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Ep 22: What’s Better - the Roth IRA or the LIRP? with David McKnight

April 3, 2019
Every once in a while an advisor will attempt to elevate the LIRP by diminshing the Roth IRA. They may, for example, say that the Roth IRA has some inherent limitations, including income limitations--if you make too much money or too little money--lack of plan completion insurance, and the inability...

Episode Transcript - What’s Better - the Roth IRA or the LIRP? with David McKnight

0:00:05
A tax freight train is bearing down on your retirement. To protect yourself, you'll have to harness The Power of Zero.
0:00:19
Hello and welcome to The Power of Zero show. Grateful that you took a little bit of time out of your schedule today to join us. Thank you very much for all of you who supported the launch of The Volatility Shield last week. It finished as the number one new release in retirement planning, number one new release in introduction to investing, the number two retirement book in the world, and it finished in about 530 or so in the world for books. It was a very successful launch, grateful to all of you who purchased it, and it's just going gangbusters, I'm getting a lot of amazing feedback from you guys. It's the first time I've told a story, it's a novel, it's got a plotline, it's got characters, cool twist ending that a lot of you guys liked. I got a lot of good feedback from you guys. If you want to get it, it's on Amazon, it will be available in bulk quantities probably in about two weeks, and the Audible is coming up in about two weeks as well. That's all going to be there for you for the taking. Of course, if you want to find out more about me, go to davidmcknight.com and there's a number of resources there as well.
0:01:34
Today, we're going to talk about what's better, a Roth IRA or an LIRP, a Life Insurance Retirement Plan? Every once in a while, an advisor will come to me and they'll say, “Dave, the Roth IRA has some obvious inherent flaws and limitations. You can only put in so much if you're over age 50, you can only put in $7,000 per person, it has income limitations so if you make more than $203,000 of modified adjusted gross income per year, you can no longer do it, in fact, your contributions get phased out starting at about $193,000 of modified adjusted gross income. If you make too little money, you can't do a Roth IRA, you have to have earned income to be able to do a Roth IRA. With a Roth IRA, you can touch what you put in, but any growth, you're not going to be able to touch until age 59 1/2. Those are some inherent limitations there as well.” You don't have what we call plan completion insurance in the event of death or disability, so with a Roth IRA, there's no death benefit, there's no long-term care benefit. In some states, you can have what's called a waiver of premium where it'll keep paying your premium for you should you become disabled. You don't have a long-term care benefit, and by the way, Roth IRAs are typically invested in the stock market, therefore, if the stock market goes down, your Roth IRA is going right down with it. Of course, this contrasts starkly with the life insurance retirement plan. The life insurance retirement plan has no contribution limits, no income limitations, you can make no money, you can make $1 million—some people call it the rich man's Roth, it's not a real name for it, that's just a nickname because it has all of the tax-tree attributes of the Roth IRA, without any of the limitations of the Roth IRA, you can make as much money as you want. Bill Gates can do an LIRP if he so desired. You don't have to have earned income, you could be in retirement taking money out of RMDs out of your IRA, drawing on a pension, taking money from Social Security, you could still do an LIRP. You can touch the money whenever you want. There are no liquidity constraints in the sense that you don't have to wait until you're 59 1/2, your plan can complete in the event of death or disability because you're going to get either a death benefit or a long-term care benefit, the more proper term there is chronic-illness rider or long-term care rider depending on the type of LIRP you get. Of course, you have the opportunity for a waiver of premium. The money grows safely and productively, particularly if you have either whole life, universal life, or indexed universal life. The variable universal life is going to mirror the stock market, you're passing your money through the insurance company into sub-accounts where your money is growing in the stock market, but unless you do VUL, you otherwise have safe and productive growth.
0:04:44
Some of these advisors will therefore conclude—and I think you gotta watch out for them—that all of your money, given the stark contrast between the LIRP and the Roth IRA, that all of your money should go into an LIRP. What they do is in an effort to lift up the LIRP, they will denigrate everything else, and most of the time, the Roth IRA gets caught up in the crossfire. The question is “Does this sound fair? Does this sound like an apt comparison?” The truth is these types of comparisons make me very uneasy. I happen to love the Roth IRA, I happen to think that it has limitations, but I also think the LIRP has limitations. I don't think that there is a perfect investment out there. The approach that a lot of people take is they say, “The LIRP is a silver bullet, it's a panacea, therefore, you should put all of your money into an LIRP.” I often ask financial advisors, “What if someone came up to you and said, ‘I have $1 million,’ and the only arrow in your quiver is an LIRP, what would you do? Would you ask them to liquidate their IRA and systematically reposition a million of those dollars to the LIRP?” The answer, I hope is, “Of course not.”
0:06:10
Let's talk about what The Power of Zero worldview says about all of this. For those of you who have been listening to me for any amount of time, I think you understand by now where I stand on this. The Power of Zero says that all of these different tax-free streams of income have benefits but they all have limitations, there's no perfect tax-free stream of income. They all have weaknesses, but when used in the right amounts, they all complement each other, they fit together like puzzle pieces. When those puzzle pieces fit snugly into place, you start to see that 0% tax bracket comes into view. They have to be used in the right amounts, in the right quantities, you have to respect various thresholds like provisional income threshold, you want your RMDs to be low enough that they can be offset by your standard deduction without causing your Social Security to be taxed. There are all sorts of strengths and weaknesses of all of these different accounts, not any one of which is the perfect investment. For those of you out there in the public, if you get approached by a financial advisor who says that the LIRP is the end-all-be-all, you have to be very leery because it's not the end-all-be-all, it is a complement to all of the other good things, all of the other positive spaces in the United States tax code.
0:07:40
To illustrate this for you, let me give you an example of a typical Power of Zero recommendation. I tell my advisors all the time, “The more streams of tax-free income you have, the better off you're going to be.” Let me give you an example, I love the Roth IRA because it doesn't count as provisional income, it's truly tax-free so long as you're 59 1/2. The other thing that's great about the Roth IRA in contrast to the LIRP is you have much more liquidity in those early years than you do with the LIRP, in fact, a lot of people use the Roth IRA, it doubles as an emergency fund, why? Because whatever you put in, you can take back out. Now I wouldn't say, “Let's make that your emergency fund,” because remember, once you take it out, you can't put it back in, you sort of miss out on those dollars and what those dollars could have earned for you had you kept them inside your Roth IRA.
0:08:45
That's the first stream of tax-free income, Roth IRA. If you're able to, we'd love to make sure that you're completely maxing out those Roth IRAs each and every year. The second stream of tax-free income is the LIRP. We like the LIRP because it's safe and productive. Your money is guaranteed to not lose money, unless it's in VUL, and depending if you're using an indexed universal life (IUL), your money is mirroring the upward movement of the stock market index. If you're using a whole life policy, then it's basically mirroring the growth of the general investment portfolio of the insurance company. Particularly with the IUL, you can take advantage of what are called variable loans, we've talked about that in my loan podcast where if you play the arbitrage just the right way, the insurance company is actually paying you a point or two to take the loan and that can help your cash value grow substantially over time more than it otherwise would have and your distributions can be substantially larger. For many people who are using this primarily as a cash value play and accumulation play, this can be very, very attractive.
0:09:57
If you can get possibly through Roth conversions, get your IRA down to the ideal balance, then your required minimum distributions in retirement will be offset by your standard deduction. This is a big deal, in fact, of all the tax-free streams of income I'm going to talk about today, this is my very favorite, because of all of the tax-free streams of income we're talking about today, it's the only alternative that gives you a tax deduction on the front end, allows your money to grow tax-free, and allows you to take it out tax-free. That's the holy grail of financial planning. If you can find investment, it allows you to get a deduction on the front end, it grows tax-deferred, and you take it out tax-free, you can't beat it from a tax-efficiency standpoint. Your money is going to grow much more productively. The IRA holds the place. The IRA can do something. All of these things can do things that none of the other streams of tax-free income should do, that's why we say that they have a place in this approach.
0:11:00
We love the Roth 401(k) because the Roth 401(k) is going to give you free money. When you're contributing to your 401(k) at work, they're likely going to give you a match, it's an inducement to you to take advantage of the 401(k), it's what we call golden handcuffs. They may have a vesting plan that says that you can only take a portion of that money with you should you end up switching jobs, so it's golden handcuffs, it's designed to incent you to stick around. That free money is pretty important because what that free money does, that they give you, as it helps you pay the tax on the back end, you're using the company's money to help you pay the tax on the back end if you end up having money inside your traditional 401(k). What I recommend people do is that they put the money into the Roth 401(k). The match would go into the traditional 401(k) account and then the Roth 401(k) lets you get money into the tax-free account. The thing that's great about the Roth 401(k) is that you have massive contribution limits you can put in. If you're over age 50, you can put in $25,000 per year, that's a big deal. When you take that coupled with the free money that you're getting contributed into your 401(k), that is really something that nothing else that we've talked about so far can give you.
0:12:36
Social Security, if you have all of these different streams of tax-free income that are respecting all of the different thresholds that we've talked about so far, then your Social Security becomes tax-free. Why is that a big deal for baby boomers? Because you guys are getting a multiple of what you put into it back out of it. You're getting way more out of these programs than you ever put into it, especially if you have longevity in your family. Yes, it felt like a tax when they took it out of your paycheck to begin with, but you're getting it back tax-free and you're getting it back over the course of your life all the way up right until you die. Now, because it's a consistent stream of income, I want to take you back to our whole volatility shield conversation. Because you have a consistent stream of income that's coming to you whether the stock market is up or down, it is allowing you to not 100% rely on your stock market portfolio. By being able to subsist on some of the tax-free streams of Social Security that you have, you won't have to take as much money out of your stock market portfolio should there be a down year during your retirement years, which of course, if you're taking money out during a down year, it's harder for your assets to recover and you end up running out of money a lot faster than you otherwise would. Social Security, in some respects, is a volatility buffer.
0:14:06
My point is that of all of the things that we talked about so far, Roth IRAs, LIRPs, IRAs, Roth 401(k)s, specifically taking the RMDs out of the IRAs, Roth 401(k)s, and Social Security, they all have pluses and they all have minuses. The Power of Zero point of view when it comes to “What's better, a Roth IRA or LIRP?” the answer is neither. They both have qualities that the other one can't do. The LIRP is very good at doing what the LIRP does, the IRA where you're taking RMDs at offset by your standard deductions does what it does very, very well, your Social Security does what it does extremely well, your Roth 401(k) gives you free money that you wouldn't otherwise be getting, that's something that none of those other streams of income will give you.
0:15:05
My conclusion here and in summary, the LIRP is not a silver bullet no matter what somebody tells you, it's got upsides, it's got downsides, it's merely a complement to all of these other wonderful tax-free streams of income. It plays a certain role, it tends to play that role better than any of the other streams of income that we've talked about, but it's not the silver bullet. It does what it does very well, it's not giving you a tax deduction, it's not giving you massive liquidity early on, it's not giving you free money from your employer, but it's giving you safe and productive growth, it's giving you a long-term care benefit, it’s giving you a death benefit, it's giving you, in some cases, variable loans that allow you to take advantage of some arbitrage that may, in some cases, double your streams of tax-free income coming out of that thing in retirement. But I get very, very uneasy when people make recommendations to put too much money into the LIRP. There's a right amount. Talk about the advisor who perhaps gave you a copy of The Power of Zero, go to our website davidmcknight.com, there are some great resources there.
0:16:09
Sometimes I get confused of being an LIRP advocate to the exclusion of everything else. I think that if you've listened to me long enough by now, you would know that is absolutely not the case; in fact, I'm actually relatively well-known for being the guy that says, “Hey, LIRP is not a silver bullet, it's got an upside, it's got a downside, it's not perfect, but it does do what it does better than any other stream of tax-free income out there. It's just not perfect. I don't have rose-colored glasses when it comes to any investment out there or any type of growth accumulation product.”
0:16:51
That's the show for today. I really appreciate you spending some time with me. I would love to get feedback from you. If you want to email me, it's david@pozmarketing.com, you can go to my website, davidmcknight.com, you can reach out to me that way. Again, get all of our books on Amazon. There's really three that are available to you now, you've got The Power of Zero that came first, you've got Look Before You LIRP where I talk about the ideal LIRP for me and for The Power of Zero purposes, and now we've got The Volatility Shield. Again, thanks for the amazing feedback on The Volatility Shield. I'm really happy with how that story turned out and I think that we're really starting to make waves with this approach of The Volatility Shield. Thanks for being on the show and we will talk to you next week.

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