With the recent losses caused by the recession and the market downturn, you are dealing with a reduction in your savings and in some cases, disappearing advisers.  You probably feel that you could do a better job of investing or planning on your own than using a professional.   There are a large amount of useful information on the internet to help investors with the basics.  However, when you start looking at more sophisticated strategies or techniques, it would be best to consider Buddha’s wise advice regarding anything you read online and in print.

Believe nothing, no matter where you read it, or who said it, no matter if I have said it, unless it agrees with your own reason and your own common sense.

Buddha

The internet is a marvelous source of knowledge.  With millions of contributors and their vast experiences, as a Do It Yourself (DIY) investor, you have access to data that did not exist even five years ago.  However, there are good, bad and defective advice.  As a consumer, you need to always keep in mind the mantra of buyer beware, caveat emptor, and sift through the mixed bag for the correct information.

If you are not careful about researching, the consequences can be devastating for you and your entire family.  The losses can be catastrophic.

Thermonuclear-test-by-PierreJ

Here are five good habits to maintain when you are considering using other people’s advice:

1.   Question everything.

Don’t assume.  Kick the tires.  Look under the carriage.  Check the engines.  Look at the horse’s teeth; are there any cavities.  How’s the test drive?  Are you feeling the bumps.  Email the author and ask questions.  Be curious.   Why is this important?  Because an 400 or 800 word article is not going to give you the full picture.   It’s impossible.  All the author can do is give you a flavor and the idea so that you can continue exploring.  That is the real value of the internet: giving you ideas.

2.  Check the author.

Everyone is trying to establish themselves as experts.  Are they truly experts, is it opinions or did they plagiarize (steal) it from someone else.   Use your common sense.

• Does it make sense that a real estate agent can give you valid tax advice or that someone who was an unemployed construction worker give advance tax planning.  (Both bloggers with good basic advice.)

• Did someone steal the information and presented it as their own.  If so, did they at least give you the full scope?   Hundreds of thousands of business owners and investors trust the American Express Forum articles as reliable.  I did too and assumed that I could depend on the advice until I actually started reading some of the posts.   A recent article basically consisted of copy and paste quotes from other sources word for word.  Unfortunately, they only copied part of the original article and left out key information.  Even the original article left out critical data.

• I ran across a senior director at a local financial advisory firm who wanted to start a blog.  He focused on handling estate planning for wealthy clients with multi-million dollar estates.  Six months earlier, he was a dishwasher at a restaurant.   Before that his only work experience was as a part time waiter and failed to finish his college education.

• What is the author’s main motivation.  Is it an affiliate marketing site that is trying to sell you something.

3. Check multiple sources.

Use multiple search engines to uncover different sources and viewpoints.  Bing tends to favor sites that have a long history.   Google likes ones that has lots of links and load quickly.   I have no idea what the criteria are for Yahoo but I use it too.  There are also more obscure search engines out there such as Dogpile and Cuil.

4.  Check with a real live professional.

See if you can find a real human being to answer your questions.  Look for someone who knows the topic well.  For example, if you are thinking about buying gold, call a commodities company and see if someone would give you five minutes to tell you the options and vet the article that you were using.  A true expert can scan an article or listen to the question and tell you whether it’s bogus or not in seconds and why.

When I said live professional, I don’t mean your husband, your brother, your father or your uncle.   I am mentioning this because I have run across many women who go to male relatives to get the final decision.  If you want a second opinion, ask another professional in the same industry.

5.  Check with the IRS.gov site for anything to do with taxes and retirement.

If there is anything remotely involved with taxes and retirement accounts of any types, go to the source, the Internal Revenue Service (IRS).   Their main site is IRS.GOV.   You can also check out TAX.GOV but beware that the information may be obsolete for some sections.   Some government sites are slow at updating.   Use the actual IRS codes publications to do your verification.

It takes only a tiny mistake to completely destroy your entire life’s savings.  I am not exaggerating.  Spend the few extra minutes to research before you throw away 20-30 years of savings.

If there is any discrepancy between what you see on the IRS site and the advice that you are getting, go with the IRS.  My bet is on them in any tax court.   There will be attorneys, CPAs, financial advisers, and internet experts who tell you that they know more than the IRS.   No they don’t.  The IRS wrote the codes, interpreted them and collected taxes based on those codes.  Life is too short for you to waste by arguing that A is actually H with a government agency that has over 100,000 employees at its disposal.

CASE STUDY

American Express Open Forum recent article:  Are You Looking for Loans in the Wrong Places.  Written by a franchise broker.

The article cut and pasted quotes from multiple articles and basically gave you two options:  Borrow from your relatives or use your 401K to fund your business.   The main bulk of the quote was from a 2009 MSN Money article.  The author of that MSN article was a former taxation professor who wrote multiple books on how not to pay taxes.

The concept is very alluring.  If you really believe in your business idea, why not use your retirement money to fund it.  It could not have done worse than the stock market during the downturn.   In fact, when I searched the web, there are multiple articles touting this as a valid strategy with only the caveat to use an attorney and CPA to help you set it up.

One article even quoted an entrepreneur choosing to do this based on what he read in an airplane’s magazine.  You had trusted sources from the Wall Street Journal, Entrepreneur.com, to Ehow.  A consulting firm specializing in this strategy listed the Small Business Administration SCORE Division as an endorser and partner of their company.

I was intrigued by the title of the post and read it because there are always new things to learn.  However, as soon as I got to the part about using your 401K, I was horrified because I knew that it was a incorrect idea to give out to anyone and the most important information was not stated there, in the original article and not in any of the others that I had scanned.

All of these reputable sources were not trying to hurt someone by providing defective information.  They used experts and depended on their experts’ experiences.   If you just did step #1-3 and then executed the recommended strategy, you could be looking at a massive tax bill.   Even step #4 is not a guarantee because obviously, there are accountants and attorneys out there who told these experts that it was a valid strategy and they make money from consulting for that strategy.   If your CPA or lawyer didn’t know the IRS Code or didn’t make the extra effort to check, you would be in trouble still.

In fact, what if it was your CPA who read the article and then told all his unemployed clients about this “marvelous” strategy.  If your CPA tells you about this, would you question his advice?  Thousands of people could be exposed from one person’s surfing the internet.    That’s how I first found the article, it was tweeted to me and I opened it out of idle curiosity.   I’ve known about this technique for years and have never recommended it.  I do make people aware of it and why I didn’t approve so they can form their own opinion.

What these experts neglected to mention is that the IRS does not allow you to use your 401K to benefit yourself or your family (family is defined very broadly as ancestor and lineal descendants according the IRS).  This simple fact would have stopped 99% of entrepreneurs.  I will post an article explaining how the 401K can actually be used to capitalize a company in the future.  To be safe, get a specific private letter ruling from the IRS just for your company.

The main takeaway for any aspiring business owner is that you must give up control and ownership of everything.   You cannot manage the 401K, you cannot own most of the company, you cannot run the company, and the list goes on.

Let’s say your 401K is $300,000 and you decided to use the money to buy a franchise as recommended in the American Express article.  You follow everyone’s instructions and then the IRS popped in for a visit.  You now just found out that you have a prohibited transaction.  Any of the following facts would have disqualified you:   you own the business 100%, you run the business operations, and you are the plan sponsor for the 401K.

The penalty for doing this strategy is:

• loss of your 401K tax deferred status.  You no longer have a 401K.  It is now considered as fully distributed.  The IRS might be merciful and allow you to keep the portion that has not been fully used and inside the 401K to continue tax deferred.
• full income tax (currently max at 39%) on the amount used or the full 401K value.  Again, the IRS will decide.
• 10% penalty if you’re under 59 1/2.
• For a special kicker, “the initial tax on a prohibited transaction is 15% of the amount involved for each year (or part of a year) in the taxable period.  If the transaction is not corrected within the taxable period, an additional tax of 100% of the amount involved is imposed.”

So if you add all this up, the tax bill can be over 100% of your entire 401K account value.

Now that you have this extra information, how comfortable do you feel about those articles and sources?

There are a lot of errors in what you read, both unintentional and intentional.  When it comes to your money, you can’t afford the risk of blind trust.  Can you afford to lose $400,000 or even $50,000?   Make the same efforts on research as you would in planning for a vacation.  Most people actually spend more time doing that than managing their money.   You worked hard for your money.  Don’t let a small mistake destroy your retirement.

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photo credit: Pierre J

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