South Bay Bogleheads Notes May 10, 2018


More than 30 people attended our May 10, 2018 meeting. Thank
you for coming out! We know you have choices about how to spend
your time, so we’re gratified and encouraged by your generosity.
The small print:  These notes are provided for informational
and educational purposes only and are not intended to be
investment advice. They may be incomplete and their accuracy is not guaranteed. Consult with trusted
advisors and read prospectuses before making any investment decisions.

Four topical areas were covered, based on questions you submitted. Here are the Cliff’s Notes:

There were several questions regarding the use of dividend-paying stocks in a portfolio. What’s the difference between qualified and non-qualified dividends? Should a person emphasize dividends, and if so, how?

Qualified dividends come from stocks and stock mutual funds. If you’ve held the investment for at least 60 days, the dividends are taxed at the long-term capital gains rate on the Federal level, which is lower than the regular income rate (unless you’ve got a super low income).

Know that California tax law does not differentiate between the taxation of qualified and non-qualified dividends. In California, all dividends are taxed as regular income.

Non-qualified dividends come from investments that are not stocks or stock mutual funds. Those dividends are taxed at the regular income rate at both the Federal and California level.

Regarding the use of dividend-oriented funds (or ETFs), there is no compelling reason to own anything other than a Total Stock Market Index Fund, which have current yields of about 1.7%. This has actually been the case for the past 20 years. Will it continue to be the case? That can’t be known.

What we do know is that it’s highly unlikely a person can successfully time their entries and exits from a market position. So, make your choice and stick with it.

Another set of questions was about making portfolio changes based on interest rate changes, holding cash in lieu of bonds, and do the suggestions change if a person is 10 years to retirement and is in a high tax bracket?

This is the homely sister of market timing. Arun emphasized the
importance of having an asset allocation policy and having the
discipline to stick with it. This is what the Vanguard Principles for
Investing Success
would support.
A short explanation and discussion of bond duration occurred. Duration is a measure of a bond or bond fund’s sensitivity to interest rate changes. Short maturity issues have shorter durations, long maturities have longer ones. Short duration investments are less sensitive to interest rate changes; long durations are more sensitive. Durations can be as short as a year to about 15 years. Investors are advised to roughly match the duration with the expected date for using investment.

Next, we moved on to the Mega Back Door Roth IRA.

First, the stage was set where distinctions were made among the Basic Roth, Back Door Roth, and Mega Back Door.
Regarding the Mega Back Door, a company’s plan must allow after-tax contributions to its 401(k). You can find these details in the Plan Document. A total of $55,000 annually (and Yuliy even suggested $110,000) might be socked away. The difference between an employee’s pre-tax contributions + the employer’s match minus 55,000 would be what’s available to use as an after-tax contribution.


Ultimately, it is possible to convert the additional after-tax contributions and its earnings to a Roth IRA. Income tax will be due on the earnings in the year of the conver sion, so plan accordingly, perhaps with the assistance of a skilled tax advisor. Further, be sure to accurately document all your transactions! There are employee pre-tax contributions, employer matching contributions, employee after-tax contributions, and accumulated investment earnings in all those categories. Don’t rely on the record keepers to do that.
On the matter of exercising an aggressive tax posture, learn the difference between tax avoidance, which is perfectly legal, and = tax evasion, which isn’t.

Finally, Barbara launched a conversation on the “eggs-in-one-basket” dilemma.

This boils down to who actually holds your capital. If you own a mutual fund or ETF, the money is yours and the condition of a brokerage is irrelevant. However, capital risk is possible regarding insurance products, annuities, discretionary arrangements with “boutique” firms, and private placements.

When AIG–a huge firm–crushed itself in 2008, investor capital was at risk. Hence, the government sponsored bailout with public funds. Moral hazard writ large, but that’s another story.
Another area of risk is in money market funds. However, in the wake of 2008, new rules have made money market funds with 100% of their investments in US Treasury bills essentially bullet-proof. Fear for your money? Use a Federal money market fund.

Thank you for your interest, participation, and support!