Should I Slow Down Saving to Buy a Car?

Summary

Money Guy Show Podcast Summary
Episode Title: Should I Slow Down Saving to Buy a Car?
Release Date: December 18, 2024
Hosts: Brian Preston and Bo Hanson

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Introduction

In this episode of the Money Guy Show, hosts Brian Preston and Bo Hanson delve into critical financial decisions that listeners often face. The primary focus revolves around whether individuals should adjust their saving strategies to accommodate significant purchases, such as a new car. Throughout the episode, the hosts address listener questions, providing in-depth analysis and actionable advice to help optimize financial growth and stability.

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Segment 1: Navigating Employer-Provided Roth Conversions

Listener Question:
Andrew B. inquires about his employer's provision for in-plan Roth conversions: "My employer has started to allow in plan Roth conversions. How does one decide how much traditional or the match to convert to Roth? Is this an example or a reason to take it to the next level?" [00:07]

Discussion Highlights:

• Understanding Mega Backdoor Roths:
  Bo Henderson explains the concept of a mega backdoor Roth contribution, a sophisticated strategy that allows high-income earners to contribute significantly more to their Roth accounts beyond standard limits. He states, "You can actually do a mega backdoor Roth contribution. So a lot of folks out there have access to this, are able to do 20, 30, $35,000 Roth contributions inside of their 401k by this planning opportunity." [00:36]

• Strategic Contribution Allocation:
  The hosts discuss the importance of balancing pre-tax and after-tax contributions, especially for higher earners who benefit from pre-tax deferrals due to their higher marginal tax rates. Bo mentions, "If you're in the 30% or above marginal tax bracket, pre-tax contributions are incredibly valuable." [02:00]

• Complexities and Cautions:
  Megan emphasizes the intricacies involved in executing mega backdoor Roths, advising listeners to be cautious of exceeding contribution limits and ensuring employer matches are not compromised. She uses a relatable metaphor: "It's kind of a very graceful dance. You have to do measure twice, cut once." [05:27]

Notable Quote:
Bo Henderson reflects on the decision-making process for Roth conversions: "Is it worth it for me to pay the taxes now? Meaning do I believe that I'm in a much lower tax situation now, then I think I will be in retirement or later on." [03:41]

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Segment 2: Managing and Diversifying Vested RSUs

Listener Question:
Skinning Potato asks, "I'm 26 on step seven. What should I do with my monthly vested RSUs? The total vested amount is about 60% of my after-tax portfolio. Should I diversify them and if so, how should I go about doing that?" [08:50]

Discussion Highlights:

• Risks of Concentrated Equity:
  Megan warns against having a significant portion of one's portfolio tied to employer stock, citing historical examples like WorldCom to illustrate the potential downturns of over-concentration. She advises, "You have two things tied up when you have all your eggs in that employer basket... you want to create a system to liquidate them and diversify." [09:58]

• Strategic Diversification:
  The hosts recommend creating a systematic approach to selling vested RSUs to mitigate risk and ensure financial independence. Bo adds, "Even if you're selling some off as they vest, it's likely you're being granted more on the backside." [12:10]

• Balancing Human and Investment Capital:
  Megan emphasizes separating human capital (income from employment) from investment capital to protect against potential job or company-related risks. She states, "Make sure you're building assets and resources outside of your ventures so you actually have the money to do what you want." [10:30]

Notable Quote:
Bo Henderson cautions, "Pigs get fat, but hogs get slaughtered," underscoring the dangers of excessive concentration in employer stock. [13:06]

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Segment 3: Balancing 401k Contributions with Car Purchases for Young Professionals

Listener Question:
JDR610 poses a scenario: "My 23-year-old daughter just got married this weekend. She has no debt, outside her home, has an emergency fund, but she needs a newer car. Should she reduce her 401k investments down to company match to save for a car faster or maintain a higher 401k contribution? What do y'all think?" [13:27]

Discussion Highlights:

• The Power of Early Investing:
  Megan highlights the long-term benefits of consistent saving and investing, especially for young individuals. She encourages using tools like the Wealth Multiplier to visualize future financial growth, stating, "Every dollar that she can save... has the potential to turn into tons of money down the road." [15:14]

• Assessing Needs vs. Wants:
  The hosts discuss the importance of evaluating whether the car purchase is a necessity or a luxury. Megan advises setting boundaries on spending for vehicles, recommending, "Put down at least 20%, don't finance for longer than three years, and ensure payments don't exceed 8% of income." [16:18]

• Maintaining Financial Balance:
  Bo suggests that if reducing 401k contributions is necessary, one should at least maintain contributions to secure employer matches and continue building retirement savings. He advises, "She might not save up for the whole value of the car. She should save up for that 20% and potentially buy the car to get back to saving." [17:52]

Notable Quote:
Megan warns against dealership financing strategies that can lead to unfavorable loan terms: "They ask what monthly payment you can afford, but that's a trap... the majority of Americans now are driving around with equity, meaning they owe more than the car is actually worth." [16:17]

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Conclusion

Throughout the episode, Brian Preston and Bo Hanson provide nuanced insights into complex financial strategies and everyday financial decisions. They emphasize the importance of strategic planning, diversification, and balancing short-term needs with long-term financial goals. By addressing listener questions with expertise and practical advice, the hosts empower their audience to make informed decisions that can lead to greater financial confidence and security.

For more personalized advice and resources, listeners are encouraged to visit moneyguy.com.

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Disclaimer:
Abound Wealth Management is a registered investment advisory firm regulated by the Securities and Exchange Commission. In accordance and compliance with securities laws and regulations, Abound Wealth Management does not render or offer to render personalized investment or tax advice through the Money Guy Show. The information provided is for informational purposes only and does not constitute financial, tax, investment, or legal advice.

Transcript

[Brian Preston]

All right, we've got Andrew B. He says, my employer has started to allow in plan Roth conversions. How does one decide how much traditional or the match to convert to Roth? Is this an example or a reason to take it to the next level?

[Beau Henderson]

I'll enter the second part first. Yes, it is a time when it might make sense to take it the next level. Because this gets incredibly nuanced and incredibly complicated when you're starting to do mega backdoor Roths. And let me. Can I lay out what a mega backdoor Roth is?

[Megan]

Yeah, well, you definitely need to, because I think Andrew, he's asking, he sees that somebody has made Roth conversions in plan conversions available. That tells me whoever designed your employer's plan, they were designing to add additional features. And Beau's about to go over that. But you didn't even ask Andrew what this kind of. You're asking, how do you, you know, should I take advantage of this, let BO blow your mind with this cool planning opportunity of mega backdoor Roth contribution?

[Beau Henderson]

Yes. So in plan conversion is one piece of that. What it's basically saying is that you have some assets inside of your 401k that can be converted to Roth inside of the plan. Now, what most people think of when they think of Roth conversions is I take some pre tax dollars and I convert them to Roth dollars and that becomes a taxable event. A lot of folks will do that with their employer match. Maybe I'm maxing out my Roth pre tax, my Roth salary deferral and my employer match goes in pre tax and I want to convert that. Those are all taxable events. But most often when we see in plan Roth conversions inside of a plan, it's because there happen to be after tax contributions available inside of that plan. Now, what most people don't realize is when it comes to 401ks, we often think of two ways to put money in there. We can either do pre tax deferrals or we can do Roth deferrals. Well, in some plans there's actually a third option to put money in. It's called after tax deferrals. And it is not limited to the same 23,000 in 2024, 23,500 next year. It's not limited to the same salary deferral limit. So you can actually put in all the way up to the Section 415 limit, which caps at $70,000 in 2025 of after tax contributions. Well, one of the beautiful things is if you're putting after tax money into your 401k and it allows for in plan conversions, you can convert Those after tax 401k contributions that you put in to Roth. And it is a completely tax free event. It allows you essentially to do a mega backdoor Roth contribution. So a lot of folks out there have access to this, are able to do 20, 30, $35,000 Roth contributions inside of their 401k by this planning opportunity. So the question that Andrew had is, okay, I've got this going on and I have this availability. How do I know should I do after tax first? Should I do conversions first? Should I do pre tax? Most often when folks were able to save at this level and you're talking about potentially putting $70,000 of your compensation or maybe 50 or $60,000 of your compensation into a 401k, you're likely a higher income earner. Well, if you're a higher income earner, the pre tax contributions that you can put into your 401k are incredibly valuable. That tax rate, if you're in the 30% or above marginal tax bracket is so, so valuable. So it's not uncommon for someone to completely max out their pre tax 401k contributions all the way up to the 23,000 this year, 23,500 next year, and then start doing the after tax contributions. Would you agree with that? As opposed to doing it before us?

[Megan]

This is definitely somebody who's got a big shovel and has a really good income. I will tell you this, both said that this is one of those things where this is part of that complexity is that once you're doing backdoor, mega backdoor Roth conversions, it's somewhat complicated because there's a lot of contributing factors. And here's one of them. I'm going to share some tidbits of some cautionary things to look out for when he gave those 415 limits of $70,000. And then remember, if you're 50 and over, you even get catch up contributions on top of that. You have to be careful that you don't crowd out your employer's contributions. So I'm talking matching dollars with your contributions, I'm talking about profit contributions, all of that fits into that $70,000. So if you get two funding gung ho and you load it up with all $70,000 and then your employer wants to put in $12,000, it's just tough. You know, they're like, no, you hit the 415 limit already. Even though your employer puts in the profit sharing contribution by October of the next year, assuming they extended their tax return. You went ahead and pre funded too much money. So they just get to. And you miss out, you know, you miss out on it. So that's why it's kind of a very graceful dance. You have to do measure twice, cut once. And the fact that you're trying to make sure that you leave just enough room, kind of like that cup of coffee, you know, they ask you, do you want creamer, you know, or do you want fill it up to the top? And you're like, no, I got to make sure I leave enough room in the cup for my employer to put in the full amount of money they want to put in. But then I'm also trying to get just as much maximize that planning opportunity as much as you possibly can.

[Beau Henderson]

Now the other question now maybe you're not asking about after tax. Andrew, you said, hey, how does one decide how much traditional, how much match to convert to Roth? Well, it's one of those things. If you're already doing all Roth contributions, you have a lot of money going into Roth. The question you have to ask yourself is, if I'm going to start converting some of my traditional balance or converting some of my employer match balance, is it worth it for me to pay the taxes now? Meaning do I believe that I'm in a much lower tax situation now, then I think I will be in retirement or later on. And so one of the things you can look at is, all right, if I convert $5,000, is it going to bump me into the next tax bracket? Is it going to cause me to miss out on some tax credits that I might have otherwise been, that I would have otherwise been eligible for? So you want to make sure you think through those things. Again, this is so nuanced. This is a great example of one of those times. It might make sense to take the relationship to the next level because some of these decisions, while not overly complicated, they are complex and they do require doing the transaction correctly so that when you get to tax time, you don't have just a big booger to unwind. Awesome. I don't, I don't know. That's the weirdest expression I've ever said.

[Megan]

Yeah, I don't know if that one's probably not catching traction.

[Beau Henderson]

I don't know where that came from.

[Megan]

What type of.

[Beau Henderson]

I think I stuck.

[Megan]

Do you have going on in your nose?

[Brian Preston]

All right, Andrew. Well, hopefully that gives you a lot to think about. It sounds like a great opportunity for you though. If you would like a Tumblr, you can email winneroneyguy.com hey, Megan, before you.

[Megan]

Do the next question, why don't you let our audience know how soon before you got the tap to come up to the majors?

[Brian Preston]

About 30 minutes.

[Megan]

That's typical money guy fashion right there. You'd think we'd give you like a week's notice or something like that. 30 minutes. That's good enough.

[Beau Henderson]

Yeah, you're up.

[Brian Preston]

We do everything by the seat of our pants. That's right.

[Megan]

That's a secret.

[Beau Henderson]

You know what? I'm going to ruin this line because I tell this line whenever we do studio tours. But I say, man, it's so crazy. We see what we have now. It used to just all be duct tape and bubble gum. Now we just get to buy name brand duct tape and name brand bubble gum. Same process, just different.

[Megan]

Or we send Nick to Party City.

[Beau Henderson]

Or we send Nick to party City.

[Brian Preston]

Brian, it was like a whole content team outing to party City.

[Beau Henderson]

Yeah, it wasn't just Nick.

[Megan]

The whole team. Wow. I feel honored. And y'all all thought Brian would like to just. Well, on Mickey Mouse.

[Brian Preston]

Honestly, I didn't think about it being offensive to Mickey Mouse. I just saw how much fun you had with Matt's pinata. Honestly, I just wanted to get you.

[Beau Henderson]

The comments are blowing up about how kind hearted you are and how much that you would never hit a pinata with Mickey on it. So now we gotta figure out something to do with a pinata. That's not beating it. I'm sure we'll come with something.

[Brian Preston]

We might have to go back to party City and get you another pinata.

[Megan]

There we go. There we go.

[Beau Henderson]

One of the villains, Darth Vader. A Darth Vader. Would you hit Darth Vader?

[Megan]

Yeah. Cause then we could even put one of Beau's little faces on top of the Darth Vader and we could just go to town all day long.

[Beau Henderson]

Awesome. All right.

[Brian Preston]

Let'S pay back for the mustache gift.

[Beau Henderson]

Yeah, no kidding.

[Brian Preston]

All right, next up, we. Next up, we got a question from skinning potato. He says, I'm 26 on step seven. What should I do with my monthly vested RSUs? The total vested amount is about 60% of my after tax portfolio. Should I diversify them and if so, how should I go about doing that?

[Beau Henderson]

Okay, so again, let me quick education for those of you who don't know a lot of folks, not only is their compensation received in terms of their salary or their monthly paycheck, but a lot of workers, especially if you work for like a publicly traded company, some Portion of your compensation might come from employer incentives like restricted stock units, which means they grant you some stock ownership that then vests over a certain time period. Or you might have access to options, whether that be incentive stock options or non qualified stock options. Or you might even have like an employer stock purchase plan where you can buy your employer stock at a discount. All of these are wonderful benefits that are worth taking advantage of, but there are nuances because they are all a little unique. Specifically with RSUs. The question is, hey, every month I vest and when I vest, it's taxable on that day. So that amount that vest shows up in my W2 at the end of the year when I go to file taxes. How do I manage that? And Brian, with scanning potato, having 60% of their after tax money in their employer stock, is that okay or is that potentially a risky situation that doesn't.

[Megan]

Realize you know the answer? And that's why I think you're pushing it over to me is because I've dealt with executives back in Atlanta for a big tech company, Lucid Technologies, that, you know, they all were worth a fortune on paper. I mean, I could also called out WorldCom or some of the other big success stories of the past that I watched just blow up in spectacular fashion. And you thought these things were going to be around forever. That's why you always need to be very aware that you have two things tied up when you have all your eggs in that employer basket, is that you've got your human capital, meaning that's your time that you're trading for. You're giving your time for the wages and all the other things they're paying you for. But then you've also got your investment capital. And we like to see some separation, those two things, so that you actually, if one goes down, the other one is there to pick it up. And that's what you know, because even entrepreneurs, I'm always telling them, hey, make sure you're building assets and resources outside of your ventures so you actually have the money to do what you want, when you want, how you want. That's where financial independence is built. Now it's hard, I get it, because a lot of you guys work for these big Fortune 500 companies that are high fliers and you're making even better sometimes than the s and P500 is historically. And you're like, well, this is why would I ever want to get out of this? But I'm telling you, there is a point you have to balance that thinking about the human capital, thinking about the investment capital, thinking about where the market is going so that you do create a strategic plan to divest out of those things in a strategic way. What I love about doing in a strategic way is it takes the emotions out of the process. Now you don't have to get emotionally attached to this stock. You can actually say, hey, I'm going to create a system to where every year as these RSU's vest and I pay the compensation. Some of these older ones now, I'm going to liquidate them so I can turn them into diversified holdings that now will create financial independence for me. And that also, you know, protects you from some of the political issues at work and so forth, because nobody can get mad at you for having a systematic process to build financial security for you and your family outside of the company you work for.

[Beau Henderson]

And one thing that we remind people of is you thinking in terms of the vested RSU's. You also have to keep in mind the unvested RSU that you still have exposure to, because most folks, at least in our experience, are on what we call the incentive treadmill, that every month or every quarter or every year, those shares are being replaced through time. So even if you're selling some off as they vest, it's likely you're being granted more on the backside. So you are, yes, taking some of the chips off the table, but those chips are also being replenished. So if you do work for a company, you believe in what the company is doing and you think the company is going to do incredible things, you still have exposure to the equity in that company through your unvested or future granted incentives, even if you're selling them off now. So be careful. We know that when it comes to investing, when it comes to allocation, when it comes to concentration, pigs get fat, but hogs get slaughtered.

[Brian Preston]

All right, well, thank you, Skinning Potato for your question. If you would like a Money guy Tumblr, you can email winneroneyguy.com Skinning potato.

[Beau Henderson]

I thought it was scanning potato. I didn't understand it when it was scanning potato. Skinning potato.

[Megan]

I get you thought it was scanning potato.

[Beau Henderson]

I did. I couldn't make it make sense in my head, but now I know.

[Brian Preston]

Makes a lot more sense when you hear it. Right. All right, next one.

[Megan]

I don't think you can even scan a potato.

[Beau Henderson]

That's what I was saying. Honestly, I was thinking whenever I do potato because you. Yep. You can't.

[Brian Preston]

All right, next up is JDR610. He has a question about his daughter he says, My 23 year old daughter just got married this weekend. She has no debt, outside her home, has an emergency fund, but she needs a newer car. Should she reduce her 401k investments down to company match to save for a car faster or maintain a higher 401k contribution? What do y'all think?

[Beau Henderson]

Man, this is a really hard question. Let me lay out both sides of the equation, then you give the advice. How about that one thing, J.D. if you, if your daughter has not done this, I would encourage her to go to moneyguy.com resources and play with a wealth multiplier. Because at 23 years old, every dollar that she can save, every dollar that she can build for the future has the potential to turn into tons of money down the road. It's why we have these koozies that say this $1 beer cost me $88. Because we know that $1 today, 40 years in the future, 45 years in the future can be worth $88. So with your daughter, every dollar she can save, every dollar she put away has the ability to be incredibly valuable over the long term. Now on the other side of the equation, she's driving a car that's maybe old, not reliable, and her single greatest wealth creator right now is her job. The thing that she shows up to every day that allows her to create a paycheck and create an income and pay for the bills. And so having reliable transportation isn't likely so much a want as much as it is a need. And so these two tensions exist, especially for young people. So when it comes to his daughter, Brian, what advice would you give? How should she think about it?

[Megan]

Well, I love you. Set up. The first half of it is go out to moneyguy.com resources, play with the wealth multiplier tool so you can see how valuable for a 23 year old. But then you need to know the other side of the boundary because that's going to be the upside. So that you want to save every dollar but then you're like but where is. If I did take temporarily my savings down where' the place ought to say, man, that's too much. I've cut into the bone. And I would encourage you also to go to moneyguy.com resources and look at that. And I always mistitle it but what 25% can do for you, we really should rename it but it's basically a chart that has age and find out how much you need to say. They just put it up on there how much you should Save. And you'll notice because your daughter is so young in starting this journey out for a 23 year old, it's going to. She can still have tremendous success even below 25%. It's probably somewhere between 15 to 20%. So you could use that as the temporary boundary to say, hey, that job is so important to me and that lets you Transition to step two is don't forget 23.

[Beau Henderson]

There you go.

[Megan]

Because I do want to make sure there's so many people out there pushing you to stretch on your car purchases and they've gotten really smart. They even ask you what can your. What monthly payment can you afford? And that is a trap. Because you can make anything affordable for a few hundred dollars a month. All you have to do is expand out the amortization schedule. Instead of doing three years that we have done, why did we choose three years? Is to keep you honest with where your wages and what you can afford are versus if you go out to six years, seven years, like car dealerships are now allowing you to do, you'll be like, man, I can easily afford that. That seems like that payment is doable for me. But yet you never own the car. And that's why the majority of Americans now are driving around with equity, meaning they owe more than the car is actually worth. And that is an extremely dangerous place to be. So here's the way you keep yourself safe. You put down at least 20%, you don't finance for longer than three years and you make sure that payment doesn't exceed 8% of your income. And remember, we have two caveats. This doesn't apply to luxury cars. And this also, you cannot have your monthly car payment exceeding your monthly investments. Because if you got more money going to a car payment than you have going to your Roth ira, I think you really are shortchanging yourself for the future.

[Beau Henderson]

So it's likely what she could do is if she does have to reduce her savings and she does have to pull back to just getting the match to save up, she might not save up for the whole value of the car. She sees to save up for that 20% and potentially buy the car 238 so that she can get back to saving.

[Megan]

Put boundaries on yourself, because when you get to the dealership, they're going to tell you how much you can afford. And that's just not. It's more important that you minimize the car purchase, still get reliable transportation. Think Corolla, not Land Cruiser. But then get yourself back to saving and investing as much as possible as early as possible so you just own your time that much sooner.

[Beau Henderson]

J.D. tell her that we said congratulations on the recent marriage. Hey you know what a great gift for a brand new newlywed is a copy of Millionaire Mission for them to read together and work through together. Maybe they want to work through the [e-mail] both wonderful post wedding presents.

[Brian Preston]

Agreed. You can find Millionaire [e-mail] MillionaireMission JD Congrats to your daughter and if you would like a Moneyguy tumblr you can get one just email winneroneyguy.com the Moneyguy.

[Beau Henderson]

Show is hosted by Brian Preston. Abound Wealth Management is a registered investment advisory firm regulated by the securities and Exchange Commission. In accordance and compliance with the securities laws and regulations, Abound Wealth Management does not render or offer to render personalized investment or tax advice through the Money Guy Show. The information provided is for informational purposes only and does not constitute financial, tax, investment or legal advice.