The TSP Loan program lets you borrow money from your own TSP account while you are either in the armed forces or employed by the federal government.
HOW IT WORKS
When you borrow the money, it comes out of your actual TSP
account. It can be any amount between
$1,000 and $50,000, not to exceed your contributions and earnings from those
contributions. It does not include any
agency contributions (blended retirement system or BRS) or earnings from agency
contributions.
As you are repaying this loan, it is repaid with interest
through payroll deductions back into your own TSP account. This means that this large amount of money
will not be growing tax advantaged in your TSP account during the time period
you have borrowed it. You lose the
opportunity for that growth. More on
this later.
Keep in mind, even though you are paying interest, it’s a
low, low rate and you pay it back to yourself, so it’s not really a cost to
you. The interest, however, is not
tax-deductible.
LOAN ELIGIBILITY
To be eligible for a TSP loan, the following must apply:
Employed by uniformed services or federal government
In pay status
Only have one outstanding general purpose loan and one outstanding residential loan from any one TSP account at a time
Have at least $1,000 in your TSP account not counting agency contributions and earnings
Have not repaid a TSP loan of the same type within the past 60 days
Not had a taxable distribution of a loan within the past 12 months unless it was the result of your separation from Federal service
The 1031 exchange (26 U.S. Code 1031), otherwise known as a like-kind exchange, or Starker exchange, is one of the most important tools for a real estate investor. I’ve seen too many military members not aware of this rule.
I’ve actually talked with military members who have sold their investment properties and had no idea they could defer the capital gains through this exchange. I don’t want this to happen to anyone.
Let’s get clear on it!
CAPITAL GAINS
When you sell real estate, Uncle Sam wants it’s cut of your
profits.
There are only two ways to avoid paying the profits, or
capital gains, on a real estate sale.
The other exception is for real estate investors, which we are focusing on with the 1031 exchange.
1031 EXCHANGE
The 1031 exchange got its name from the section of the IRS
tax code it comes from. This is the
section that allows for a like-kind exchange that defers the tax liability of
the sale into the next asset.
Keep in mind, the 1031 exchange, or “like-kind” exchange used to apply to items other than real estate. As of December 2017, a tax reform law that passed limits exchanges to only real estate.
You may also hear the exchange called a Starker Exchange named
after T.J. Starker, who successfully sued the U.S. government in 1979.
Before that, the exchange of real estate actually had to be simultaneous. Now, you can typically have 180 days between the sale of the property and the purchase of the replacement property.
Thanks Mr. Starker!
8 CRUCIAL RULES
1) LIKE-KIND
First, we need to understand what type of real estate can be
substituted for what.
You may not have to pay tax on all or part of the gain from
the sale of your main home. This is
where you live most of the time. A main home
can be a:
House
Houseboat (cool!)
Mobile home
Cooperative apartment
Condominium
Actually, everybody can get this break on capital gains on the sale of a home under certain circumstances, but military members get an additional benefit that makes it much easier to meet the requirements.
WHAT IS THE CAPITAL GAINS TAX?
Cars, stocks, and bonds are capital assets. A home is also considered a capital asset because it is a significant piece of property. When you sell it for more than you paid, it’s called a capital gain.
When you sell a stock for more than you paid, you’ll need to report that to the IRS and pay taxes on the capital gain. Primary homes get excluded from this as long as it fits certain criteria called the ownership and use test.
OWNERSHIP AND USE TEST
To be eligible for excluding capital gains on your primary residence, you must be the ownership and use test, as outlined in Publication 3 – Armed Forces Tax Guide. You will be eligible for the exclusion if, during the 5-year period ending on the date of sale, you:
Owned the home for at least 2 years (the
ownership test)
Lived in the home as your main home for at least
2 years (the use test)
If you don’t fully meet these two tests, you still may be eligible for a partial exclusion. See IRS Pub. 523 for more details, and consult a smart tax advisor.
This is commonly explained as you have lived in your primary
residence 2 of the last 5 years.
HOW MUCH CAN YOU EXCLUDE?
It seems like it should be unlimited, right?
Dream on. The USGOV
would never allow that!
You can exclude up to $250,000 of capital gains if filing single / $500,000 if filing jointly.
This exclusion is allowed each time you sell your main home,
but generally not more than once every two years.
WHERE MEMBERS OF ARMED FORCES GET AN ADDITIONAL BENEFIT
Charles Schwab index funds fees are certainly among the lowest.
There is a fierce battle waging between the big firms for
the lowest index fund management fees.
We can thank Vanguard for low fees overall. I think they started kicking too much ass and taking too much market share, so Fidelity and Charles Schwab index funds took notice and started slashing their fees.
This has been nothing but good for investors. I’ll have to keep this and other similar posts constantly updated, as prices are slashed among the big three often. I’ll summarize the recent changes later.
INTRODUCTION OF INVESTING AT SCHWAB
When you buy Charles Schwab index funds, here’s some of what
you get:
Mutual Fund OneSource service funds and other No
Transaction Fee funds are $0 for online trades
All other mutual funds cost up to $76 to buy and
$0 to sell
Online stock trades are $4.95 per trade
Online Schwab ETF OneSource trade are free
Other ETFs can be purchased for $4.95 per trade
If you are going to buy Schwab index funds outside of the Schwab mutual fund family, definitely invest somewhere else. Their fee for other mutual funds really makes it cost prohibitive (that means way too damn expensive!)
WHAT’S AWESOME ABOUT CHARLES SCHWAB INDEX FUNDS?
$167 billion under management in mutual funds
and ETFs
3rd largest provider of index funds
(behind Vanguard and Fidelity)
No minimums to invest (This is an issue at
Vanguard)
CHARLES SCHWAB INDEX FUNDS
I’m going to talk about the features and fees of the three most popular and competitive mutual fund categories. Here we go!
S&P 500 INDEX FUND
Aaa yes, the benchmark of all index funds in my
opinion. It has a dear place in my heart
as my main investment during most of my military career.
Just that.
Nothing else.
It is Warren Buffett index fund recommendation of choice.
Maybe you’ve made some of these mistakes military members make.
I made a few of these mistakes myself, but I’m still here today doing relatively well.
Let’s see how you measure up.
1. GOING INTO DEBT
I want to use a few other phrases to signify what kind of mistakes get military members or families in trouble.
It’s living large when you haven’t made that money yet.
Spending money you haven’t earned. Otherwise known as… Keeping up with the Jones’s.
The funny thing is, the Jones’s are going into debt to keep
up with you too!
Here are some things that will really put you into debt:
Buying or renting much
more house than you need…
I see it time and time again in the military. A married couple with one newborn buying a 4000 sq ft property. Not sure what they will do with 6 bedrooms and 4 baths!
You want to be well off? Get the smallest property that will fit your needs. (Awww, that’s no fun!)
Having a new house custom built…
But it’s so nice to have a big house built to your specifications. You deserve it!
Big houses need lots of things to fill them up. They just don’t look right without expensive
furniture and nice cars. They are also
expensive to heat and cool. Good luck!
New or expensive cars…
Whatever you do, don’t buy a new car. On top of that, don’t ever fall for that crap where you think you are getting some special benefit through military car sales. You are still overpaying and getting KILLED on depreciation the day you put the first mile on it.
I like buying used cars with one previous owner and low mileage. Ideally, you pay cash for it.
Vacationing while overseas…
You are stationed in Germany, and there are LOTS of 4 days
weekends, so you are hitting a different country on each one. You are in Japan, and it’s the perfect
gateway to Southeast Asia. Everybody will
be filling their Facebook and Instagram feeds with travel while stationed overseas.
Don’t overdo it. Take
advantage of existing geography and vacation in areas around you that you. Try to drive there instead of flying, and try
to Airbnb instead of hotels.
The VA Loan is a mortgage that helps veterans finance the purchase of homes with good loan terms and interest rates that are typically better than what you would see on other types of mortgages.
VA home loans aren’t made by the VA itself, but by private
lenders such as banks, savings and loans associations, and mortgage
companies. VA guarantees the loan if and
when the applicant is approved.
People often say the VA guarantees loans, but that’s not accurate. Actually, the VA guarantees a portion of the loan. This still gives lenders a lot more comfort in lending, because if you stop paying, there is a higher chance they won’t lose any money on the deal.
For loans over $144,000, the maximum guarantee amount is 25%
of the 2019 VA county loan limit. For
most counties in the U.S., this amount is $484,350. For high cost of living areas such as
Honolulu or even certain parts of Denver, the amount is $726,525.
What’s the Most I Can Borrow?
There actually is no limit.
The issue is, are you trying to avoid a down payment?
In most cases, if you don’t exceed the county loan limit,
then you can get that loan with no money down (Yay!).
Once you surpass the county loan limit, the lender will want a down payment from you because the VA will not provide a guarantee for that portion of the money.
I want to be clear about this, because it’s confusing.
If you wanted to borrow $800,000 for a house in Honolulu,
you might be required to put up a down payment on a VA loan, but it won’t be as
big as you think.
You wouldn’t be responsible for the down payment on the entire amount, just for a down payment on the amount exceeding the county loan limit.
$800,000 want
to borrow
$726,525 county
loan limit
$73,475 amount exceeded county loan limit
The lender may ask you to make a 20% down payment on
$73,475, which works out to be about to be $14,695.
That’s way cheaper than paying 20% on $800,000 which is
$160,000. Ouch!
So buying a really expensive house (even a 4-plex) in
Honolulu or a similar HCOL area with a VA loan may not be possible with no
money down, but you might be able to do it with a small down payment.
You CAN, but that doesn’t necessarily mean you SHOULD. There are many factors to consider. Often, expensive rental properties in HCOL areas do not make great rentals, and I recommend against them for military members.
I have a deep love for real estate that I can’t fully put into words.
I’ve done several podcasts and interviews and been asked on many occasions why I got into real estate.
It took me a while to figure out the real answer.
It’s a deep respect for what real estate meant in my Grandmother’s life.
She’s the first househacker I ever met, although when I heard about her real estate story as a child, I didn’t know that was called househacking.
I just knew it was smart.
As you’ll see, however, her story is so much more than just househacking.
My Grandma grew up poor. Really poor.
She was raised in Los Angeles in a neighborhood known as Watts.
In case you haven’t heard of Watts, it has a reputation for being a low-income, high crime area.
It’s well-known for gang problems and the Watts riots of 1965. Since the 50’s, it’s been a rough neighborhood. It’s still rough today, although improving.
My grandma eventually moved to Glendale, California and married when she was very young.
She had three children with my blood grandfather and adopted a child as well. I’ve never met my Grandfather. Apparently, he wasn’t much of a family man. He wasn’t cut out for family life, and left when my mother was about 8.
So my Grandma was left to raise four children on her own without any help from the father.
Grandma was frugal. She had to be.
She worked at an insurance company in L.A. making about $500 a month. She owned a house that was worth $36,000 and eventually paid it off. (Smart move Grandma!)
Her car was paid off as well.
She ran into a dilemma at work where they wanted to move the insurance offices from Glendale to Costa Mesa, a more expensive area near the beach. (This is all in the vicinity of L.A.)
She got some great advice from her mother-in-law, ironically enough, that she should buy a four-plex close to the new office, live in it, and rent out the other three units.
I’m sharing several options for investing in the TSP.
The Thrift Savings Plan is a defined contribution plan for United States civil service employees and retirees as well as for members of the uniformed services.
It is essentially like a 401K for military and civil service employees.
I’m not here to tell you which TSP recommendation is best, that’s a fool’s errand.
The only way to do that is to go into the future, see how things turn out, and then tell you which TSP asset allocation would have been ideal.
I will, however, give you the tools to make an informed decision about the best TSP investment methods.
Most of these TSP investments strategies should work well if you regularly contribute to your thrift savings plan, ensure you are getting matching if it’s offered, and stick with the same strategy over the long term.
I would caution against jumping back and forth between investment strategies every time you find something bright and shiny. Many people erode their long term returns by “dancing in and out of the market.” (Warren Buffett)
First, it’s important to understand the five core funds inside the TSP and what they consist of. This is important in understanding how they are used in building TSP investment portfolios.
THE FIVE CORE FUNDS PLUS L
The G fund contains short term U.S. Treasury securities with no exposure to the risk of the bond or stock market
The F fund is an index of world-wide government, corporate, and mortgage-backed bonds
The C fund is equivalent to the S&P 500 index.
The S fund is an index of mid and small-cap stocks not included in the S&P 500.
The I fund mimics the MSCI EAFE Index of international stocks in 21 developed markets excluding the United States and Canada.
The L funds are professionally managed investment funds tailored to a specific time horizon.
Now we dive into each one a little more in depth before going into our TSP investment strategies:
The G fund – The Government Security Investment Fund
Pros: No volatility and backed by full faith and credit of the U.S. government
Cons: Can barely match the inflation rate; rate based on prevailing interest rate, which is currently low
This unique investment is only available to TSP investors. It’s rate is equal to 10-year treasuries, but their liquidity and protection from interest rate fluctuations is superior to 3-month T-bills.
The interest rate resets monthly and is based on the average of U.S. treasuries with a duration of 4 year or more.
I’ll tell you how I’ve invested most of my career.
S&P 500 index fund. That’s it.
But, shouldn’t I be able to do better than that?
This post will show you a data-proven way to boost your index fund returns.
PAUL MERRIMAN
Paul Merriman is a believer in index fund investing. Additionally, he is a nationally recognized authority on mutual funds, index investing, asset allocation, and ran his own investment advisory firm since 1983. Paul has been on Wall Street since the 1960’s.
He’s been preaching something called the ultimate buy-and-hold portfolio for the past 20 years. His ideas aren’t revolutionary. It’s very similar to Larry Swedroe’s research on small value stocks and their superior performance over long periods of time. Moreover, he believes in the work of Dr. Fauna and Dr. French in regards to diversification to increase returns without adding risk.
With the ultimate buy-and-hold portfolio, we are going to keep the S&P 500 index, but only 10% of the portfolio, and then give 10% each to 9 other asset classes.
Most people say nothing outperforms the S&P 500 index over the long term. Well, that’s not exactly true.
Over the long term, 8 of the 9 asset classes we’ll be diversifying with have outperformed the S&P 500. Consequently, the risk is also roughly the same.
So the main ingredient in this portfolio is still the S&P 500 index. According to Merriman’s research, it has compounded at 9.3% between the years of 1970 to 2016.
Personally, that feels a bit high, but we’ll stick with his numbers today. I’m more comfortable claiming a historic 7% rate.
THE ULTIMATE BUY-AND-HOLD PORTFOLIO
Portfolio 1
For the sake of explaining this portfolio, think of the S&P 500 index as Portfolio 1. To start, we will invest $100,000 into our portfolio today between the dates of 1970-2016 to illustrate the growth that would have occurred with each step of diversification over that period.
At 9.3%, $100,000 would have grown to $6.5 million. No way I can live off that! We’ve got to do better!!
I paid off our $280k mortgage in six years, $32k in student loans in 1 year. I flipped houses and purchased rental property with cash while living overseas in the military. I currently own 20 rental properties mortgage free. Read More…
