Episode 46: My Response to an Amazon Review Critical of The Power of Zero with David McKnight

A tax freight train is bearing down on your retirement. To protect yourself, you'll have to harness The Power of Zero.

Today we've got a great show for you. I'm going to talk about a review that was made about The Power of Zero on Amazon. I'm not here because I have an axe to grind against the guy that did the review but I think that sometimes, it's just instructive to see what some of the mainstream voices are out on the internet saying about The Power of Zero and the approach that we’re taking. I think that there's a danger when you don't dig deeply enough, when you are sort of a jack of all trades but a master of none, I think that it's easy to misread some of the concepts in The Power of Zero. Again, David McKnight here, best-selling author of The Power of Zero, Look Before You LIRP, and most recently, The Volatility Shield. Also, make sure that if you haven't had a chance to see The Power of Zero: The Tax Train Is Coming that you watch it, it's being shown in theaters across the country and it also can be streamed or purchased pretty much wherever you can stream or purchase movies on the internet.

He starts off by saying, “I have very mixed feelings about this book. Among the things I really like are (1) its emphasis upon the importance of tax planning as an important part of retirement planning, and (2) concrete examples of how tax planning is performed that demonstrate the complexities involved.” So far, so good. Then we get into five or six paragraphs of negativity, so let's jump in with both feet and let's embrace it.

I think what he's saying here is that you don't want to let the tax tail wag the dog, in other words, you don't want to necessarily build your financial plan around only taxes, and of course, that's never been my position, my position is that if we can examine the financial condition of our country, the fiscal path that we're on, and make some educated assumptions about the future of tax rates, then we, by definition, should be rearranging our assets to best capitalize on that. For example, if we know that tax rates in the future are likely to be higher than they are today, then scientifically and mathematically speaking, there's an ideal amount of money to have in our taxable and tax-deferred buckets. That is at the heart of The Power of Zero message that in a rising tax rate environment, there’s a mathematically perfect amount of money to have in those first two buckets, anything above and beyond those ideal balances in those first two buckets should be systematically repositioned to tax-free, that's really all we're trying to say in The Power of Zero, everything else is really ancillary to that, any discussion about LIRP is ancillary to that, any discussion about Roth IRAs is all ancillary to that main principle point, tax rates are going to be higher in the future, therefore, there's an ideal amount of money to have in those first two buckets.

“The uninformed reader of this book would certainly come away with the impression that life insurance is as good or better than a Roth IRA as a mechanism for maximizing spending funds over retirement. This is decidedly false. It's not that hard to set up Roth IRAs with no annual fees and investments that amount to 0.10% or less on an annual basis. All-in fees for life insurance policies are 10-20 times larger. If you want a simple guide to minimizing Roth investment fees, search here on the Amazon website for ‘Investing made Simple’ by Mike Piper.”

Why is it useful? Why is it valuable to have an advisor who's holding your hands through that whole thing? Because he's going to help you understand what your investment objective is. If you understand what your investment objective is, you're going to understand what your standard deviation is, you're going to understand the amount of risk that you're willing to take on. As long as the ebbs and flows in the markets are between those risk parameters, that standard deviation, you're hitting your investment objective. That's what an investment advisor is there to do, to hold your hand through that whole process. If you're paying 10 basis points or 0.10% of 1% to Vanguard or what have you, you're getting what you pay for, you're not getting any useful advice in exchange for that and you're certainly not getting advice on when to systematically reposition assets to tax-free, how quickly should you do it, how much should you do in any given year to be able to maximize a given tax rate, you're certainly not going to get the help that you need for 10 basis points. That's my little rant on fees that you simply get what you pay for.

This is where I think that the reviewer reveals his lack of experience, at least, in the life insurance realm. For those of you who did not listen to the earlier podcast that I did on loans, this is basically what happens, when you take a loan from your life insurance policy, you're not actually taking a loan from your life insurance policy, you're taking a loan from the life insurance company and they are using the cash value in your life insurance policy as collateral for that loan. For example, let's say you got $1 million in your cash value and you want to take a loan of $100,000. The insurance company will cut you a check for $100,000, that's what they drop in the mail to you and that's the check you receive a few days later, you can go and spend that. They are charging you because the IRS requires a real rate of interest for that loan so it's got to be what we call an arm's length transaction so they might charge you 3.5% so at the end of the year, you're going to owe $100,000 plus 3.5%. What insurance companies do to get around this to make it what we call a net-zero loan or a wash loan is they take the money out of the growth account of your portfolio, they put it in what I call a loan collateral account, so if you have $1 million in your portfolio, they'll take $100,000 out—it doesn't actually leave your bucket—and it'll be put in a loan collateral account where they will credit you a rate of interest—in this case, let's call it 3.5%.

Look, there's a reason why hedge fund managers, very, very wealthy people, there's a reason why banks are the biggest purchasers of life insurance because the money grows tax-free and you take it out tax-free. In this case, when he says there are no truly tax-free loans are no truly free loans, then this is obviously a point with which I can quibble because, as I say, all life insurance loans are tax-free just like any loan that you get from your uncle or from a bank, the IRS assumes is your going to pay the money back with dollars that have been taxed so they're going to get the tax sooner or later. However, not all life insurance company loans are cost-free, so what you're looking for in a loan is a tax-free and a cost-free loan. This is a point that I quibbled with The White Coat Investor when we had our little back-and-forth on the internet a couple of months ago, he says, “There's no such thing as a truly tax-free loan,” I said, “Look, there's a number of companies that guarantee it in the contract.” You have to understand the marketplace to the point where you understand that there actually are truly tax-free ways to get dollars out of these programs.

I talk about Roth 401(k)s and Roth 403(b)s in every presentation that I do by the way, and I talk about how every single tax-free investment out there does something that the other tax-free investments can't do. I actually love the Roth 401(k), and one of the reasons why I love it is because precisely, it allows you to put in $25,000 per year, it allows you to put a ton of money in after-tax, so between you and your spouse, you can put in $50,000, you can throw in another $7,000 if you're over age 50 for you and your spouse, for your personal Roth IRAs or traditional Roth IRAs, you can also do unlimited amounts of Roth conversion. I'm talking about these streams of income all the time.

Then he goes on to say, “Finally, the question of exactly how high taxes will rise in the future is a difficult one to answer. I agree with the author that, at least, for upper-income people, tax brackets will rise and deductions will shrink. Many politicians are even seriously considering a Wealth Tax, which could seriously rearrange many people's tax planning strategies.” By the way, I know Elizabeth Warren is proposing a wealth tax, it's either 1% or 2% of any dollar that you have above $50 million which is much less than 0.10% of 1% of our country so when he says that upper-income people, lots of people are going to have to rearrange their tax situation to account for this, I think it's just the vast, vast, vast minority of people in our country that have that type of money so we're not going to have to worry about that. Then he says, “But unlike the author, I don't expect that the existing 10% or 12% tax brackets will rise above 15%. Normally, even those tax brackets would lead to some Social Security taxation,” another point with which I can quibble here. We know that 53% of our country pays all of the taxes, most of the taxes, 80% get paid by the top 20%. Every study that's ever been done that says that if we're going to be able to sustainably pay for Social Security, Medicare, and Medicaid, the tax base will have to widen substantially. You could tax rich people at 100% of what they make per year and it's only going to fund the federal government for a couple of months so you have to broaden the tax base. There's currently, Mitt Romney's big thing where he said 47% of the people are either not paying taxes or they're getting a tax refund or a tax credit as it were, refundable tax credit is what it’s called, we just don't have enough taxpayers that are invested in the program, so what is likely to happen is we're going to both broaden the tax base so that more people are paying taxes and then they're likewise going to raise those tax rates. For example, if you go back to 1960 to 1963, what you'll find is that the lowest tax bracket in our country was around 23%, this is also what you'll find is that historically, any time the highest marginal tax bracket goes up, that is a bellwether for what all of the other tax rates are doing. If the 37% goes to 39.6%, you might see a jump in all the other tax rates, but if the 39.6% went to 50%, you're still going to see a commensurate jump in all of the other tax brackets. If what David Walker says comes true and tax rates have to double, I would likely see all of the tax brackets doubling, not just the top one because you gotta recognize that with the money that we've promised for all these programs, it's not enough to just tax the rich, you gotta tax everybody, everybody's got to be invested in the program, there's not enough money to go around if all you're going to do is tax the rich.

Listen, I readily concede that there are different viewpoints that are out there circulating on the internet when it relates to The Power of Zero paradigm. I also gotta tell you, I've been studying this stuff for over 20 years and you really gotta dig deep when you are analyzing this stuff, you really gotta understand the relevant data that has been studied and been put forth by all of the experts out there. I have been doing that for a long, long time and so whenever these types of reviews come out on Amazon, it's not an ego thing, but my goal is just to educate you because I want you to recognize that there are divergent opinions out there, but I think that these divergent opinions can sometimes be dangerous, especially when they're trying to convince you that tax rates may not necessarily be higher in the future, especially when they're trying to convince you that LIRPs are too prohibitively expensive, especially when they're trying to convince you that The Power of Zero paradigm doesn't make room for Roth IRAs, Roth conversions, or Roth 401(k)s, what have you. I want you to get it from the horse's mouth, I appreciate you guys tuning in.