this case, you might see, an example is Christian Healthcare Ministries. If you went to their website, it’s a group of like-minded Christians. You can sign up, and basically, you pay a monthly contribution to a pool of dollars that then covers every person who’s in that group’s cost of coverage.

The tricks here are, prescription drugs are not included. You have to pay those out of pocket. There’s really no coverage at all. Then, you have to wonder, is that organization managing the funds well? If 50% of the people got cancer and needed tremendous amounts of healthcare costs, is that going to support it? Again, this is not classified as health insurance, so it’s not regulated the same way as a traditional health insurance option.

The reason that I mention it with the caveat of all those risks is that, again, Obamacare exchange programs are expensive. I’ve been in situations where people are like, “I want health insurance, but it’s going to cost me $4,000 a month. That’s more than my mortgage, I can’t do it.” Yeah. It’s just too much. In that case, this option is a fair one. To put dollars to it, if you had that $4,000 monthly payment, you might be able to find a healthcare sharing account that would cost you around $500-700, and I’ve heard some pretty good success stories on having those things covered.

Southwick: Huh! I had never heard of that. Now, are they going to card you make sure that you’re a Christian?

Gates: That is an excellent question. I’m secular myself. I recommend this to all people. They do not card you. This is becoming a larger phenomenon, so other affinity groups, so to speak, are starting to enter this market.

Southwick: Next question comes from Al. “Dear Alison and Bro, but mostly Bro. You have talked about putting cash in CDs and treasuries to earn higher interest than what you can get in a savings account. I have a brokerage account and there are many CD choices with decent returns. How much effort do I need to spend looking into the banks that I choose? I know the money is FDIC-insured, but what does that mean? If the banks go under, will my widow be waiting for reimbursement from the government for years while I, like old John Brown, lay a-moldering in my grave? Or, can I hearken back to my hippie roots, be a free spirit, and just send my money off willy nilly to any bank with a groovy rate? Thank you, but mostly Alison, for making me smile each week.”

Brokamp: I’ll start off by pointing out the difference between bank CDs and broker CDs. If you go to the bank, you give them, let’s say, $10,000, you don’t pay a commission, generally, it’s just built into the structure of the CD. If it’s due in five years, in five years, you’ll get the money back. If you redeem it early, you’ll pay like three months’ worth of interest as a penalty.

CDs you get from your broker can be different. First of all, some of them trade like bonds. While they may have a par value of $10,000, they might be worth a little less or a little bit more because they’re trading on the secondary market. Also, not all broker CDs are FDIC-insured. It’s important to know whether it actually is FDIC-insured or not.

Another thing to consider is that some CDs can be callable. That means, let’s say you buy a five-year CD. The bank may have the option of basically turning it in early, like three years, saying, “Sorry, we’re going to give you your money back early,” and you didn’t expect that. Those are all things to look at.

Once you do all that, as long as it’s FDIC-insured, I think you can feel relatively safe about that. I should say that if you’re buying it on the secondary market, the insurance is based on the value of the CD when it matures, not what you paid for it. Keep that in mind, that’s what’s known as a par value.

Just so you know, a little bit about FDIC insurance — it is, as they define it, $250,000 per depositor, per FDIC-insured bank, per ownership category. That means you could actually be at the same bank and have $250,000 in a regular old single-owned account, then $250,000 in an IRA. Those are two different ownership categories, and you’re still covered. If you go to the FDIC’s website, they have something called EDIE, the electronic deposit insurance estimator. It basically tells you how much insurance you have.

I do think it’s interesting that he put that “if the bank goes under, will my widow be waiting for reimbursement from the government,” like somehow, the bank going under and him dying are tied together. I don’t know if whatever’s bringing the bank down is going to also bring him down. Those are sort of separate categories.

Gates: He lives under the bank.

Brokamp: [laughs] I guess so! Something there! But, generally speaking, according to the FDIC, if it’s a regular old bank, it only takes one to two days for you to get your money. They either open up an account for you at another bank that is solvent, or they just write you the check. You get the money pretty quickly. But that’s a difference between that and a broker CD. Broker CDs can take up to 60 to 90 days to get the money, but generally you do get the money pretty quickly.

Southwick: Alright, next question comes from Kevin from Phoenix. “I have an inherited IRA from a non-spouse that I’ve elected to take required minimum distributions from. I can remove any amount of money from the account, but it will be fully taxed according to my income level. As long as I’m taking the required minimum distributions each year, the rest will grow, tax-deferred. If I am committed to a Foolish philosophy of investing that has a very long time horizon, would it be wise to remove larger amounts of money from the inherited IRA now and let it be taxed as ordinary income so that the future growth could be taxed as long-term capital gains? Otherwise, if it’s kept in the IRA, then all the gains will eventually be taxed as ordinary income.”

Gates: This is a great question, and I don’t have a good answer — no, just kidding. Part of the reason I like this question is because it delves right into the heart of pretty much how I help people, the vast majority. This is the No. 1 way that I help people the most. The best way to think about it is income recognition. You have all of this wealth that you’ve spend all of your mental energy thinking of and accumulating. Then, once you have to flip it over to actually distributing it to yourself, you don’t know which account to pull it from, when. This goes to the heart of it. A couple of things to consider, because I don’t think I can answer it outright on this podcast —

Southwick: Because it’d be too specific and personal?

Gates: Yeah, maybe too specific, but I’d probably arm you with enough information to hurt yourself and I don’t — well, actually, I’m OK with that. Talking to Al. In this case, the things to consider are, you haven’t really outlined what your tax rates are. If you make $700,000, in the 35% tax bracket, then it almost certainly does not make sense to recognize that income now. I think you’re missing the forest for the trees. Tax deferral is an amazing benefit in and of itself, and at your high tax bracket, being able to defer that in perpetuity is the best thing you can do.

If you’re in a lower tax bracket, much smarter to do this. Then it becomes a game. What if you’re in the 20% tax bracket? Then you need to think about timeline. If you’re 20 — I don’t think he said how old he was, either — then maybe, because maybe now you know you have a long enough timeline, and you can start to almost project into the future. If you pull it out of your IRA, No. 1, you won’t have that account recognize you with required minimum distributions when you’re older, and that’s a benefit long-term; No. 2, if you pull it into a taxable account, the other thing to consider is that if you have goals to leave those moneys to heirs, then that taxable account would get a step up in basis for your heirs when you die, which the IRA does not. So, they would owe income taxes on the income from your IRA that you haven’t reduced by pulling money out sooner.

Just some things to think about. There are a lot more in there. Another good thing to think about is, if you’re working now and you know for the next ten years that’s your plan, but in year five, you take an unpaid sabbatical and you don’t have income in that year, that might be the year where you’re like, “OK, I’m going to do this, I’m going to take a large chunk out of my IRA.” It’s just a game of mapping out future probabilities and recognizing this income in the most optimal time period.

Brokamp: And obviously, while the money is in the IRA, you’re not paying taxes on interest, on dividends, on any capital gains. Once you take that out, you’ll pay ordinary income on distribution, then, even if you hold onto a stock for 20 years, if it pays a dividend, you’ll pay taxes. If want to pare it back a little bit or rebalance, you’ll pay taxes. There’s a lot of benefit to keeping money in a traditional IRA, a regular IRA.

I’ll just point out, this is something that a lot of people aren’t aware of — if you inherit an IRA from someone who wasn’t your spouse, you do have to take out a required minimum distribution every year.

Gates: Yes, it’s a super important point. If you’re a day trader, this isn’t going to make sense. If you follow the Foolish investing philosophy, it might make more sense. Yeah, totally.

Southwick: Next question comes from Jason. “I’m getting ready to sell my personal residence. Everyone around me assumes I’ll have to pay taxes unless I reinvest it in another home, but the IRS website says I can exclude up to $250,000 profit on the home if I meet this certain criteria, which I do. I’m not looking to buy another home anytime soon and would like to save the majority of the profit for the future, as well as some short-term use, like maxing out my Roth.” That’s adorable, that he calls maxing out his Roth a short-term use. [laughs] Oh, Jason, I love you! Sorry, last sentence. “Will I be able to keep the entire profit?”

Brokamp: Generally speaking, it’s always better to believe the IRS website vs. your friends. In this case, the IRS website is true. It’s known as the home sale exclusion or section 121. Basically, you can exclude a profit of $250,000 or $500,000 if you’re married and you file jointly. There are some criteria that’s basically, the most important is, the house that you’re selling must have been your main home for at least two of the past five years, and that you haven’t claimed the home sale exclusion already during the past two years.

If you don’t meet that criteria, there are actually still some ways to get the exclusion at least partially. If you moved for job purposes, there’s some medical reasons, if you worked for some branches of the government. So, even if you don’t meet those criteria, dig a little deeper, you might at least get a partial exclusion.

What your friends are talking about is something for real estate investors — not your resident, but investors. That’s known as section 1031 or 1031 exchange. They’re thinking about rental properties. I think that’s where that’s coming from, but it doesn’t apply to your primary residence.

I think you’re on the right track in the sense that, if you don’t need the money any time soon, you can consider it as a longer-term investment type of thing. We’ve talked in previous episodes about how you actually can use money in your IRA to pay for another home eventually. That’s something to think about. If you were going to buy a home in the next year or two, I would say, play it pretty safe.

Then, my final piece of advice is, be aware that there are certain tax benefits to owning a home, deducting mortgage interest and property taxes. Once you sell the home, you won’t have that. Just be aware of how no longer owning a home is going to affect your tax bill.

Southwick: Next question comes to us from Bruce. “I have been interviewing fee-based advisors, but I find their business model unconscionable. For instance, I can invest $100,000 with a fee-based advisor and they fee me 1% of the portfolio value — so, they charge me $1,000 a year, get personal information about me like tax info, risk tolerance, retirement goals, hobbies, pet names, kids’ names, and other seemingly non-relevant financial information.

“They invest our money in their recommended funds and introduce me to their estate law and tax advisors, who I would pay extra to sit with. Then, they offered to meet with me and the wife three or four times a year. The first 15 minutes is to get caught up on the kids, travel and grandchildren, and then the next 15 minutes, they tell me the situation about our portfolio, which they don’t really manage, they just use another company to advise them on where to put our money.” Man, listeners are getting the inside scoop with this! We’re not done yet, Bruce has more.

“They invite us to events with their chosen speakers and give us something to eat, and they are real friendly. Here’s the rub: my neighbor invests $2 million, and they get exactly the same treatment, but they pay $20,000 a year. Why does the Department of Labor consider this fair value? Where are the honest IRAs who only charge for checkup meetings or special meetings aimed at discussing new circumstances? Why can’t I pay a couple of hundred dollars for their expert advice when I need it?”

Brokamp: A lot there from Bruce.

Southwick: Bruce does not want your chosen speakers and snacks! He wants advice, good advice at a fair price!

Brokamp: [laughs] He also doesn’t want to talk about his travel.

Southwick: [laughs] No!

Gates: I don’t care about your kids, Bruce!

Southwick: I love it! I feel like I’m sitting there in the room with him, across the desk, and he’s just like, “The kids are fine, let’s get to it.” Alright, here we go, from the sister company of The Motley Fool — is he right in what he’s saying?

Gates: In part, yeah, he is. This is tough, because you have to know a lot of the stuff that you think is non-relevant financial information to give good advice.

Brokamp: That was my first reaction looking at that. A lot of that information is actually really important.

Gates: It’s super important. I know it doesn’t seem like it, but those questions help us ask questions that you’re not thinking to ask. It’s tough.

But, to your point, if it’s true that they’re charging you 1% and you’re not seeing value from it — meaning, the growth of your portfolio isn’t overcoming that fee, or isn’t doing better than the S&P 500, then yeah, you’re probably in the wrong situation. There are model portfolios and investment managers who can out-perform the S&P 500. It’s difficult, but they exist, so don’t discount all of them for that.

Then, the other key thing that I would mention is, there are actually a lot of studies that are coming out that show that the value of financial planning advice is worth some amount of investment return. Now, different reports have different values, but it ranges between 1.75-3.5%. That’s not insignificant. If you compound that over time, that’s a huge amount of value creation potential that’s there. I see a lot of bad raps for 1% advisors. If you have a $1 million portfolio, that’s $10,000 a year, that seems like an enormous amount of money. But I feel like I’ve been able to provide well over that amount in fee to them in advice. And if I can’t, I’ll tell them.

Brokamp: And there are advisors who charge a flat fee or charge by the hour, but those are just one-time, two-time, three-time engagements. It’s not ongoing advice. For someone who’s mostly a do-it-yourselfer or someone who wants to be very involved in the process and very hands-on, I love it. I think it’s great. But if you want to go with someone who’s doing more of the ongoing management, it’s a different type of story.

I would say, Bruce is obviously meeting with people who are not convincing him of the value. He would have to pay extra for tax help, for example. You should expect a little bit of tax guidance, even a little bit of estate planning guidance, from a financial advisor. Not a complete estate plan, that should be done by an attorney. But you should get at least some guidance from your financial advisor. If Bruce is not meeting with people who are convincing him that they’re providing enough service, then he should keep looking, I think, because they’re out there.

Gates: Definitely. I think part of Bruce’s problem and everyone’s problem is, there’s a whole industry of people who want to help you for an innumerable amount of different charge methodologies. There’s hourly, there’s fee-based, there’s commission-based. It’s really hard as a consumer to figure out who’s honest. I don’t know that I have good advice other than look for a reputable company.

Brokamp: Bruce also brought up the Department of Labor. I’ll just point out that the Department of Labor does have jurisdiction over things like employer plans and things like that. Flat-out financial advisors is more of an SEC type of thing, and FINRA.

Southwick: It sounds like his concern is that it’s a flat percent no matter how much money you have. His neighbor is paying $20,000 a year, he’s paying $1,000 a year, and they’re getting the same level of service. Is that true? Are they?

Brokamp: I think there’s a lot of truth to that, for sure. On the other hand, there’s also, someone who does have more money, does tend to have more complicated finances.

Gates: Not only do they tend to have more complicated finances, but the value creation from financial planning escalates the more money you have. A particular tax saving strategy for someone who has $20 million, if you’re paying me $20,000 as a 1% fee, I might save you $200,000 in taxes. The benefit scales with the amount of money that you have. So, in effect, the value that they’re getting is higher than the value that you’re getting, even though the fee is the same on an apples-to-apples comparison.

Then, you may be extrapolating incorrectly. A lot of fee schedules have breakpoints. If you have $0-500,000, you’re charged 1%. If you have $500,000 to $1 million, you’re charged 0.75%. It goes down the more wealth that you have.

Brokamp: In fact, I would say that’s standard.

Gates: That’s fairly common, yeah. That’s just something to consider, as well.

Southwick: Next question comes from Brian. “I work at a community health center and have been trying to improve our 403(b). Our financial advisor has had us in some high-expense funds. The 12b-1 fees,” ugh, 12b-1 fees!

Brokamp: The worst.

Southwick: That’s my least favorite fee. “They’re 0.25%, and most of the expense ratios are around 1.25%. This year, with extra support from the health center, the financial advisor agreed to offer three index funds. He was not keen on doing this, but agreed. He also is putting in target date funds, as I had recommended. However, he went with American Funds and not Vanguard.

“I’m frustrated with this. What can I do? Also, I’m trying to explain to others so that they understand how index funds are generally better than actively managed funds. The problem is that the financial advisor picks funds that seem to out-perform the index funds.”

Brokamp: How dare he!

Southwick: “Am I missing something? How do I explain this to others?” Aw, keep fighting the good fight, Brian!

Brokamp: I was going to say, first of all, you should be treated like a hero by your colleagues. They should be naming babies after you. Or at least taking you out for lunch, one of those two. But, good for you for improving the company plan! That benefits everybody. We mentioned the 12b-1 fees. Basically, you’re paying the mutual fund company’s cost of marketing.

Southwick: It’s bananas!

Brokamp: It’s bananas. To a certain degree, everybody does that for every business that they use, but it’s so explicit —

Southwick: But not so blatant about it!

Brokamp: [laughs] It’s so blatant! This came out in 1980. The idea was, if people pay for the marketing, we’ll attract more assets, then we can lower overall costs. But studies have shown that’s not exactly what has happened.

Southwick: Companies don’t usually do that. “We got more customers, now we’re going to lower costs.”

Brokamp: [laughs] Right, exactly. That just annoys me. Anyway, the deal with this financial advisor, from what I can tell, the bottom line is, different mutual fund families have different payouts schemes for the advisors. The reason why this guy probably chose American Funds’ target date funds over Vanguard’s is, he’s making more money from American. In fact, I think Vanguard doesn’t pay anyone anything.

Gates: Including their employees.

Brokamp: [laughs] I’ve been to the campus. It’s nice.

Southwick: Nice enough.

Brokamp: It’s nice enough. That’s why he’s doing it. I also assume — I tried to look this up, it was definitely true in the past, but I couldn’t figure out if it’s still true — basically, advisors get paid less from index funds than they do from other types of funds.

Southwick: So, Brian needs to stand up during a company meeting, point at the advisor, and say, “J’accuse!

Gates: Throw bananas at him.

Southwick: Throw bananas at him!

Gates: I didn’t know what the B stood for, and I’ve been in this industry for 15 years!

Brokamp: For bananas!

Southwick: Bananas 1 fees.

Brokamp: I will say that, I don’t think there’s anyone at The Motley Fool who are bigger proponents of index funds than Sean and me. Me and Sean? I don’t know. I wish I were a grammar. I admire that you are pushing for the index funds.

That said, you can have a good plan with actively managed funds. I own actively managed funds. The Motley Fool 401(k) is an actively managed fund. If the advisor is picking ones that do beat the indexes, that’s good. I don’t think you have to go whole hog on that. Having three index funds is actually above-average. That’s good.

But, basically, if I were to recommend anything, it would be to question whether you even need the financial advisor. You can go to companies that will just administer the plan for you without the help of a financial advisor. If he is not adding value, and if he seems more of getting in the way and is an obstacle to you having an awesome plan, maybe you should just go directly to a plan provider. It could be a bank, it could be a big mutual fund company. They will work directly with companies. You don’t need a financial advisor.

Southwick: We go directly with a bank, don’t we?

Brokamp: We go directly through a bank, yeah.

Southwick: Yeah, with Motley Fool.

Gates: I think the only caveat I might mention with our plan, where we go right to a bank, is, a lot of companies will hire a financial advisor because, in this case, I think the DOL does apply, where you are a fiduciary as the plan administrator. So, you need some figurehead to represent the fiduciary standard in administering the plan. Most people just outsource it to financial advisors. If they went direct to a bank, they might not have a team of fiduciaries available. They might, they might not. But, it’s something to be aware of, in terms of why.

And I think I’d just make a plug for the fact that you did an awesome job, and I want to make a baby with you so that we can then name it after you.

Southwick: We all love Brian.

Gates: I think more broadly, what I would say is that, Bro and I are some of the largest advocates for index funds. I use index funds. But I also pick my own stocks. I think I can out-perform the market, and have, in some cases. There’s a tendency to think it’s a zero-sum game or mutually exclusive, in that if you have index funds, that’s all you should have. People are becoming almost overzealous about it. But having both options is fine. That’s good, good job.

Brokamp: But really, keep up the great work! Good for Brian!

Gates: Yeah, totally.

Southwick: Yay, Brian! And all of the babies to come in nine months named Brian!

Our next question comes off of the Twitters, it comes from SolelyWhat. “You said that it’s good to have your mortgage paid off in retirement. What about your working years? Even The Motley Fool likes companies with little to no debt. Debt-free, stress-free. Thoughts?”

Brokamp: If you want to be debt-free at any point in your life, I think that’s a great goal. From a numbers perspective, the reason why someone would say you should keep the mortgage is, if you have a mortgage and it’s only costing you 4%, and that frees up money to invest, and you could earn 6-12%, from a numbers perspective, that makes total sense.

But, there are studies that have shown over and over again that having less debt makes you feel happier, to a certain degree, depending on the study you look at, increases satisfaction in retirement, obviously gives you more flexibility because, if anything happens to your job or the economy, you’ve lowered your must-pay expenses. So, there are lots of good psychological reasons to pay off the mortgage. If that’s your goal, go for it.

Gates: I think the only thing I would add is, again, these questions don’t have a definitive answer, or, aren’t mutually exclusive. Early on in a mortgage, paying some principal is extremely beneficial because interest tends to compound in a way. It’s not exactly a one-to-one compounding, but a $10,000 principal payment into a $200,000 mortgage in the first year is going to have an enormous impact on the total amount of interest that you pay. You don’t have to pay off your mortgage entirely, but at least take a bite out of it early on and reduce that interest compounding effect. I think you can do both. You can have an investment account and pay off your mortgage to some extent, and win-win.

Southwick: Well, that’s it for the questions! Do you want to stick around and hear some other stuff from the mailbag?

Brokamp: Sure!

Southwick: Kenneth sent some nice photos as a virtual postcard with his dad on a trip to Sweden, wearing his Fool cap, which is nice to see. In our last mailbag episode, we talked a bit about 529s. Bro, you remember.

Brokamp: I remember. I was there.

Southwick: We got an email from Scott, who works at Virginia 529. He heard our last mailbag episode and he took exception — and, I would say rightly so — with the comment made by Naima, specifically when she referenced that someone moving out of Virginia might want to consider a plan that has better investment options or is one of the more reputable 529 plans. “Well,” Scott says, “our Invest529 plan here in Virginia is one of only four plans rated Gold by Morningstar for two consecutive years. Virginia 529 awesome,” is what Scott has to say.

Brokamp: And if you believe Scott, you don’t even have to live in Virginia. That’s one of the great things about a 529 — you don’t have to participate in your own state’s 529. That said, often, they give tax breaks to residents. But if you don’t get a tax break —

Southwick: Come on over to Virginia, we have a good one!

Brokamp: Come on over to Virginia, or anywhere else.

Southwick: As a resident of Virginia, and having a Virginia 529, that’s awesome news.

Brokamp: As do I.

Southwick: Alright, David heard our Father’s Day gift giving guide, and he wanted to know what that free parental control app I mentioned was. The answer is OurPact. I should say I’ve never used it. It has screen time parental control app, app blocker, GPS locator, kid tracker, and family locator. OurPact.

Alright! That’s the show! Sean, thank you for joining us this month!

Gates: It’s good to be back!

Southwick: We appreciate it! We’ll have to have you back sooner rather than later! Sounds good?

Gates: Please do!

Southwick: The show is edited baby-makingly by Rich Engdahl. I assume you’re leaving that Sean quip in. Please. Our email is Also, send us a postcard this summer on your travels! Our address is 2000 Duke St., Alexandria, Virginia, 22314. Thanks again, Sean! For Robert Brokamp, I’m Alison Southwick. Stay Foolish, everybody!

Alison Southwick has no position in any of the stocks mentioned. Robert Brokamp, CFP has no position in any of the stocks mentioned. Sean Gates has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Twitter. The Motley Fool has a disclosure policy.

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