Bogleheads® Live with Dan Otter: Episode 22

Transcript

Bogleheads Live Episode 22 with Dan Otter

Jon Luskin: Bogleheads Live is a weekly Twitter Space for the do-it-yourself investor community. Ask questions to financial experts live. You can ask your questions by joining us live on Twitter each week. Get the dates and times for the next Bogleheads Live by following the John C. Bogle Center For Financial Literacy on Twitter.

Thank you for joining us for the 22nd Bogleheads Live. My name is Jon Luskin and I'm your host. Our guest is Dan Otter. Let's start by talking about the Bogleheads, a community of investors who believe in keeping it simple by following a small number of tried-and-true investing principles. This episode is brought to you by The John C. Bogle Center for Financial Literacy, a 501c3 non-profit organization dedicated to helping people make better financial decisions. Visit our newly redesigned website at boglecenter.net to find valuable information and to make a tax-deductible donation.

The annual Boglehead conference is October 12th through 14th in the Chicago area. Speakers include previous guests of Bogleheads Live, include Christine Benz, a director of personal finance at Morningstar, Mike Piper of Oblivious Investor, yours truly, and much more. There are just a few seats remaining. You can register at 2022 conference.

Mark your calendar for future episodes of Bogleheads Live. Next week we'll have Mike Piper returning to discuss bequest allocation and bequest location. Next week we’ll have Derek Tharpe discussing how to take money out of your portfolio. A call for volunteers, we’re looking for podcast transcriptors. Shoot me a DM on Twitter. @Jon Luskin is my user handle.

Before we get started on today's show, a disclaimer. This is for informational and entertainment purposes only and should not be relied upon as a basis for tax or financial planning decision. Thanks for everyone who submitted questions. We may not have time to answer all of them. Let's get started on today's show. Our guest is Dan Otter, a teacher, author, and executive director at 403b-wise.org a non-profit organization that educates teachers about their retirement plan options and advocates for better 403-b and 457 investment choices. He’s the author of several personal finance books: Teach and Retire Rich, Financial Literacy for the Young and Young at Heart and The 403-b Wise Guide.

Dan Otter thanks for joining us today. Tell us, what do folks need to know about 403-b?

Dan Otter: First of all I'm going to say, Jon thanks for the opportunity. We are huge fans of you, Bogleheads, and we like to think that John Bogle’s DNA is in 403bwise. What do folks need to  know about 403-b’s, K-12 403-b’s? They are a great way to supplement a pension. Unfortunately most K-12 403-b plans are awful. There are loads and loads of high-cost vendors with sales agents pitching high cost products. And our mission is to educate educators about the 403-b and help them vest in and get access to the best low-cost investment a low-cost investments.

Jon Luskin: You had me at low-cost investments.

This question is from username Front donut 79-80 from Bogleheads Reddit who asks, “How do you convince your organization to offer more low-cost index funds in a 403-b?”

Dan Otter: We have two main strategies. First is simply ask the benefits officials. We have lots of resources in our advocacy section at 403bwise.org. We also in that section have an online calculator. Do a simple calculation comparing the costs. Take this data to your benefits officials and hopefully they will approve your request. Also appeal to their self-interest -- they are participants in the plan and it's in their interest to have the best possible options.

Now we mostly deal with school districts. What we also say is enlist your co-workers, build an army. Squeaky wheels often get attention. Get a bunch of your colleagues together, again use our advocacy resources. If you get rebuffed by the benefit officials, speak at a school board meeting. Send letters to school board members. Use data and facts, But also be very polite. Know that school districts in particular have lots of things on their plate, they know the 403-b as a supplemental retirement plan. Most educators have a pension, but you know what most firefighters and police officers have a great pension. They also have a great supplemental retirement plan that's called the 457-b. Teachers deserve an excellent 403-b in addition to an excellent pension.

Jon Luskin: I couldn’t agree more. Squeaky wheel gets the grease. That resource for advocating on your site I’ll link to that in the show notes. I know the Bogleheads wiki has a page that talks about that issue as well. If I’ve got a high fee plan what do I do? Here is a game plan for championing for lower-cost investing for your own work plan.

Here’s a case study. I’ve got a client who works at a school and she's got access to a 403-b. This gentleman will let me know hey I looked at the investment options and the cheapest option I could find was a 403-b with Horace Mann and the fees 0.25% for the fund so that’s not terrible but then 1% for the advisor.

[Jon Luskin edited the podcast with this note]: Here I listed some percents, 0.25% and 1%. Let’s give those numbers some context for those who aren't investment expense nerds. You'll notice that when I mentioned the fee on the fund is 0.25% the week's guest ,Dan Otter, expressed a “wooo” because believe it or not, while 0.25% doesn't sound like a lot, it actually is. You could compare that 0.25% to the fee charged by a low-cost index fund. For example Vanguard VTI, which is the ticker for Vanguard Total US Stock Market Fund, has an expense of 0.03%. That is to say if you're paying .25% you're paying more than eight times what you could be paying with a low-cost Vanguard index fund. But those are just the fund fees. I also mentioned 1% advisor fee. So if 0.25% is a lot to pay then a full 1% is a huge investment expense. Imagine you enter retirement with a one million-dollar portfolio. Over the next 22 years you’ll earn a 8% return. If you had an 1% additional fee on that portfolio the difference that you'll end up with in just 22 years is a million dollars itself. That’s saying while 1% sounds small it adds up to big money over time. Smart investors focus on keeping their costs low. And now back to the show.]

Before I even ask you how he can pay less because I certainly want the answer to that question, give us a little of 403-b 101’s in that. How come in a 401-k I'm only going to have one plan provider but for 403-b I can have a lot?

Dan Otter: I live in the California town of Redlands and if you work in the school district in two you have 42 financial companies. Can you imagine trying to make heads or tails out of 42 financial companies, each one offering dozens and dozens of investments?

The big reason K-12 403-b is so bad is that the K-12 403-b is not subject to ERISA – that's the Employee Retirement Income Security Act of the early seventies.  This requires the employer to exhibit some fiduciary duty. This is why if you work at Apple Corporation in Cupertino California you have one low-cost vendor, Fidelity.

Most school districts around the country are multi-vendor. K-12 school districts are taking a very hands-off approach. They often have dozens of vendors and most of them are high cost. Now you do see the rare school district – the city of Chicago just went to single-vendor, they have one low-cost option. The school district where I used to teach in Maryland Montgomery County Public Schools, they have a vendor that is the same as Apple Corporation. They have Fidelity and the plan is just as good.

So just because you don't have to exhibit fiduciary oversight doesn't mean that the school district shouldn’t exhibit fiduciary oversight. Now to your question. So if this is a school district chances are there are more vendors than just Horace Mann. So what I would say is take a look at that vendor list, go to 403bwise  Facebook group-- it's a place where teachers from all over the country are asking questions and getting answers--go ahead and post that vendor list on our Facebook group and you will get feedback from our community.

Another big initiative of ours is we are seeking to list the vendors of every school district in the country. This is an enormous task. There are more than 14,500 school districts. To date we have 3,300 403-b vendor lists for school districts.

Not only do we list the vendors, and you can search to see if we have your school district, we also rate the vendors. On our homepage we’ve got this picture of a teacher; just above that is a yellow box. Click that and you can search to see if we have your school district. And you will see our vendor – the vendors that are available if we have your list. If we don't, you can upload your vendor list. Then what you can also do is click the district plan rating project icon and you will see that we rate vendors. We use a traffic light system. Green is good. Proceed, use these companies, they’re excellent. This includes Fidelity, Vanguard, Aspire. If you’re in California, CALSTERS pension too.

We have some more vendors in our green list. We also have a yellow list of vendors that means use caution and unfortunately our biggest list is our red list, Jon. Lots of vendors on the red list. One last thing I'll say is sometimes these high cost vendors actually offer what we call a secret low-cost vendor. So on our home page on the right hand side under quick start guide, we have a link to a story called “when bad vendors offer good choices.” So go ahead and click there and see if one of these bad actors actually have a low-cost product, that Jon, they frankly do not market and do not mention.

Jon Luskin: Look at that vendor list, find if there's a low-cost vendor, if not you guys are going to help them figure that out. Thank you for all your doing - phenomenal work. I appreciate it’s a lot of work getting all these vendors.

This one is from username vts3f from Bogleheads forum who writes, “given equal investment choices is there any reason to not prioritize a governmental 457-b over a 403-b if I'm unable to max out both and neither offers an employer match. Example: both plan types offered Aspire self-directed as the best option.

Dan Otter: I love this question because we believe even though we are 403bwise.org we are huge fans of the 457-b. It is objectively superior to the K12 403-b for several reasons. There is more fiduciary oversight. Most states have some type of 457-b fiduciary language, so surprise, surprise, it’s required what do school districts do, what do police departments do, other firefighting departments, other entities offering the 457-b, Jon? They offer good retirement options and it's the same for teachers. So we would say yes look at this. Not only is there more fiduciary oversight, you can access funds at any age if you separate from service. So let's say you're 25 years old, you were a teacher, you decide to leave the profession, let's say you decide to do something else, you can go ahead and access those funds penalty-free. Now you still owe taxes on it but also, Jon, you’ve talked about FIRE – financially independent retire early – let's say you're one of these and you plan to retire at 50, well a 457-b is just fantastic because you can access that money at age 50. Now if you had saved in a K-12 403-b would not be able to get that money until you are 55 penalty-free.

[Jon Luskin edited the podcast with this note]: Most retirement plans such as 403-b or 401-k have early distribution penalties. That means paying an additional 10% in taxes if taking money out early. That's not the case with a governmental 457-b plan. You can make distributions penalty-free at any time when separating from service.

Dan Otter: Finally the 457-b has this phenomenal provision it’s called the three year rule. Three years prior to retirement you can double your contributions. So this year you can put $20,500 into a 403-b or 475-b. But if you take advantage of the three year rule Jon you can put $41,000 into your 457-b. Can you imagine doing that three times for three years in a row before retirement? It can really supercharge your retirement nest egg. We have lots of information on the 457-b on 403bwise. We’ve done podcasts on it, we have profiled state plans. Some of the best 457-b plans out there are state-based plans and two of our favorites are the  New York State Deferred Compensation Plan. They have 23 billion dollars of assets under management. Why? It’s not just teachers, firefighters, police officers, government officials. They offer an S&P 500 fund that charges 0.0082, I think is what it is.

The other great state-based plan – and they’re not alone but I want to highlight these two – is the Ohio Deferred Compensation Plan so if we have anyone listening today who's in Ohio I would seek out that plan first. Not only do they have low-cost Vanguard funds they also have online enrollment so it is simple to begin investing in the Ohio Deferred Compensation Plan.

Jon Luskin: Absolutely that 457-b is going to  be a phenomenal tool for those tackling early retirement and as I mentioned episode 11 of the Bogleheads Live series you can check out that podcast to check out some early retirement planning when it comes to taxes.

This one is also from the Bogleheads forum: what are some strategies you recommend for using a 457-b and 403-b to most effectively minimize taxes in a FIRE situation, say retiring at 50 or 55 and thank you for efforts to educate on 403-b’s in an educational setting. Your book, podcast and Facebook page have had a huge impact on my financial planning and will save me a lot of money in the long term.

Dan Otter: I just love this question. I really appreciate the kind words thank you so much for those. This can get complex and I think this is a time to seriously consider hiring a fiduciary advisor on an hourly basis to help come up with a tax plan. This could be money very well spent especially if it saves you $5000, $10,000 on your taxes.

On our home page, bottom of the 403bwise.org homepage, we have a section called “Wise Advice” and it talks about using the right kind of advisor, fiduciary advisor. We have a list of questions that you should use when you interview an advisor and we also have links to three organizations where you can find a fiduciary advisor.

But what I would say personally is we often talk about investing diversification--the importance of having not only an S&P 500 domestic mutual fund, but also an international fund. We think that participants should also think about tax diversification. For my wife and I, we save both on a pre-tax basis. I have a 403-b, of course, and she has a 401-k, and we both have Roth IRAs, so in retirement we'll be able to draw from a different tax bucket.

Jon Luskin: Steven Fox, our guest for episode 17, mentions that same thing - tax diversification. Especially if you’re going to be doing early retirement. It can be valuable to have money in a traditional tax-deferred bucket, money in a Roth bucket that’s tax-free, and money in a plain vanilla taxable account. And then having money in that 457 you can access that money penalty-free as well. That’s another consideration for your tax planning for those FIRE folks. 

Dan, why do 403-b’s get such a bad rap.

Dan Otter: They deserve it. I mentioned the difference with fiduciary but again I just want to emphasize it does not have to be this way especially if you are an educator listening, gently prod your school district to do better.

Jon Luskin: To give a little bit of a geeky and investing nerd answer to that, why do 403-b’s get such a bad rap, well they have high fees. And when it comes to investing any good Boglehead knows we want to keep those fees as low as possible, that's going to give you the best odds of investing success. So if we’ve got high fees that bad rap is warranted but to Dan’s point there can be a lot of really good low cost 403-b’s out there, you just gotta do the work to find them, and even then if they’re not available well go ahead and champion to have those low-cost investment options added.

Dan, what is happening in the space that teachers need to be aware of?

Dan Otter: Equitable Financial is one of the most available financial companies on K-12 403-b vendor lists. It's the rare vendor list that doesn't have Equitable. The SEC just announced a couple weeks ago a 50 million-dollar fine on Equitable for nefarious behavior – they were hiding costs. My advice to a school district is why would you continue to allow this financial company to sell product to your employees? This company was just 50 million dollars for deceptive sales practices. If another vendor, let's say the folks that paint your school or provide fuel for the buses, or the food service for your school district, if they engage in deceptive sales practices would probably dump them. That would be something that I would encourage school districts to do. Again, if you're new to these issues, join the 403 bwise Facebook, help us fix the broken K-12 403-b. We  need more people to speak out at the grassroots level, more people to help educate teachers about the K-12 403-b. And if anybody listening to this is affiliated with a teacher education program, we will do a free “get wise to the 403-b and 457-b” presentation to the soon-to-be teachers. I would love it if future teachers got this information before they step on a campus because they are so vulnerable to these sales practices. These sales agents will provide so-called free lunches in the staff lounge. They will bombard email inboxes and they’ll use very deceptive language like you are eligible to meet with a financial professional. Jon, you know how low the bar is for using terms like financial planner, financial professional – folks, these individuals are not like Jon, they are not fiduciary advisors, they are under no obligation to put your interests above theirs.

Jon Luskin: With respect to the Equitable sales people saying hey there’s no fee on this product, there’s no fee to invest in this, I'm sure you've heard the expression “if it’s too good to be true it probably is”.

Dan Otter: It’s not just Equitable. I do a weekly blog post and I just wrote a column called “fine” in quote-unquote 403b companies, and I say look it's not just Equitable. I’m gonna read you six headlines. SEC announces 97 million-dollar enforcement action against TIAA subsidiary. Insurance giant MetLife to pay a 20 million dollars fine. Primerica setting aside a 9.3 million dollars settlement. Delaware attorney general Jennings secures some relief for over 120 teachers in connection with Horace Mann retirement accounts. Palm Beach Gardens brokerage firm GWM Securities Incorporated fined for overcharging customers. SEC charges VALIC Financial Advisors with failing to disclose payments to promote service to Florida educators. This is a nationwide problem.

Jon Luskin: And I’m curious Dan what's the postscript to all those fines? Do the high fee providers revamp their offerings? Do they offer you an offramp?

Dan Otter: No, and I had a laugh and I hope I get this language right, Equitable said they're going to enhance how they share information. We just did our most recent podcast on this settlement and again my partner Scott Dauenhauer shared that these companies are actually not even required to make their fees super transparent. Equitable got caught because on some of the statements under “Fees” it said zero. If they just didn’t even have the mention of “Fees,” they would have been fine. Now of course they have a prospectus but who do you know that goes and looks at a 50-page prospectus.

So this whole thing really is about transparency and again go to our website and look at our great vendors, if you don't see one of those, look out. But also ask to have them added. What you also get is a so-called sales agent saying “yeah I’ve got Vanguard'' and they do have Vanguard. And you know that Vanguard charges like 0.1% but what these companies do is – just like that Horace Mann situation – they’ll layer on one, two percent in fees on top of that. They’ll sort of satisfy you by saying “oh yeah you’ve got Vanguard” but you don't have Vanguard direct. It’s like buying from a car dealership compared to buying direct from Tesla. You’re going to get all these fees layered on.

Jon Luskin: That’s a really great point, some great guidance there--don't say “Hey I want Vanguard, hey I want index funds”-- the better question to ask is what are my all-in fees, what am I paying in total to invest?

Dan Otter:  The other thing that's so troubling to us-- this is like on a daily basis--we get a new member of the 403bwise Facebook group, and they’ll say something like “I am so glad I found this Facebook group. I didn't know that I was paying these fees. How do I get out of this company?” And so our number 1 story is how to get out of AXA Equitable, the very company that was just fined 50 million dollars. And what you can do is access that from our quick start guide at our home page: “Get out of a bad 403-b” and within that is a link to how to get out of AXA.

But it's not just the high fees, Jon, they charge surrender fees for leaving. Imagine this, you’re a teacher and you’re in your staff lounge, you're so busy with all the demands of being a teacher. I taught public school for 10 years. I know how hard this job is. You walk in there’s free lunch, there’s someone who says he or she is a financial professional. You have to believe that the school district is sanctioning them. Why would that person be in there?

And this person will say something, “Do you care about your financial future?” Of course you do. And then they start talking about investing and most people who graduate from college with no idea how to invest so you fall for this so-called advisor. And we often call it the one day stand because you never see this person again. They're all about signing you up but let's say you find out about the fine, or somehow you find out about the 403bwise, you come to our Facebook group, you ask how to get out. What you find out - not only have you been paying two or three percent in fees, there’s a surrender fee charge to get out, which can be 5% of your balance. Even worse, these companies often charge it on a rolling basis. We’re in August now, you contributed $200 to your Equitable 403-b. That $200 is locked in for five to six years, it’ll have a penalty associated with it if you want to take it out. Let’s say you find out you’ve got a bad vendor, and lucky enough to have a good vendor, stop contributing to the bad vendor.

Your school district will have something called a salary reduction agreement. It simply says how much of each paycheck you want to go to your chosen company, and you also mention which company that is. Stop the payment to the high cost company. Look at your vendor list, let's say you got a really good company. You'll have to contact them, open the account, go back to your school district and fill out the salary reduction agreement. And I would tell teachers because this is overwhelming you might want to wait till next summer or to your Christmas holiday break because it is that in-depth to get out and untangle yourself from these companies. But the good news is on a weekly basis we are getting people posting in our Facebook group saying “Thank you to this group I successfully extricated myself from Equitable.” It's hard but it's possible. We’ve people in our Facebook group much like Bogleheads ready to help teachers.

[Bogleheads Live audience member Nina]: Hi, Mr. Otter thank you so much for doing this. I am going to a fundraiser for a school board candidate and I paid attention to what you said earlier about approaching a school board. Can you specifically talk about what to say to someone who’s running for school board who doesn’t know about these issues? I’m in Virginia and I see that the city that she’s in and it's a C grade according to the website.

Dan Otter: If it’s a C it means you have at least one good low-cost vendor so what I'm doing to show people listening is I went to her home page I clicked on that yellow box I'm scrolling down to Virginia and then now I got a list of all the school districts in Virginia. What’s the name of the school district?

[Bogleheads Live audience member Nina]: It’s Chesapeake.

Dan Otter: Chesapeake City public schools. They offer both a 403b and a 457b there is one low cost option, it’s Aspire Financial Services. The best way to think about them they're almost like a supermarket - they don’t offer their own product but they make available hundreds of products from financial companies including Vanguard and Fidelity. And if you are an advisor like Jon, Jon you can use Aspire as an advisor but you also as a participant can invest directly. You can get Vanguard through Aspire for an add-on add of 0.15 and again as I mentioned Vanguard has funds at .04. If you add on 0.15 that’s 0.2. Compare that to Equitable over 2% so that can be a really good deal. I would say we can attract and retain the best employees possible, and we offer something like the 401k and it’s called a 403b. Unfortunately we have almost a dozen vendors and 10 to 11 of them 12 are very high-cost. Tell them the school board member “let's have a best-in-class 403b so that we can attract the best.”

And also I would just point out Montgomery County public schools in Maryland they have an A-rated plan. Why does Montgomery County have an A-rated plan and we have a C-rated plan? Before offering an a-rated education to our students, let’s have an A-rated plan for our teachers. What I would also do, I would get the data from the benefits officials. I’d like to see where the money's going. I would bet you not a lot of money is going to Aspire and that's because participants just don't know who the low-cost vendors are. What happens is they go with the person that emails them or is in their staff lounge. I would bet you anything most of the money is going to the high cost companies. We would put on a presentation for the school board, Nina, we would go through all of this, we would be willing to help you.

We paid a podcast production company to produce a five-part series on the problem with the K-12 403-b, not told by my voice but the voice of teachers. It's called “Learn by Being Burned: Teachers and the K-12 403-b.” More than 1,000 teachers describe how they were first burned by these sales agents and then learned how to get access to good quality 403b plans. The fifth episode we interviewed John Kevin. John is the one who is at Montgomery County Public Schools who began their transition from 12 vendors to five vendors to one. He literally lays out the playbook for how school districts can do this. This is not an insurmountable task. If you go to 403bwise.org/burned you can access the transcript from that podcast and you can decide in your conversation with the school board member. We think it's probably one of our best tools to quickly get people up to speed in a very entertaining way. “Learn by Being Burned” is available on Apple Podcast and all major podcast outlets including Spotify and Amazon.

Jon Luskin: That is beautiful, God's work Dan, that's what you guys are doing over there.

Dan Otter: I want to do a shout out to our single funder Tim Ramzetta. Tim is this amazing individual. Tim reached out to us and explained how we co-created a non-profit whose goal by 2030 every kid graduating from an American high school will have taken a stand-alone personal finance class. His organization ngpf.org is amazing. They have three interesting student-friendly teacher-friendly curriculum. His group has helped get 15 states to adopt personal finance. His goal again by 2030 all 50 will do that. Thanks to Tim's generous support, I run this [ngpf] full time. We make no money, we don't sell any products. We believe that we are objective – as much as I like Fidelity I also like Vanguard. As much as I like Vanguard I also like CALSTERS pension too. Our only real client is the participant.

Jon Luskin: Dan, any final thoughts before I let you go?

Dan Otter: I know the teachers have a pension and a lot of people think “oh that’s all you need.” Pensions are getting less and less generous every year. What they're doing is new teachers are often being put into non-pension plans, 401-k like plans, or less and less pension plans. This makes the 403-b and the 457-b even more important.

Again, if you’re in education, if you have the ear of an educator or a school board, help us advocate. We need more people helping us at the grassroots level, the more teachers and school employees that we can help.

Jon Luskin: Well folks that is going to be it for all the time that we have today. Next week our guests will be Mike Piper discussing bequests allocation and bequest location. We'll have Derek Tharp the week after discussing how to take money out of your portfolio in retirement. You can check out all the resources for do-it-yourself investors on the Bogleheads forum, Bogleheads Wiki, Bogleheads Reddit, Bogleheads Facebook, BogleheadsTwitter, Bogleheads YouTube. Bogleheads local chapters--with San Diego being one of the most awesome chapters– Bogleheads virtual online chapters, the Bogleheads on Investing Podcast.

For our very own podcast listeners if you could take a moment to subscribe and to rate the podcast on Apple, Spotify Google or wherever you get your podcast. Finally we'd love your feedback if you have a comment or suggestion. Tag your host @JonLuskin on Twitter. Thank you everyone. I look forward to seeing you again next week where Mike Piper will return to discuss strategies. Until then, have a great week.