Part 2: The CC Family Investing Strategy

Investing Strategy: Where Exactly is Our Money?

This is Part 2 in a series. Check out Part 1 for our investing strategy and asset allocation.

Now you have a sense of our investing strategy in terms of asset allocation, but that’s not helping you get started. Let’s take a look at some common investment “buckets” and how we are dividing out our investments.

It’s easy to get lost in the details, so let’s break it down to the basics right up front. No more paralysis by analysis. Below are our top five pillars of a sound investing strategy.

• Max out any tax-advantaged accounts you can. These include 401(k), HSA, IRA, 403(b), etc. You’ll pay less taxes by maxing out these accounts first. Exciting!

• If you have surplus funds, open a taxable brokerage account. Do this only after you’ve maxed out the tax-advantaged accounts, or if you are saving for something on a longer horizon, but before retirement. We recommend opening all accounts with Vanguard, wherever you have the option.

• Fund these accounts with low-fee whole stock market index funds. Allocations should be heavy on stocks and light on bonds. Keep things very simple, with no more than 2 or 3 funds.

• Regularly contribute to these accounts.  We have an automatic contribution that is made to our taxable account at the beginning of each month. All other contributions are automatic through our employer and are deducted from our paychecks. 

• Don’t pay attention to the market. I’m going to keep saying this. The reason the stock market gets a bad rap is because of speculation and emotion. Success requires 100% trust and discipline to the plan. 

Want to Hear this in Podcast Format?

Tax-Advantaged Bucket #1: 401(k)

Many private sector employers now offer retirement plans with investment options. If you are averse to investing but have been participating in a 401(k) (or equivalent), you already have an investing strategy and didn’t even know it! These plans are set up with your employer to deposit a percentage of your pre-tax income each paycheck to funds of your choosing.

Divert every dollar you can possibly afford to these accounts. You should, at a minimum, allocate enough money to cover any company match, because that is FREE MONEY FOR GOD’S SAKE!. The CC’s both get a 100% match up to the first 6% of our income, for example.

We’re serious, get the company match. Don’t leave free money on the table.

Taxes on a 401(k)

Any income contributed to a 401(k) lowers your tax liability in the year of contribution, so that’s cool.

As of tax year 2022, the maximum allowable contribution is $20,500 per person.

You should make every effort to max out these accounts with pre-tax dollars. Not only are you saving money for your future, but you are lowering your taxes for the current year!

You pay taxes when funds are withdrawn, UNLESS funds are converted to a Roth account via the Bold and Beautiful Roth Conversion Ladder.

Penalties (in addition to taxes) must be paid if funds are withdrawn before age 59 1/2, so don’t do what young Mr. CC did and cash out your small 401(k) for a stupid road trip!

Anyway, isn’t it weird to hear an adult age with a 1/2? It would be a funny cake, so invite me to your 59 1/2 birthday.

Investing Strategy: 401(k) Fund Selection

Many 401(k) portfolios offer a variety of “Retirement Target” mutual funds. These mutual funds are designed with sliding stock-to-bond allocation models dependent on your age and traditional retirement horizon.

For example, an individual with a retirement target in 30 or more years will have a fund designed with a higher stock:bond ratio. More stocks will likely provide more growth potential, but higher overall risk and volatility. Over the years, the fund will gradually shift to a higher bond allocation. A higher bond allocation may soften the volatility of equities, but lower the overall gains.

Look for Low-Fee Index Funds

Retirement Target funds are decent, but the fees are usually somewhat high. If at all possible, look for a whole stock market or S&P 500 index fund. Put the majority (or all) of your money towards that fund, dependent on your risk profile. Your company is unlikely to offer sexy Vanguard funds like VTSAX, so keep an eye out for broad-based index funds and low expense ratios.

(Related Post: Expense Ratio & Fees: They”ll Hose You Big Time)

Public sector employees are privy to various similar accounts, such as the 403b. I am an evil corporate minion, so I know very little about these accounts. If you are in the public sector, I’d take a look into the specific rules and regulations on those accounts. The Millionaire Educator has these accounts figured out, so definitely take a look at his blog.

Tax-Advantaged Bucket #2: Health Savings Account (HSA)

I want to quickly highlight this cool little investing strategy. Yes, that’s right, an HSA is a healthcare fund and an investing strategy! At my current job I enrolled in a High Deductible Healthcare Plan (HDHP). The HDHP includes an HSA account and a $500 yearly incentive from my employer. I’m a sucker for free money, so I couldn’t refuse.

An HSA account basically allows for pre-tax money to be diverted to cover medical expenses. Similar to the 401(k), funds are withdrawn from your paycheck by your employer.

The maximum yearly allowable contribution to an HSA in 2022 is $3,650 (individual) and $7,300 (family).

Investing Strategy: Triple Tax-Free Investments with an HSA!

The cool thing about these accounts is that they also offer tax-free investment options. Because I’m young, strong, and healthy  😉 , I don’t spend much (if any) on medical care in a normal year. I invest the bulk of my HSA contribution and pay cash now for any out-of-pocket medical expenses.

These tax-free dollars will exponentially grow for decades in the market. I can later reimburse myself (again tax-free!) for medical expenses incurred in past years. Money does not have to be allocated to qualified medical expenses in the year you withdraw. These contributions also lower your current tax liability. Keep this in mind: No taxes are paid when money is contributed, all growth is tax-free, and all withdrawals (for approved medical expenses) are again tax-free.

After age 65, contributions and gains can be spent on anything penalty-free. However, all expenses for non-qualified medical spending will be taxed as ordinary income. For that reason, we plan to use our HSA to help fund our healthcare spending in later years, spending tax- and penalty-free accumulated assets.

More than I can possibly explain about HSA accounts can be found from the all-knowing Mad Fientist.

A brief tangent on insurance (in general)…

Carrying a high deductible on almost any insurance policy is advised, at least for those with appreciable liquid assets. For those of you pursuing financial independence, having readily available funds to cover a deductible when necessary is not an issue. High premiums, while giving a (false) sense of security, erode many more of your dollars over the long-run. For more on that idea, here is some recommended reading.

Tax-Advantaged Bucked #3: Individual Retirement Accounts (IRA)

So you’ve saved enough to max out a 401(k) and HSA (or the like) with pre-tax dollars. You receive your paycheck, pay your bills, and maybe still have money left to spare. What next? You don’t want those funds to pile up in a largely useless checking or traditional savings account.

For most folks, the next bucket to fill is the Roth IRA. There are a variety of IRA’s out there, with different tax implications. I’ll keep it simple here and suggest that you first look into the Roth IRA.

In 2022, you can invest in a Roth IRA if:

• You earn less than $129,000 (individual)
• You earn less than $204,000 (married, filing jointly)

Contribution Limits:

• $6,000 per year if 49 and under.
• $7,000 per year if 50 and older.

For more details check this out.

A Roth IRA is funded by you after you get your paycheck. That means all dollars are post-tax, but funds are allowed to grow in the market tax-free. You can withdraw both contributions and gains tax- and penalty-free after five years. Contributions can be withdrawn tax- and penalty-free anytime, but it’s best to avoid withdrawal and instead allow all funds to grow in the market.

Investing Strategy: Funding an IRA

An IRA allows you to enter the wonderful world of Vanguard and dive headfirst into the funds we’ve described in Part 1, such as VTSAX. You are no longer limited to funds available under an employer plan — the world is your oyster in an IRA. Again, keep it simple. Invest in one to two broad-based index funds, set up a monthly contribution that suits your level of comfort, and enjoy the ride.

IRA accounts can also be funded with roll-over funds from a previous employer’s 401(k), which I’ve always done after leaving past employers. There are no income restrictions to fund an IRA in this manner.

High income earners cannot contribute to a Roth IRA, but there is a very legal option called the Backdoor Roth Conversion. This practice is owed an entire post, so I’ll link to a good one.

Bucket #4: Post-Tax Brokerage Accounts

If you’ve filled all the buckets described above, you can move to a post-tax brokerage account to invest your surplus dollars. The CC’s have a joint brokerage account largely used to fund our VTSAX, and to a much lesser degree, our VBTLX funds. There’s also the skeletons of our investing past still lurking around in there, with some of Mr. CC’s experiments in stock selection from the early days.

The only difference between a brokerage account and a Roth IRA is that funds do not grow tax-free in a brokerage account. If you are below the income limits described above, it’s best to max out a Roth IRA before funding a brokerage account.

Summary of the CC Family Investing Strategy

The CC Family investing strategy can be summarized as follows:

Asset Allocation

We hold 90-95% stocks and variable amounts of bonds and cash, dependent on market conditions. Generally we hold about 5% of our total savings each in cash and bonds at any given time.

Buckets

We max out both of our 401(k) accounts ($37,000 per year in 2018), Mr. CC maxes out an HSA Account ($3450 per year in 2018), and we invest the surplus into our joint Vanguard brokerage account. I’ve rolled over some former 401(k) plans into IRA’s with Vanguard.

Tax-Efficient Fund Placement

Tax-efficient stocks held in broad-based index funds are suitable for any bucket. Conventional wisdom says to hold less tax-efficient funds, such as bonds, in tax-advantaged accounts (i.e., retirement or Roth IRA accounts). However, as current yields are low, bond placement is more forgiving in any account.

We still prioritize holding bonds in our tax-advantaged accounts.

Funds

For 401(k) and HSA accounts (and the like), you are at the mercy of what is offered. Look for broad-based and low cost index funds, particularly anything that tracks the stock market as a whole or at least the S&P 500.

We recommend you avoid anything with “growth” or “high yield” in the name of the fund. These funds are likely to underperform the market as a whole over the long haul. For IRA or brokerage accounts, we recommend Vanguard and particularly recommend VTSAX (stocks) and VBTLX (bonds).

Investing Strategy: Bringing It All Together

I hesitated to write this post because I really wanted to avoid “nuts and bolts” discussions. I frankly find it boring and it’s difficult to be my snarky self when discussing our investing strategy. That being said, we want you folks to be able to take action. Putting out some of our personal details is hopefully helpful in taking that first step.

Step 1: Save More Money

Save more money, save more money. We’ll be talking plenty about ways to save and still enjoy life (even more than you do now). Increasing your savings rate is very sound advice for most people. Stop the flow of money out of your wallet and think less about today and more about tomorrow.

Step 2: Invest

Start at work and max out any accounts you have available. These are your 401(k) or similar accounts, and HSA’s if you have them available. If you have already done that or don’t have them available, open a Roth IRA with Vanguard (it’s free). Decide on an allocation model that suits your risk and psychology and start putting every free dollar you can towards these accounts. You can invest for tomorrow and lower your tax obligation today. We like to check in on things monthly, and we’ve been generally blown away with the progress.

Challenge the ways you think about money. Don’t model your financial decisions after the masses. In fact, don’t take comfort in comparing yourself to the common American for almost anything. The average American is broke, overweight and not passionate about anything except the TV.

Remember to put every dollar into perspective and question the value of every cent. Find something that drives you to be a better, stronger, more valuable person than you were yesterday. Lean in to discomfort. We firmly believe this life of simplicity, financial security, and passion for something (anything) makes for a better world than the consumerist, lazy culture that exists everywhere around us.

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Don’t you think so too? We’d love to hear if you’re getting anything out of these ramblings. Are you having any small victories? Did you pass on Starbucks today? Did you make your first investment? We want to hear about it!

Updated January 2022.